Today’s GDP contraction data was expected. The 6.8% figure for Q4 was in line with median estimates, but it was still disappointing for the glass half full crowd who were hoping for just a little bit more and have run for the exits -sending FXI, which we are long, down over 5%. We do not use hope as part of our process and we are retaining our long bias.

As we all know, the Q4 meltdown spurred a sharp contraction in trade globally and regardless of relative strength China could not avoid the pain, even if they are better off than many of their neighbors (Korea for instance, which we are short via the EWY ETF, printed numbers showing a 5.6% contraction in GDP and an 11.9% contraction in exports). We knew the backdrop for all of this was in the cards, but that is looking in the rear view mirror. In the here and now, a 4 trillion Yuan spending package is just starting to trickle through the system and the five cuts in the key lending rate, initiated in Sept. are just starting to nudge the Dragon.

It is critical to remind ourselves that China is still a communist nation –as such the party leaders are very aware that they must stem job losses and rescue symbolic industries in order to sustain the minimal rate of economic growth assumed to prevent internal social problems. Critics of some of our work on China often point out, correctly, that there is a good deal of “massaging” in reported Chinese economic data -but you can’t fool your hungry people with fake data (something that Christina Kirchner is discovering too late in Argentina).

These leaders don’t run for election, they don’t need to build consensus and they don’t have to apologize for bending rules. To achieve the growth levels they need, the Chinese government will use ANY and ALL tools at their disposal -including shrugging off any protests by team Obama over currency manipulation no matter how loud.

We are Watching China and its derivative economies closely and as always will be looking to change our exposure as data points present themselves.

Andrew Barber


From IGT’s conference call:

Analyst question: Why were domestic product sales better than I expected?
My answer: Because you don’t do the work.

Industry unit sales were up around 40% in the December quarter based on our exhaustively detailed schedule of new casinos and expansions. Clearly, the sell side doesn’t maintain this incredibly useful database.

All the slot guys will have a strong December quarter in terms of slot sales. I was actually very happy to hear this question because if the analysts didn’t know that Q4 slot sales were going to be good, then they certainly don’t know that 1H CY2009 slot sales will be awful. We project industry unit sales to new and expanded casinos to fall 40% and 70% in FQ1 and FQ2 2009, respectively.

Yeah but replacement demand is facing an easy comp from 2008 so that will pick up some of the slack, right? Wrong. IGT’s CEO, TJ Mathews, clearly stated that industry replacement demand will be lower in 2009 than 2008 due to capex cutbacks by the operators.

So with these industry dynamics, how does WMS meet the 10% revenue growth projections? More market share gains? WMS market share would have to almost double from its recent 15-20% to make the consensus revenue projections for 1H CY2009. WMS market share has actually trended lower the last 2 quarters. How about gaming operations? Slot play is trending lower, not higher, due to the economy. I wouldn’t bet on gaming ops beating consensus expectations.

IGT’s quarter essentially confirmed our thesis that slot sales, while strong in Q4 CY2008, will be down considerably in 1H CY2009. This is not good for WMS.

How does WMS grow revs 10% in 1H CY2009 in this environment?
What have you done for me lately?


European industrial orders declined by 26.2% in November on the year and -4.5% on the month, signaling another massively negative data nail in the Euro zone coffin. This was the largest single month drop since the Euro was introduced a decade ago.

On a relative basis there was plenty of pain to go around with orders declining for Germany, France and Italy by 29.3%, 27.7% and 27.2% respectively.

The sector hardest hit was transport equipment (including ships and railways) which fell 46% Y/Y -a quick look at the Baltic Dry Index will make it very clear that new ship orders will not be staging a comeback anytime soon. Orders for metals and machinery dropped 28% and 24% Y/Y respectively.

The EU officially expects the economy of the 16 nations that use the euro to shrink 1.9% this year. With European economic confidence at a record low and services and manufacturing activity contracting for a seventh month in December, this data point suggests that might be wishful thinking.

We will keep our eye on the Eurozone economies looking for trading opportunities (we are short the UK via the EWU ETF currently, but that is a different, and even worse, story altogether).

Matt Hedrick

Andrew Barber

Early Look

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Relied upon by big institutional and individual investors across the world, this granular morning newsletter distills the latest and most vital market developments and insures that you are always in the know.

US Employment: Nasty Data Point, On The Margin

Initial jobless claims came in at 589,000 this morning (up from 527K in the prior week - an upwards revision from 524k) and almost 7k higher that the 4 week moving average of 519,250. Everything that matters in our macro models happens on the margin and, on the margin, this is bad.

Looking at the chart below, this data point puts the thesis of making lower highs in US weekly claims under assault, for now… next week we’ll get the river card.

In between now and then, I expect the SP500 to give the Bear camp the benefit of the doubt. I have downside support for the SP500 at 799 (5% lower than yesterday’s close.)

Keith R. McCullough
CEO & Chief Investment Officer


Key takeaways from IGT’s FQ1 (2 positives/2 negatives):

1. I calculate operating EPS of $0.22 which is below the Street at $0.26
2. Margins were well below expectations but looks like a “kitchen sink” quarter
3. Domestic unit sales were in-line but pricing was strong
4. Play levels on revenue sharing games was surprisingly high
5. International sales were awful

Management will likely lower guidance on the call at 9am. That is certainly the consensus view. Our view on 1H CY 2009 industry slot sales is very negative. At least for IGT, since most analysts are negative, projections, while high, are not that far off.

