In “THE INDUSTRY THANKS YOU, MR.ENSIGN” (01/13/09), we highlighted the benefits that highly levered gaming companies may see coming their way as a result of a piece of legislation proposed by Nevada’s own Senator John Ensign. Ensign’s Senate Bill would have eliminated the negative tax ramifications of buying back discounted bonds. Unfortunately, SB33, due to a lack of sway on the part of the Republican Senator proposing it, has little chance of passing.

While not quite as attractive, a provision allowing companies to spread the tax bite of discounted buybacks over eight years is included in the stimulus package currently being wrangled in Congress. When all is said and done, it’s possible that some or all of the tax on bond buyback gains could be eliminated altogether. This provision would provide significant incentive for heavily leveraged companies to buy back their bonds. For example, a company buying back bonds at 60 cents on the dollar would de-lever by about 26 cents (40 cents less the tax bite). If the provision is in place, the company could defer that 14 cent tax.

This provision is almost written for the gaming sector. BYD, MGM, ISLE, and PNK all face potential leverage covenant breaches, but have ample liquidity to buy back discounted bonds. Less taxes = more de-levering.

Rory Green
Junior Analyst

Eye On Australia: Is Hope All That Remains?

At a 45 year low with more room to go, will it be enough?

As forecast by most, the Reserve Bank of Australia lowered its benchmark cash rate by 100 basis points today. At 3.25%, Aussi rates are at a 45 year low, and now they can only hope that easing credit combined with the governments $27 Billion ($42B AUS) stimulus package will provide a cushion down under. The ASX 200 rose +0.35% on the news .

For Glenn Stevens the game plan will now shift to “wait & see” as the next step in recovery is largely out of their hands. Although at this stage the RBA still has room to cut, the only prospects for sustaining growth at levels seen over recent years rest on a rebound in external demand for base metals and energy & agricultural commodities. In effect, the rate cuts and stimulus package in Australia, at best, may help keep the country on a relatively even footing while it waits for Beijing’s stimulus package to kick in.

We will keep our eye on Australia and the EWA etf. While we admire Governor Stevens for the resolve he showed during the bubble period, for now we are not involved in Australian equities. We will be watching for signals that are beyond his control.

Andrew Barber

Daschle Withdrawl: What's The Macro Call?

From our Healthcare Sector Head, Tom Tobin:

"This is positive for healthcare. Delay to name a successor when timing is everything in getting major Heathcare Reform done. Also negative for the dollar as entitlement spending remains a long term budget risk."

KM Macro Read Across:

1. Healthcare (XLV) is now +1.7% on the day - we are long that ETF.
2. US Dollar (UUP) remains weak today - we are short that ETF.
3. US Dollar weakness augurs positively for US stocks in the immediate term.

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Ruble Rubble

Russia’s currency shows signs today of stabilization after a week of consecutive drops and a pledge by Bank Rossii Chairman Sergey Ignatiev on January 22 to insure that the Ruble stays within its 41 target level versus a Dollar/Euro basket.

We’ve been following the Ruble’s slide in our playbooks as the slump in oil prices over the past six months has weakened Russia’s energy economy. In trading yesterday the Ruble touched its lowest level against the Dollar at $36.3550, just short of the critical 36.45 per Dollar level to break through its band versus the Dollar/Euro basket.

Russian foreign-currency reserves, the world’s third largest, currently stand at $386.5 Billion from a July high of $462.7Billion, a decline of -16.8%, as the central bank attempts to offset the Ruble’s slide. The question remains: will these measures be enough to right the Russian ship, and equally, what degree of tail risk could be associated with Putin’s attempt at a “gradual and careful” devaluation over the last weeks?

Already the numbers look atrocious: the Russian stock market is down -79.4% from its high on 5/21 last year and down -15.3% YTD. The Ruble has lost -56.2% versus the USD since its low on 7/15/08. Just last week the IMF forecasted Russian GDP at -0.7% for 2009, which we think is too aggressive an estimate.

In this recessed environment a weaker Ruble will encourage exports yet will increase the cost of imports and aggravate domestic inflation. Further, a weaker currency and an unstable market encourages investors to flee to safer investment havens, which has already begun, with withdrawals equaling ~$290 Billion leaving the country already.

Should oil hold around the $40 range, we expect Russia to run a much larger deficit than the IMF prediction. The Ruble’s low against the Dollar and Euro begs the question if Russia will be able to maintain the trading band as the governments hopes for an oil reflation trade. If you’ve read our work hope is not a valid investment process.

Matthew Hedrick

Eye On US Housing: Better Than Toxic is Good


The Pending Home Sales Index is a leading indicator for the housing sector, based on pending sales of existing homes. The Pending Home Sales Index, rose 6.3% to 87.7 in December from an upwardly revised reading of 82.5 in November, and is 2.1% higher than December 2007 when it was 85.9.

The improvement in the index is spurred by buyers responding to lower home prices and lower mortgage interest rates. According to the NAR, “The biggest gains were in areas with the biggest improvements in affordability.” While the housing market is still facing significant issues, on the margin, this is good news for our “MEGA” investment thesis on the US Consumer. The US Consumer Discretionary sector etf (XLY) is leading the market higher today, trading +1.5%, partly as a function of this data point.

At the center of the housing crisis is the decline in home values and the consumer’s ability to stay in his or her home. In the coming weeks, we will hear from President Obama that he is seeking to stem the record surge of foreclosures (the biggest contributor to the decline in home prices) by using government guarantees for modified home loans.

The US housing market is still extremely challenging, but significantly lower prices, lower interest rates and government guarantees will help put a bottom in the US housing crisis. Remember, everything that matters in our macro models occurs on the margin – going from toxic to bad, in this case, is good.

Howard W. Penney
Managing Director

Eye On Re-Regulation: Hedge Fund Update...

For whatever reason, I missed posting on this last week, but this data point has not hit the mainstream media, yet...

At the end of last week, Senators Grassley (R-IA) and Levin (D-MI) introduced “The Hedge Fund Transparency Act”...

This is what it is - it's all part of an investment theme that we have long held which is simply that all that is not well in American finance will end in regulation and litigation.

Congress has already summoned the bankers who have TARP moneys to appear in Washington next week. Asset managers will definitely have their turn on the hill. This cleansing of our economic system will take time. Look for the principles of Transparency and Accountability to become ring tones at America’s kitchen table.

Keith R. McCullough
CEO / Chief Investment Officer

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