Eye on Obamerica: Volcker Kept on the Bench

The media this morning reported that Paul Volcker, former Governor of the Federal Reserve, is being kept at a distance from important economic decisions and meetings by Larry Summers, the Director of the National Economic Council. While we can’t verify these reports, the fact is, Volcker has only attended one White House meeting in his role as leader of the Economic Recovery Advisory Board. To the extent that these reports are accurate, we view this as a real negative in terms of the open mindedness and effectiveness of the Obama economic team.

On September 27th we sent a note to our clients entitled, “Eye on Leadership: Volcker as Bailout Czar.” In that note we made the case that the 6’7 foot Volcker should be appointed as the Bailout Czar. Our summary view on Volcker was as follows:

“As we have said repeatedly, facts don’t lie, people do. And the facts in regard to Volcker’s ability to manage through a prior fiscal crisis with integrity and against popular opinion speak for themselves. Volcker is rightfully credited with ending the United States’ stagflation crisis of the 1970s. Chairman Volcker abandoned interest rate targeting and adopted policy to limit the growth of the money supply. His policies led to a sharp recession and were widely unpopular, but inflation which peaked at 13.5% in 1981 was 3.2% by 1983. Volcker was decisive, unpopular, but ultimately more right than any economic leader has ever been.”

Bush and Company did not tap Volcker for the position of Bailout Czar as we recommended, but President Obama did wisely bring in Volcker to head the Economic Recovery Advisory Board, noted above, whose goal is to provide outside and unbiased advice to the White House on this economic recovery plan.

Having one of the most successful and knowledgeable successful central bankers providing input and advice can only help President Obama and his economic team; not accepting his input will likely detract from any policy recommendations. Additionally, to the extent that these reports are accurate, they, on the margin, call into question the President’s ability to keep egos in check within his White House, specifically in the way of Larry Summers. We hope Summers et al will fully engage Volcker in the coming months and that President Obama will realize the value of Volcker’s experience.

EYE ON THE UK: BOE’s Road To Zero

The Bank of England cut its benchmark interest rate 50bps today to 1%, as Governor King attempts to transition the UK out of recession. The cut, taking the rate to the lowest since the central bank was founded in 1694, was not reciprocated by Trichet and the ECB, who opted to maintain their benchmark at 2% when it met today.

The UK economy is mired in a multifaceted mess with no relief in sight: credit conditions have continued to tighten despite the bank restructures and nationalization recaps; housing prices continue to collapse —we last reported that January data released by Hometrack registered a decline of -9.4% year-over-year for the average cost of a home in England and Wales; and unemployment is at its highest level in January at 6.1%.

On the balance this cut might help combined with Prime Minister Brown’s £20 Billion package of tax cuts. If the Pound can decline against the Euro (see chart) and Dollar, this could be a short term catalyst for exports (see Korea’s recent uptick in some industries) –provided that corporate Britain can make good on the opportunity. That said, this cut does seem like too little, too late.

We’re currently short the UK via the EWU etf.

Matthew Hedrick

Is The Nasty, Good?

I will not mince words - this week’s 626,000 new jobless claims was a nasty number. This report is up significantly from a revised 591,000 for last week and 44,000 above the 4 week moving average.

In a perverse way, this is going to ultimately end up as a positive for the US stock market. At this stage, I think the US market needs nasty and socialistic data in order to break the buck. If we break the buck, short sellers get squeezed, and the US market continues to make higher lows versus November’s.

Breaking the buck will also, in a Darwinian way, force terrible management teams in corporate America to face the You Tubes of being the guys that fired their people right before export demand accelerates. That type of reactive management stands in stark contrast to our views of proactively managing risk. Those execs who built capacity at the economic cycles top, and bought back stock to pander to their momentum investor wants, behaved, as our President put it, “shamefully.”

The only way to right size this sinking ship of public equity market cap is to let the liquid long American Capitalist of the New Reality start eating into these reactive corporate management team’s cakes.

That’s change I can believe in.

Keith R. McCullough
CEO / Chief Investment Officer

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EYE ON ROMANIA: When You Can’t Cut

Banca Nationala a Romaniei announced a 25 basis point cut for the monetary policy rate yesterday, lowering Romania’s benchmark rate to 10%, the first such cut since June 2007.

We believe the diminutive size of this cut in the face of massive decline in asset valuation reflects extreme currency fears; a very significant percentage of total Romanian consumption is Euro denominated. The ugly balance between supporting the Leu and sustaining growth has left Romania’ leaders in a potentially untenable position if external demand does not rebound in the coming months.

Romania is one of the many countries we’re following in Eastern Europe. It lit up our screens last year with a GDP of 9.1% in 3Q ’08, the highest GDP growth rate in Europe (east or west), yet the chart below confirms that Romania, like the rest of Europe, has experienced severe contraction. The BET is already down -29.7% from its high this year on 1/06, and closed down -3.26% today while the Leu is off 15% against the Euro and 26% against the dollar for the trailing 12 month period.

The government predicts GDP growth at 2.5% this year. The announcement of this rate cut by central bankers stated that they will actively target inflation between 2.5-4.5% this year, and will be releasing a 12-month calendar for upcoming rate decision meetings later this week.

Stock markets are leading indicators. Clearly, Mr. Market is telling us there is no way Romania prints the GDP number they officially “expect.”

Matthew Hedrick


I still expect WYNN’s quarter to look ugly and numbers to come down. However, WYNN’s stock is down 38% year-to-date and there are a couple of catalysts. Not necessarily long catalysts, but catalysts to potentially halt this precipitous stock decline.

