“When you get to the end of your rope, tie a knot and hang on.”

-Franklin D. Roosevelt


Much ado has been made about the Fiscal Cliff in recent weeks and rightfully so. As we outlined in the Keynesian Cliff section of our 4Q12 Macro Themes presentation, it’s only the biggest fiscal retrenchment in US history; the latest report from the CBO suggests a complete plunge over the cliff would have an estimated impact of $503 billion and $684 billion in FY13 and FY14, respectively.


Moving along, the aforementioned “plunge” comes at a time where underlying real GDP growth has crept to a near stall speed, slowing to an adjusted +0.9-1.3% QoQ SAAR rate in 3Q12, as we detailed in our 10/26 note titled: “BREAKING DOWN THE US GDP REPORT: THE ODDS OF A RECESSION JUST INCREASED”.


Needless to say, going over the cliff – proverbial or actual – could actually tilt the US economy into recession into and through the event, joining what are highly likely to be confirmed recessions in the European Union (confirmation pending the 3Q GROWTH data) and Japan (confirmation pending the 4Q GROWTH data).


While it may be trivial to suggest that having three of the world’s four largest economies mired in recession at the same time is not a bullish catalyst, we’ll gladly do so at this time. Someone has to take ownership of flagging Global Macro risks before they happen.


This we know: corporate management teams and sell-side analysts will almost-universally blame any negative guidance and/or estimate revisions on the Fiscal Cliff in the coming weeks. Even if we don’t actually traverse the cliff in the US, the sell-side will simply find some other “exogenous” catalyst for everyone to attribute further bottom-up weakness to. They’ll have to; the latest survey data suggests hedge funds are still very exposed to the long side of equities.


For now at least, few beyond the Hedgeye Macro client base will point to mean reversion within asymmetrically stretched corporate profit margins, broad-based corporate cost cutting and/or the continued popping of Bubble #3 (commodities and mining CapEx) as the likely culprits.


Keynesian Cliff Update

It’s worth stressing that the US, Japan and China are each dealing with some version of their own Keynesian Cliff, as each country’s government debt-fueled GROWTH model faces political headwinds to varying degrees.


Below, we summarize where each country is in its respective process (email us if you’d like to engage in a deeper discussion regarding anything you see below):

  • US: This has morphed into nothing short of a Manic Media gong show despite the event just getting kicked off post last Tuesday’s election. The news flow in recent days has centered on the willingness to compromise on tax reform emanating from both President Obama and House Speaker John Boehner. Specifically, there seems to be a newfound willingness to extend the Bush-era tax cuts for the wealthy in exchange for “broadening the base” by tightening up loopholes and deductions. Outspoken fringe parties within both camps continue to be polarized on possible solutions, with unions largely in support of Obama playing “hardball” and not caving in to Republican demands and Senate Budget Committee chairwoman Patty Murray saying that the Democrats would agree to go over the cliff before agreeing on an unfair deal. Senate Minority Leader Mitch McConnell was recently out reaffirming the GOP mandate to “not raise taxes” and his lack of trust in the Obama administration, while some 60-80 Republican representatives have allegedly told Boehner that they would not support him on any backdoor deal struck with the White House without their consent.
  • Japan: In recent weeks, Japan’s Finance Minister Koriki Jojima has repeatedly reminded investors that the Japanese sovereign will run out of money in late NOV, rendering it unable to pay its bills without the ability to issue more debt – an ability that had been previously delayed by partisan protest of the FY12 deficit financing bill. This morning, we received some directionally positive news on this front as Japan’s two main political opposition parties (the LDP and New Komeito Party) agreed to approve the deficit financing legislation in exchange for the ruling DPJ agreeing to call snap elections by late DEC or early JAN – after the previous impasse slowed public expenditures enough to begin causing increasing disruptions in funding at the regional and local levels. It’s worth noting that Japan’s Real GDP GROWTH slowed in 3Q to -3.5% QoQ SAAR from 0.3% in 2Qwithout public consumption being a net drag on the economy in the quarter! Any further delays to ratifying the legislation would surely have equated to Japan reporting its second recession in the last two years when the 4Q12 GROWTH figures are published. It still might.
  • China: We continue to think the Chinese economy is in the later stages of a bottoming process, with GROWTH slowing for the better part of the last three years to levels more consistent with the revised political objectives of those atop the Chinese Communist Party leadership. Over the past ten years, China’s investment-fueled GROWTH model – a model perpetuated by GDP targets at the State, provincial and municipal levels – has accounted for 23.6% of global real GDP growth vs. only 9.8% in the ten years preceding the Hu-Wen administration. Heightening concerns about macroeconomic sustainability and general asset quality throughout the purposefully-repressed Chinese financial system amid broad-based vertical and horizontal malinvestment have compelled Chinese officials to focus intently on heading off excesses and rebalancing their economy – gradually scaling down the Keynesian Cliff in the process. That process appears to be nearing completion from a GROWTH rate perspective, but we continue to warn that it’s too early to put capital to work largely on the premise the Chinese economy has bottomed. In fact, since a large swath of pundits and analysts decided to lock arms and agree to agree that China bottomed on OCT 18, the Shanghai Composite has fallen another -3.9% and remains in a Bearish Formation on our quantitative factoring.

