Cat Tails

This note was originally published at 8am on December 14, 2012 for Hedgeye subscribers.

“A man who carries a cat by the tail learns something that he can learn in no other way.”

-Mark Twain


In money management, like many professions, the act of doing is probably the best training available.  There is nothing like a mistake to change your process or habits, and when you manage money professionally the mistakes come frequently.  The key, of course, is what you do with the mistakes and how you adjust to them.


This is certainly an interesting time in the money management business.  In the last few years, we’ve seen a number of long time and highly successful portfolio managers decide to get out of the game.  In fact, earlier this week Keith and I had coffee with a Hedgeye subscriber who will be converting his highly successful hedge fund into a family office at the end of the year.


This gentleman, like many of his peers, didn’t have one specific reason for returning outside capital, but rather was more generally concerned about the ability to generate returns that justified the fees.  On some level, that is a high class problem.  But the truth of it is, in our view, monetary policy and policy makers have taken us to a place where the risk / reward in many asset classes is simply not all that compelling.  Simply put, if you are going to carry the proverbial cat by the tail, you want to believe that the reward of that action equates to the risk.


Of course, this is not to say that all is necessarily negative.  In fact, this morning is one of the more bullish runs of economic factors that we’ve seen for some time. A few things to consider this morning:


1.   China – The Shanghai Composite was up +4.3% overnight to cap off a two week run of +9.6%.  As a consumer of commodities, China will have its best moves when input prices are deflating, so to see a breakout above our key resistance line of 2,905 on the Shanghai Composite, we will likely need to see Bernanke and Company get out of the way for this rally to be sustainable.  It also doesn’t hurt that the HSBC Flash PMI came in a little better than expected at a stable 50.9, which implies an economic recovery may be taking hold in China.


2.   Germany – As the old adage goes, there is always a bull market somewhere.  Going into yesterday, the DAX was up 29% in the year-to-date, which makes it one of the top ten performing equity markets globally.  This move in Germany equities is supported by the high frequency economic data, such as the services PMI from this morning which came in at 52.1 versus its 49.7 reading in November.


3.   Commodities – Many of the story tellers have suggested that commodity prices go up purely because of supply / demand or tight economies and while at times this is true, the reality remains that monetary policy is a big driver.  To the extent that global central bankers get even marginally more hawkish, it will negatively impact commodity prices.  As we all know, economic recoveries don’t occur at $150 per barrel crude oil and getting oil lower sustainably will be a key factor supporting any sustained economic recovery.


Collectively, this data and these real-time prices are signaling a shift from #SlowingGrowth to #StabilizingGrowth.  This is potentially very positive for equity markets.  The question from here is whether the government can stay out of the way of economic stability.


To dig into this last point in more detail, we are going to be hosting Stanford Economics Professor John Taylor this coming Tuesday at 1pm EST for a conference call (if you are not an institutional macro subscriber and would like information on attending please email ).  Bloomberg Markets recently named Professor Taylor to their 50 Most Influential List and he was on the short list to replace Chairman Bernanke under a Romney administration, but he is probably most known for the creation of the Taylor rule.


The Taylor rule is a monetary-policy rule that stipulates the degree to which central banks should change nominal interest rates in response to measures of economic output, specifically inflation.  The theory behind the Taylor rule is that it increases the credibility of the central bank by reducing uncertainty in monetary policy actions.  In effect, the rule reduces the need for arbitrary decisions by central banks.


Generally speaking, while Taylor believes that government has a role in managing the economy, the role should be limited and predictable.  As such, he has been highly critical of both Democratic economists like Paul Krugman and Republican economists like Alan Greenspan.  In fact, Professor Taylor wrote the following in the Wall Street Journal about the financial crisis in 2008:


“Government actions and interventions, not any inherent failure or instability of the private economy, caused, prolonged, and worsened the crisis."


That’s a statement we couldn’t agree with more.


The big topic we will be discussing with Taylor is the upcoming fiscal cliff and the potential outcomes.  Currently, it seems that a resolution between now and the end of the year is unlikely.   President Obama and Speaker Boehner met for an hour last night and, shockingly, there was apparent movement to a resolution.   So as things stand today, in just over two weeks taxes are set to increase dramatically and government spending is set to decline.


As we’ve stated, this will have an impact on economic growth in the short run, though the positive implication may well be dollar strength as the United States takes some fiscal medicine.  The other looming issue, which we highlight in the Chart of the Day, is that in Q1 2013 the federal government is likely to hit another debt ceiling.  


So, it seems our politicians have a few cats by their tails . . . it will be interesting to see what they learn.