If were IGT I would have done the same thing this quarter. Take the charges, sacrifice near-term margins, and lower expectations. Management appears to be setting the stage for better future results. The stock is deathly cheap. Confidence needs to be restored for IGT to work. This quarter may be the first step in that process. When it does, IGT will move and move fast. Keep an eye on this one.

Patient Silence

Patient Silence - asset allocation012209

“Silence is a true friend who never betrays”

As was so often the case, Confucius boiled things down to the deep simplicity associated with making sense of this world. At the end of the day, that is the basis for chaos theory – when you have multi-factor models colliding within a dynamic system, simple patterns govern outputs. That’s most certainly an investment thought that I have applied to my global macro model over the course of the years. Sometimes waiting in silence is the best decision you can make.

Unfortunately, for me at least, I have to make some level of noise with this Early Look note, every day. As I was driving up to Boston last night, reflecting upon the short squeeze rally that perpetuated itself into an up +4.4% day for the SP500, I couldn’t stop thinking about how the Street’s narrative would shift from the prior day’s swoon.

The reality is that the rally wasn’t about Obama – it was about the US Financials having a +15% day. Yes, they were up less than they were down the day prior. Yes, at -27% for the year to date, they have still crashed in 2009. But this reminds the Depressionistas out there that bear market bounces can quite often be more powerful than those in bull markets. Our models must always respect that every ticker has both timing and price to consider. Buy low, sell high.

Tim Geithner’s hearing yesterday reminds us that the US Financial system has already been politicized. This is not new, but never underestimate the impact of socialist policy on a capitalist’s mental model. Nationalization and Socialization are bad – by late 1935, the US stock market started to figure this out, and the FDR love-fest ended badly. America crashed again, and you all know the rest of the story…

When we reference FDR, we are referencing a political climate – that’s it. In a situation like the US finds herself today, the only factor that remains is effectively hope. While hope is what we all aspire our children to embody, it is not an investment process. That, of course, does not mean it governs the emotions and minds of many market participants. That, fully loaded, is the only other explanation that I can give you as to why the US Financials can crash -17% one day and recover +16% on the next. Everything has a time and a price. Waiting in silence, is not a process that the market as a whole tends to abide by.

China’s silence in releasing their economic statistics for Q4 has finally ended. Did the numbers rollover sequentially? You bet your Madoff they did! Does anyone legitimately think that the -70% peak to trough decline in the Chinese stock market wasn’t discounting some level of a slowdown? Hopefully not… but again, that doesn’t mean people don’t hope to believe whatever it is that they need to.

China’s GDP for Q4 came in at +6.8% year over year growth, which is down significantly from the double digit growth rate that the bearers of the “I love Chindia” 2007 thesis levered themselves up long with. This was the worst quarterly print in 7 years and implies that China’s GDP ended up being 9% in 2008. Why wasn’t it 8.9 or 9.1 percent? Well, it’s because the Chinese make up numbers, a lot like some Americans did. Get over it.

So why was the Chinese stock market up another +1% on this “news”? If the apocalypse cometh, at 2,004 why is the Shanghai Stock Exchange +10% since December 31st?  These are simple questions, with a simple answer. Stock markets are stealth leading indicators of future events, not trailing ones.

China could conceivably accelerate GDP growth sequentially in Q4. I don’t have to make that call yet – their stock market is doing it for me. No, not everything Asia is China, so don’t straight line that bullish thought across the expanse of the economic region. I am still amazed when I drive into work that the US media says “Asia was up or down XXX” and all they are referencing is what the Nikkei did in Japan. Hello, McFly – watching Japan and not China in 2009 is the equivalent of the horse and buggy whip operators of Britain’s last great century not paying attention to that emerging economic situation called the United States of America.

So far in 2009, I have been short Korea, India, and Japan against my 6% allocation to China (see our Asset Allocation Model at Being short Japan has been a thesis I have been aggravating the “value buyer” of Japan with for a year, so I won’t rehash that or the India part of “Chindia” – that joke is getting stale.

In sharp contrast to China, where 2009 GDP will outpace year over year inflation growth, both Korea and India are going to likely see inflation outrun their GDP growth rates in 2009. That’s an economic cocktail that even the bravest of bailout socialistas won’t be able to swallow. The Korean Development Institute said this morning that they think Korean exports are running down something on the order of -30% in the first 20 days of the month. That’s bad!

The nationalization of a capitalistic systems is bad too – but that doesn’t mean they can’t bounce. Ireland, which move to nationalize banks and saw their stock market lose -20% in less than 10 days as a result, is trading up +4.7% overseas this morning for example. Everything has a time and a price. So do patience and silence.

I have taken my US Cash position up to 65%. On balance, that’s definitely not a bullish signal. For the immediate term “Trade”, I see -5% downside to the SP500’s closing price of 840, and +2% up.

Best of luck out there today.

Patient Silence - etfs012209

Daily Trading Ranges

20 Proprietary Risk Ranges

Daily Trading Ranges is designed to help you understand where you’re buying and selling within the risk range and help you make better sales at the top end of the range and purchases at the low end.