All told, we will continue to let the market tell us how to risk manage the confluence of the aforementioned POLICY scenarios.


Domestically speaking, a confirmed break out above the S&P 500’s 1,419 TREND line would be a signal to us that the “can” is likely to be sufficiently kicked down the road in a way that will not upset the bond market from a sovereign credit risk perspective.


A confirmed break down below the S&P 500’s TAIL line of 1,364 suggests Obama and Boehner are likely unable to lead their respective Parties to a grand compromise and/or they were able to and the bond market does not like the solution.


It’s worth noting that a domestic sovereign credit risk scare is not at all out of the band of probable outcomes – especially given the likely JAN ‘13 timing of the debt ceiling breach. That would put a summer of 2011-type scenario in play in our opinion. Per the latest commentary from credit ratings agency Fitch:


“Washington needs to put in place a credible deficit-reduction plan to underpin the economic recovery and confidence in the full faith and credit of the US… As reflected in the Negative Outlook on the rating, failure to avoid the fiscal cliff and raise the debt ceiling in a timely manner, as well as securing agreement on credible deficit reduction, would likely result in a rating downgrade in 2013.”


Best of luck out there handicapping the world’s increasingly compromised political event risk.


Our immediate-term risk ranges for Gold, Brent (Oil), US Dollar, EUR/USD, UST 10yr Yield, Copper and the SP500 are now, 1, 105.32-109.69, 80.56-80.44, 1.26-1.28, 1.58-1.71%, 3.41-3.49 and 1,  respectively.


Darius Dale

Senior Analyst






The Macau Metro Monitor, November 13, 2012



2013 POLICY ADDRESS Macau Business

Macau CEO Chui didn’t announce any special measures for the gaming sector, although he stressed the government wants casino operators to better fulfill their social role and further promote responsible gambling. He confirmed the completed Taipa Ferry terminal should only be ready in the first half of 2014. The terminal was first intended to be up and running by 2007.


The cash handout program will continue in 2013, handing even more money to both residents and non-residents.  Permanent residents will receive MOP8,000, while non-permanent residents MOP4,800.  This year’s cash handout was MOP7,000  for each permanent resident while non-permanent residents received MOP4,200.



A subsidiary of Australian-based Leighton Holdings Ltd has been chosen by Wynn Macau Ltd as the preferred proponent to design and build its maiden property in Cotai.  According to Leighton, Wynn Cotai’s construction is scheduled to begin next month and the expected completion date is in early 2016.  The 
total budget for the project is estimated to be in the range of US$3.5 billion to US$4 billion.



The Electoral Storm

This note was originally published at 8am on October 30, 2012 for Hedgeye subscribers.

“If you play with the power, the lights go out.”