Our immediate-term Risk Ranges for Gold, Oil (Brent), Copper, US Dollar, EUR/USD, UST 10yr Yield, and the SP500 are now $1684-1706, $105.61-108.98, $3.63-3.71, $79.51-80.31, $1.29-1.31, 1.66-1.74%, and 1410-1435, respectively.


Keep your head up and stick on the ice,


Daryl G. Jones

Director of Research


Cat Tails - Chart of the Day


Cat Tails - Virtual Portfolio

Financials In 2012

With the year's end fast approaching, let's review how banks and the Financial Select Sector SPDR ETF (XLF) have performed year-to-date. The XLF is up an impressive +25% year-to-date compared to the S&P 500, which is up +12.3% during the same time period. As far as the banks go, here's a breakdown:


  • Goldman Sachs (GS): +39.41%
  • JP Morgan (JPM): +30.53%
  • Citigroup (C): +48.46%
  • Bank of America (BAC): +105.58%
  • Morgan Stanley (MS): +23.73%


Financials In 2012  - image001

Retail: Sales Spot-On W Last Yr. Need to Accelerate.

Takeaway: Holiday sales are right in line with last yr. That’s not terrible, but the cadence needs to pick up as we comp a weak Jan 2012.

The trajectory of holiday sales seems to be coming in right in line with last year. That’s not terrible, but the cadence needs to pick up over the next week, because January 2012 was weak.


In looking at the weekly ICSC sales index – which we think is increasingly important given the shrinking size of companies participating in the monthly same store sales game – we think it is uncanny how closely 2012 tracked 2011 in the four weeks leading up to Christmas.  


We’ve heard forever that ‘consumers are buying closer to need’ but when you look at the weekly change by year from ’08 through ’12, it’s clear as day that this purchasing pattern is more the case today than ever before. In fact, in each of the past two years, we saw an increasing decline in sales 3-4 weeks before the Christmas holiday, but then ‘catch up’ in the 1-2 weeks prior to the big day.


Retail: Sales Spot-On W Last  Yr. Need to Accelerate. - sales1


Sales trends in 2011 and 2012 vs previous 5-year average are too close to call. To date, you can hardly tell one from the other. But as noted, last year we saw a precipitous decline in the early part of January – something that we need to successfully lap this year to keep the channel as clean as it was throughout the bulk of 2H12.


Retail: Sales Spot-On W Last  Yr. Need to Accelerate. - sales2


We’ll have more details on Wed January 2.

Early Look

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Eurozone: Risk Off?

10-year bond yields for various Eurozone countries remain at depressed levels after spiking in early 2012. Greece in particular has managed to quell investor fears of a default and Portugal is doing the same albeit at a slower rate. Right now, Greece’s 10-year is offering a yield of 11.90%, up 24 basis points week-over-week while Portugal is offering 6.94%, down 5 basis points week-over-week. It should come as no surprise that Germany’s low-yield of 1.32% has come down 11 basis points during the same time period.


Eurozone: Risk Off? - EURO10year


Takeaway: New Home sales rose 4.4% in November. Limited supply and rising demand are working together to push home prices higher.

New Home Sales: Another Strong Print in November

New home sales rose 4.4% MoM in November to 377k (SAAR). October data was revised down from 368k to 361k making the comp easier. On a year-over-year basis, new home sales in November are up 19.7%.


The inventory of new homes for sale rose to 149k in November, up from 147k in October. This continues an emerging trend of rising inventory, marking the third consecutive month in which inventory has grown, albeit off an all-time low base of 141k in August. When looking at inventory on a months supply basis, November stood at 4.7 months, which was down MoM from 4.9 months. For perspective, months supply floated between 4-5 months from 1, and has been in the mid-4 to low-5 months range YTD.


We would expect to see inventory levels rise, as this reflects a strengthening market. This is counterintuitive, we realize, but in looking at the long history of price in relationship to inventory levels, they have a strong positive correlation.  


The median price of new homes sold in November rose 15% vs the prior year, a continuation of the trend we've seen year-to-date.


We continue to believe that home prices are heading meaningfully higher in 2013. This morning's New Home Sales data, showing a rising sales rate and falling months supply of inventory, supports our thesis.












Joshua Steiner, CFA


Robert Belsky

Jobless Claims: Missing Pieces

This week’s jobless claims numbers had 19 states omitted from the data, including California and Texas. While the data is positive with initial jobless claims falling 11k to 350k from 361k, we wouldn’t put too much faith in this data and would wait and see what next week’s numbers hold. Hurricane Sandy is no longer affecting the numbers and claims are generally trending lower, the latter of which is a tailwind we should expect to continue through February.


Jobless Claims: Missing Pieces  - Katrina normal


Jobless Claims: Missing Pieces  - Seasonality normal

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