This note was originally published at 8am on November 16, 2012 for Hedgeye subscribers.
“Many men go fishing all of their lives without knowing that it is not fish they are after.”
-Henry David Thoreau
The thing with fishing trips is they end more often with stories of massive fish that were on the hook, rather than actual proof of the whopper. The best evidence of catching a trophy fish is of course taking a picture of it. My colleague Keith McCullough and I went fishing off of Long Island more than a decade ago with some buds, back when we were hedge fund pups, and caught a whopper. Being the accountable market operators we are, we actually took a picture of it and it is featured in today’s Chart of the Day.
Managing money is a little like fishing. You can tell tall tales of your performance, but at the end of the day you need to be able to show the results. In that sense, I’m pretty certain 2012 it is going to be a year of great tales but few whoppers reeled into the boat. Simply, this has not been a year in which navigating the global macro waters has been easy.
All year we’ve been spinning the tale of both slowing growth and declining corporate earnings, but for much of the year the market shrugged off these concerns. Now, of course, these concerns are front and center again. As always, the most dangerous markets of all are those that go up in the face of declining fundamentals because ultimately those markets will have further to fall.
In the global macro waters this morning, there are a number of key points to consider:
1. Chinese leadership – After much speculation, the final names of the seven gentlemen (down from nine) that will run China was announced. The conclusion is that they are more “conservative”. The key takeaways are that we are likely to see fewer human rights reforms and likely a more tepid pursuit of economic growth. Under the outgoing leaders, China experienced a decade of 10% growth and passed both Japan and Germany to become the second largest economy in the world. At the very least, that growth rate will decelerate.
2. Japanese easing – The Japanese equity markets are up almost 2% this morning, but don’t confuse that move with economic growth. The LDP is widely expected to win in the December 16th election and LDP President Abe put his cards on the table and is calling for “unlimited easing” to achieve a 2 – 3% inflation target. Ironically, or not, one of our top ideas yesterday was shorting the Yen. Email firstname.lastname@example.org if you’d like to get our Senior Asia Analyst Darius Dale on the phone to discuss this thesis.
3. American political dysfunction – Today, President Obama is set to meet with key Congressional leaders as formal negotiations on the fiscal cliff begins. Obama unofficially began the negotiations on Wednesday when he said in a press conference that he expects tax increases for wealthy Americans to be part of any deal. This is a much more aggressive stance than the House Republicans were willing to accept in the prior negotiations, so it is unlikely to be accepted this time either.
Of the three macro points highlighted above, the most pressing concern from a current and future growth perspective is clearly the fiscal cliff, or as we call it The Keynesian Cliff. Unfortunately, the election did not solve much in the way of giving either party a mandate to solve this issue. At the table today, we have exactly the same cast of characters: President Obama, Senator Harry Reid, Senator Mitch McConnell, Congresswoman Nancy Pelosi, and Congressman John Boehner. As Yogi Berra would say:
“It’s déjà vu all over again.”
To the extent that the participants get away from a grand plan, it may actually be a positive for the markets. Simply, there is an immediate term catalyst. In six weeks, dramatic spending cuts and tax increases go into effect, to the tune of some $500 billion annualized. If this short term catalyst can be taken off the table it is likely to at least calm equity markets. This would of course imply rational action from Washington, D.C.
Since it is unlikely, based on recent history, that the elected officials in Washington act rationally, perhaps they will act in a more bi-partisan spirit. Senator McConnell’s opening statement seems to suggest that, too, is unlikely. As the Senator stated:
“I was glad to hear the President’s focus on jobs and growth and his call for consensus. But there is no consensus on raising tax rates, which would undermine the jobs and growth we all believe are important to our economy. While I appreciate and share the President’s desire to put the election behind us, the fact is we still have yet to hear an actual plan from the President for addressing the great economic challenges we face. What’s needed now is a realistic and specific proposal from the President that can actually pass the Congress.”
It’s pretty clear, so far, that tax hikes on the rich won’t pass Congress, so President Obama’s opening gambit may ultimately be a sign that we are in for a very volatile next six weeks.
Our immediate-term risk ranges for Gold, Oil (Brent), Copper, US Dollar, EUR/USD, UST 10yr Yield, and the SP500 are now $1714-1748, $108.19-111.10, $3.41-3.47, $80.58-81.33, $1.26-1.28, 1.53-1.68%, and 1346-1364, respectively.
Enjoy the weekends with your families and all the best to Yale Football up in Cambridge!
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research