-Yale Hockey adage


For many on the eastern seaboard this morning, the power being out is no joke.  By some estimates that I’ve seen the total number without power exceeds some 8 million people.  I can certainly attest that much of the Hedgeye team that lives in New York City or along the Connecticut shoreline is without power this morning.  In fact, our CEO Keith McCullough just sent me a picture from his driveway and he and his family are completely blocked in due to fallen trees in their driveway.


I think the best thing you can say when a storm like this occurs is that it could have been worse.  From what I can tell, the government, who we are sometimes apt to criticize, did an excellent job getting in front of Sandy and sending out appropriate warnings.  That said, New Jersey Governor Christie unfortunately may have made a major political mistake in cancelling Halloween.  He has clearly now completely lost the 12 and under demographic.


From a global macro perspective, the key question relating to Sandy is what, if any, impact it will have on the election.  It seems in the short term, the storm has caused President Obama to pull back on his campaign schedule, while the Romney / Ryan team is staying at it in Ohio and Wisconsin today.  At this juncture of the election, it’s not clear if another couple of campaign stops really matter.


In terms of real time impact from the storm, Intrade barely budged over night, which suggests neither candidate will really get a meaningful bounce from anything Sandy related.  So we go back to a Presidential race that is increasingly becoming too close to call.  On a national poll level, Romney remains with the ever so slight edge, but his major issue remains Ohio.


If we take the average of the last 10 polls in Ohio, Obama has an advantage of +1.9.  Even as one-off polls can be wildly inaccurate, historically the averages of polls have been a pretty good indicator of outcomes.  So, even if the undecided voters swing meaningfully to Romney at this point, Obama appears to have enough of an edge in polls to win Ohio.  As a result, Romney’s chance of an Electoral College victory appears almost impossible.  The question, of course, is can we believe the Ohio polls?


That last statement is certainly not me trying to be a conspiracy theorist, but rather just to highlight some clear discrepancies amongst the Ohio polls.  As I wrote to one of our subscribers yesterday, if we dig deeper into the Ohio polls, we get some color on what could be the major wild card of this election, which is that there is some serious skew in the polls. I’ll give you a couple of examples related to Ohio:

  • In a recent poll from Gravis marketing, it has Obama with a +1 point lead on Romney, but the sample has 40% Democrats, 32% Republicans and 28% Independents;
  • In another recent poll from Public Policy Polling, the poll has Obama with a +4 lead, but the sample is 43% Democrats, 35% Republicans and 21% Independents; and
  • Finally, a recent Ohio Newspaper Poll has the raced tied, but the sample was 47% Democrats, 44% Republican and 10% Independents.

Clearly, turnout is the major wild card in Ohio and a factor the polls are not modeling with any consistency.


The other wild card is the economy.  We did a call with Professor Ken Bickers from Colorado who has accurately modeled Presidential election outcomes going back to 1980 based on state level economic data.  His analysis shows that Romney should win in a veritable landslide of 330 Electoral College votes.  We’ve posted a link to the presentation below if you did not get a chance to see it live:


Similar to dealing with Sandy, the best thing for most of us will be when this election is behind us.  It is time for American politicians to start working together again, just as all Americans do in times of national need.  To that end, I’d like to leave you with a quote from both President Obama and Governor Romney.


The American culture promotes personal responsibility, the dignity of work, the value of education, the merit of service, devotion to a purpose greater than self, and at the foundation, the pre-eminence of family.
                -Governor Mitt Romney


“And I will do everything that I can as long as I am President of the United States to remind American people that we are one nation under God, and we may call that God different names but we remain one nation.”

                -President Barack Obama


All the best to you and your families in the coming days.


Keep your head up and stick on the ice,


Daryl G. Jones

Director of Research


In terms of logistics from our end, we still are planning to host or best ideas call this Thursday at 1:30pm.  We will be re-circulating dial in information and materials ahead of the call, so stay tuned for that. 