As WYNN indicated on Tuesday’s pre-announcement conference call to announce they weren’t pre-announcing earnings yet, the company has some cost levers to pull. Management identified $75-100 million in labor cost savings. Second, the high margin Mass Market business is actually growing, albeit slowly in Macau, and Wynn Macau has, temporarily at least, reversed its recent market share erosion. January is only one month but the Mass Market has held up well despite the tighter visa restrictions.

Wynn Macau is tracking below our estimate for RC revenue in Q1 but above for MM. This is a decent trade off since MM is much higher margin. See today’s post “MACAU: JAN COULD’VE BEEN WORSE” for a more detailed analysis of Macau’s recent performance.

WYNN’s balance sheet is pristine which is highly unusual in this industry. PENN is the only other gaming operator with sub 3x leverage. The longer term outlook for Macau remains favorable, particularly if Beijing loosens visa restrictions ahead of the new Macau Chief Executive taking over later this year, as we expect.

We realize this isn’t exactly a bull thesis on the stock but it’s not a bearish one any more either.


"Not everything that is faced can be changed. But nothing can be changed until it is faced."
~ James Baldwin
Clearly, after yesterday’s big intraday US stock market reversal, we are not out of the woods yet - and we effectively won’t be until we can put the US Financials rumor mill on the back burner. To do that, we need to let some of these financially geared companies go away. We’re socializing the losses of our financial system anyway, so rather than behaving completely like the Japanese government, let’s just get on with it and let some of these banks go to zero.
The media is picking up on a story that speaks to this very point. It turns out that the old battle axe of getting unpopular things done, Paul Volcker, is already butting heads with the bailout bureaucrat, Larry Summers. Anyone who has read the respective histories of these two gentlemen will not be surprised by this. Volcker is a doer and Summers is a Rubinite.
What’s a Rubinite? Someone who comes from the Robert Rubin school of Goldman Sachs gone public. Goldman, when it was a partnership, was one of the greatest success stories that this country will ever see. Goldman, as a public company, is a training ground for leverage traders and politicians.
I agree with Jeremy Grantham’s recent assessment that “Rubin is the guy who was last seen exhorting Citibank to take more leverage and keep swinging … he was part of the establishment that failed to express early, loud concerns over slipping financial standards, and in fact helped create an environment where prudence was a career risk and CEOs felt obliged to keep dancing.”
The reality is that Summers, much like Hank Paulson, is a Rubinite. Tim Geithner is a Summers man, and so is the new head of the CFTC (actually Gary Gensler was appointed into Treasury by Robert Rubin). Follow the bouncing ball folks… it has finally rolled up to the big cigar smoking Volcker’s feet – and he doesn’t like the smell of it.
Does our financial system have a Crisis in Credibility? You bet your Madoff it does – yesterday’s intraday 200 basis point selloff in the SP500 probably had as much to do with Harry Markopolos’ Madoff testimony as it did the rumor that Bank of America is going to be nationalized. Markets are functions of confidence. They don’t go up, sustainably, when there is no trust. Trust is earned, not appointed. Trust takes forever to build and a minute to lose.
Obama, unfortunately, has already appointed two politicians (Geithner and Daschle) who violated America’s trust. Whether it is not paying their taxes or hobnobbing with the Rubinites, this is American Idol season, and America has voted – she doesn’t like what she sees, and she shouldn’t. Obama’s promise was one of hope – hope that things will change. The New Reality is that “nothing can be changed until it is faced.” President Obama, “C’mon Man”, enough with the knucks and the hoops, you need to seriously get it together, and fast.
Insiders on Obama’s political team are already blowing with the political wind. The man’s big smile has lost him 9 full percentage points in approval ratings in the last few weeks. Not everything Democrat is Obama. But Obama now stands for the new Democrat majority. If accountability is what Obama wants, and that’s exactly what Americans are giving him.
Does this charged political environment matter to stocks? You tell me. Some “smart” people in this business used to tell me “there is no edge in macro” – now that’s all those people want to trade on… As this increasingly interconnected marketplace of global economic and geopolitical factors changes, we need to continuously ask ourselves why we aren’t changing our positioning alongside it.
Any objective global macro investment process will reveal at least as many negatives right now as there are positives. Importantly, that statement has an implied positive embedded within it. Six and twelve months ago, there were far many more negatives than there were positives, with the most glaring being a breakdown of the global credit mechanism. Now that’s changed.
Alongside the global rate cutting and stimulus party, we have seen the TED Spread (3mth LIBOR minus 3mth Treasuries) narrow by almost 400 basis points since the October Liquidity Crisis. This morning the TED Spread is only 95 basis points wide. Alongside this, we are seeing a continued steepening of the US Yield Curve. The spread between 10 and 2-year Treasury yields has widened to almost 200 basis points. If you are hostage to using leverage to run your business, this is very bad. If you are a liquid long capitalist looking to borrow short, and lend long, this is very good.
The SP500 is trading in a very tight range, and that, combined with a Volatility Index (VIX) that has been cut in half since October are also becoming positive macro factors. US market volume is beginning to accelerate on the market’s up moves (as opposed to the down ones), and the market’s breadth is recovering.
These positives are offset by a host of negatives that the guys trying to sell books (Roubini, Schiff, etc…) will remind you of – the bear case went prime time with the SP500 10% lower, so I won’t repeat consensus or my bearish call from last year. The most negative factor that remains as a headwind for the US stock market is the US Dollar. If we don’t break the buck, the stock market won’t be breaking out to the upside anytime soon.
My line in the sand for the US Dollar Index is 84.38. Breaking down below that line combined with an SP500 breakout and close through 864 is going to have every Depressionista in the league feel shame on the short side. In the meantime, you can buy/cover SP500 support of 811 understanding that "not everything that is faced can be changed. But nothing can be changed until it is faced.”
Best of luck out there today.

Roubinites - etfs020509

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