The Electoral Storm - bb. el


The Electoral Storm - bb portfolio

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TODAY’S S&P 500 SET-UP – November 13, 2012

As we look at today's setup for the S&P 500, the range is 39 points or 1.16% downside to 1364 and 1.66% upside to 1403. 
















  • YIELD CURVE: 1.35 from 1.35
  • 10YR – got #GrowthSlowing? Treasuries ripping since Election Day with the UST 10yr yield testing its August low here this morn at 1.58%; good spot to sell some of your Fixed Income gross long exposure and buy US and German stocks provided that 1364 TAIL risk line for SPX holds.

MACRO DATA POINTS (Bloomberg Estimates):

  • 7:30am: NFIB Small Bus. Optimism, Oct., est. 93 (prior 92.8)
  • 7:45am: ICSC weekly sales
  • 8:55am: Johnson/Redbook weekly sale
  • 10am: IBD/TIPP Economic Optimism, Nov., est. 54 (prior 54)
  • 11am: Fed to purchase $4.35b-$5.25b notes due 11/15/18-8/15/20
  • 11:30am: U.S. Treasury to sell $32b 3-mo. bills, $28b 6-mo. bills
  • 2pm: Monthly Budget Statement, Oct., est. -$113b (prior -$98.5)
  • 3:30pm: Fed’s Yellen speaks at Berkeley


    • Congress returns for post-election “lame duck” session
    • Bloomberg Government, National Defense Industrial Association hold webinar on “Post-Election Sequestration,” 2pm
    • Geithner speaks at WSJ CEO Council conference, 4pm
    • Inter-American Development Bank holds second day of the 36th meeting of the network of Central Banks and Finance Ministers
    • ITC may announce review of judge’s findings that companies infringe patents owned by Vitec Group’s Litepanels for LEDs, 5pm


  • Europe gives Greece extra time, spars with IMF on debt plan
  • Spanish yields climb to six-week high
  • Microsoft’s Sinofsky departs as Larson-Green ascends at Windows
  • U.K. inflation quickens more than forecast on tuition fees
  • Kodak gets $793m in financing to exit bankruptcy by mid-2013
  • Weatherford finds material weakness in internal controls
  • NBC Universal said to cut ~450 jobs across several units
  • Fiat must pay $342m for Chrysler stake, retiree fund says
  • Vodafone, Verizon Communications get $8.5b from venture
  • NYSE computer issue leads to no closing auction in 216 stocks
  • Goldman said to promote 70 to partner, lowest in yrs, WSJ says
  • Goldman said to plan exit from asset management in Korea


    • Home Depot (HD) 6am, $0.70 - Preview
    • Quebecor (QBR/B CN) 6am, C$0.73
    • AECOM Technology (ACM) 6:30am, $0.82
    • AuRico Gold (AUQ CN) 7am, $0.05
    • Michael Kors (KORS) 7am, $0.40
    • Dick’s Sporting Goods (DKS) 7:30am, $0.37
    • Saks (SKS) 8am, $0.12
    • Baytex Energy (BTE CN) 8am, C$0.31
    • Shoppers Drug Mart (SC CN) 8:28am, C$0.81
    • TJX Cos (TJX) 8:32am, $0.61
    • Woodward (WWD) 4pm, $0.57
    • Wesco Aircraft Holdings (WAIR) 4:01pm, $0.24
    • Cisco Systems (CSCO) 4:04pm, $0.46
    • Osisko Mining (OSK CN) 4:05pm, C$0.05
    • Giant Interactive (GA) 4:30pm, $0.19
    • Silvercorp Metals (SVM CN) 5pm, $0.07
    • Renren (RENN) 6pm, $0.05
    • Chartwell Seniors Housing REIT (CSH-U CN) 6:06pm, C$0.20
    • IAMGOLD (IMG CN) Post-Mkt, $0.24
    • B2Gold (BTO CN) Post-Mkt, $0.05


  • Oil Drops on Signs of Rising U.S. Supply, Reduced Demand Outlook
  • Chocolate Rush Hits Record as Cocoa Shortages Loom: Commodities
  • Platinum, Palladium Shortage Most in a Decade on Falling Supply
  • Copper Declines on Greece Funding Delay, China Output Data
  • Gold Drops in New York Trading as Stronger Dollar Curbs Demand
  • Soybeans Rebound as Drop to Four-Month Low May Spur Purchases
  • Gold to Climb to $1,849, LBMA Survey Shows, as Outlook Cut
  • Sugar Resumes Drop as Commodities Slide on Europe; Coffee Falls
  • Shanghai Rebar Drops for First Time in Three Days on Winter Risk
  • Raw Material Prices Squeezing Aluminum Producers: Bear Case
  • U.K. Regulators Probe Allegations of Price-Fixing in Gas Market
  • Iron-Ore Rebound Boosts STX With Record Chinese Imports: Freight
  • China Oil Production Rises to Record on Demand From Refiners
  • North Sea Buzzard Field Said to Resume Oil Flows Late Yesterday









RUSSIA – back into crash mode we go with the RTSI leading losers in Europe this morning, -1.3% (down 20.9% since #GrowthSlowing started, globally, in March. We’ll keep writing that btw, because A) its true and B) its rarely highlighted as true by consensus bulls within the context of the SEP Bernanke Top.






CHINA – Shanghai Comp gets spanked, down -1.5% overnight and down for the 6th day in the last 7; “China has bottomed” crowd quiet as the Chinese don’t behave like Krugman. Chinese stocks -16.8% since #GrowthSlowing started, globally, in March.










The Hedgeye Macro Team





Today we bought PACCAR (PCAR) for $43.27 a share at 3:07 PM EDT in our Real Time Alets. PACCAR has been one of our top long ideas and Hedgeye Industrials Sector Head Jay Van Sciver likes the long-term prospects for the company. The stock is holding both TRADE and TREND support; we like.



Down The Chain: CAT Dealer Results & Thesis Update

Takeaway: Dealer results leave us to question whether a rebound in orders to "end-user demand" would be such a positive for $CAT.

Down The Chain:  CAT Dealer Results & Thesis Update


We continue to think that Caterpillar’s results are at or near a cyclical peak driven by recent bubble-like capital investment by basic resources companies.  Importantly, we see ongoing evidence suggesting that the cycle has turned and will remain weak for a prolonged period.  Dealer results, discussed below, add to our concerns.  Consensus estimates for 2013 have declined significantly since our 9/14/2012 Black Book and the share price is lower.  While this leaves us a little less bearish, we see continued downside.  In our view, there are less risky investment opportunities on the equipment side in Paccar, and in the sector more broadly in FedEx.


Recent improvements in Chinese data suggest that its economy is in a bottoming process (see work by Darius Dale and Hedgeye Macro team).  While this may be the case, land sales by area are still down a mid-teens percentage YoY.  Local metals prices point to ongoing weakness in Chinese construction, a key end-market for mining.  Chinese average real rebar prices have lurched back below their 2009 lows in recent weeks.


Down The Chain:  CAT Dealer Results & Thesis Update  - cat1



Deep Cyclical

Caterpillar is a capital equipment supplier to highly cyclical end-markets, especially mining.  Capital spending at cyclical companies tends to be more cyclical than the top-lines themselves.  Considering this, buying into an earnings peak at CAT seems like a mistake.  Down cycles can be long-lived.


Down The Chain:  CAT Dealer Results & Thesis Update  - cat2



Estimates Up & To The Right


Consensus tends to simply extrapolate recent results higher.  While this forecasting method is unlikely to work well for most companies, the results are particularly inaccurate for cyclicals.  Currently, estimates extrapolate near-peak results.  Taking a multiple of estimated earnings is not a robust valuation approach, in our view.


Down The Chain:  CAT Dealer Results & Thesis Update  - cat3



Dealer Results Look Like CAT’s Results

CAT’s backlog declined during the past two quarters, supporting reported sales and profits relative to orders.   Implied orders in 3Q 2012 were at the lowest percentage of trailing sales since the financial crisis.   Orders tend to lead deliveries and revenues for obvious reasons.  Interestingly, the quantity of long-term orders as a percentage of total backlog at CAT has also nearly doubled from 13.4% in 4Q 2011 to 22.5% at the end of 3Q 2012.  That suggests orders might be at risk of cancellation as customers exercise delay options, in our view.


Down The Chain:  CAT Dealer Results & Thesis Update  - cat4



CAT Dealer Orders Deteriorate

Caterpillar dealers have served the company well over the years and have carved out a nice return for themselves in the process.  A number of dealers are public, allowing insight directly into customer activity.  Recent results suggest that end-user order activity has declined significantly.  CAT management has said that “end-user demand” is more robust than current CAT orders based on dealer deliveries.  However, this seems somewhat misleading because dealer deliveries lag dealer orders.  CAT’s comments imply that revised 2012 and 2013 guidance is the product of dealer inventory adjustments and Caterpillar orders will soon return to high levels (“end-user demand”).  From CAT’s 3Q 2012 10Q:

“Dealer reported new machine inventory increased about $400 million during the third quarter of 2012 compared with an increase of about $675 million during the third quarter of 2011. Dealer machine inventories at the end of the third quarter of 2012 are higher than historic averages relative to dealer deliveries to end users. Dealers have substantially lowered order rates below machine deliveries to end users, which we expect will result in dealer inventory reductions in the fourth quarter and continue into 2013. As a result of the anticipated reductions in dealer inventories as well as global economic conditions that are weaker than previously expected, we are lowering production in many facilities around the world. Lower production levels will continue until inventories decline and dealer order rates increase and are more in line with end-user demand.” – CAT 3Q 2012 10Q Page 57


However, implied order activity at the dealer level in the results we have seen suggest that end-user demand has weakened significantly.  Backlogs have come down at the dealer level, too, sustaining current deliveries.  Dealers do appear to have too much inventory, but they also appear to have suffered a significant order decline.  That one/two punch will further push down CAT 2013 revenue and profit estimates, in our view.


Finning: New Equipment Implied Orders Down 45% YoY in 3Q 2012


Finning, like Caterpillar, drew down backlogs last quarter.  Backlogs for new equipment fell from $1.7 billion to $1.4 billion, with sales in the quarter at $723 million.  Implied orders were only ~$423 million in 3Q 2012 vs. ~$760 million in 3Q 2011, a 45% drop, by our estimates.

[The] Company is focused on reducing uncommitted inventory levels and prudently managing working capital.” – Finning 3Q Filing


Wajax: Oil, Gas and Mining Weakness


Wajax is a smaller Canadian dealer than Finning and has shown similar business trends.  The company noted weakness in oil and gas orders, which was of particular interest since many investors expect this area of CAT’s business to hold up well.

“Overall backlog declined primarily as a result of a reduction in customer orders in the mining and oil and gas sectors…While the number of outstanding quotes for mining equipment continues to be significant, customers have been delaying their purchasing decisions in the face of lower commodity prices…Looking forward we expect softness in the oil and gas and mining sectors to continue into 2013.”  - Wajax 3Q 2012 Release/Filing


The Bull Story at Sime Darby: It’s Just Like the 2009 Global Financial Crisis (?)

In a recent presentation, Sime Darby, an Asia-based conglomerate with a large CAT dealer network, suggested that the current situation was similar to 2009.  We disagree, since the present environment looks nothing like 2009.  In 2009 the order decline was driven by a global financial crisis, which is absent today.  The current order declines have been driven by underlying market weakness following a decade of over-investments, in addition to stimulus spending roll-off, in our view.


 Down The Chain:  CAT Dealer Results & Thesis Update  - cat5



Sime Darby reports in late November, and we will be interested in the results and will look for updates to this bull rationale.


Jay Van Sciver, CFA

Managing Director

120 Wooster St.

New York, NY 10012


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