Fiscal Cliff: Sour Milk

What do milk and the fiscal cliff have in common? Quite a bit, actually. As it stands, our government sets a minimum price for milk creating a floor. This helps milk producers in their financial planning and the like. If Congress can’t come to an agreement over the fiscal cliff, the calculation mechanism for the minimum price will revert to a 1949 law that reflects milk production technology that is 6 decades obsolete, adjusted for inflation. 


This new floor would be about twice as much as the current market price. With a gallon of milk costing around $3.50 on average, consumers would see that double to $7 over time. That’s a meaningful impact to low income families and represents a total tax hike of $22.7 billion considering that per capita milk consumption is approximately 20.6 gallons per person per year. Retailers who rely on milk to drive store traffic will also feel the pain as well.


Fiscal Cliff: Sour Milk - Unknown

Weekly European Monitor: Into Year-End

Takeaway: Despite ECB intervention, economic policy uncertainty remains high into 2013, which should weigh on markets.

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Asset Class Performance:

  • Equities:  The STOXX Europe 600 closed down -0.8% week-over-week vs +0.6% last week. Bottom performers: Luxembourg -1.8%; Switzerland -1.8%; Spain -1.6%; Finland -1.6%; Belgium -1.4%; Portugal -1.2%; France -1.2%; Netherlands -0.9%.  Top performers:  Greece +7.6%; Romania +5.4%; Turkey +2.5%; Hungary +2.1%; Latvia +1.6%; Estonia +1.5%. [Other: UK -0.6%; Germany -0.5%].
  • FX:  The EUR/USD is up +0.23% week-over-week vs +0.11% last week.  W/W Divergences:  RUB/EUR +1.38%; SEK/EUR +0.63%; DKK/EUR +0.25%; CHF/EUR +0.21%; GBP/EUR -0.11%; NOK/EUR -0.23%; HUF/EUR -0.24%; ISK/EUR -1.35%.
  • Fixed Income:  The 10YR yields for sovereigns were largely flat week-on-week.

Weekly European Monitor: Into Year-End - 66 10yr yield



EUR/USD: Our TRADE range is $1.31 – 1.33

  • Our call - the EUR/USD will trade within our quantitative levels and reflect much of the daily headline risk (from Spain, Greece, and Italy in particular), however ECB President Mario Draghi’s September announcement that “the ECB is ready to do whatever it takes to preserve the euro” and the resolve of Eurocrats to maintain the Union will prevent levels falling anywhere near parity.
  • We expect a long road towards a fiscal union as states will be reluctant to give their sovereignty up to an external entity, which should limit the cross’ upside.
  • The cross could weaken alongside the ECB showing some willingness to cut the benchmark interest rate.

Weekly European Monitor: Into Year-End - 66 eur usd



Into Year-End:


As we conclude 2012 we reiterate the recent shift in our research call from #SlowingGrowth to #StabilizingGrowth.” While the fundamental data we track is far from showing a resounding inflection from a weak to negative trend, we are on the margin seeing slight improvement.  


We expect 2013 across much of Europe to be a continuation of 2012 – that is a struggle to form a fiscal union (despite marginal improvement in tying a bow around a modified “Banking Union”) and continued weak sovereign and banking pockets (in particular in Spain, Italy, Portugal, and France) that will influence the entire region from growth and stock market perspectives. 


We remain fully aware that “risk” has largely abated across Europe (especially the periphery) since the summer and particularly following Mario Draghi’s September ECB statement (9/6) to buy “unlimited” sovereign debt via the OMT program. Of note is the influence central banks can have on market performance. Here, Germany is worth a highlight, with the DAX climbing 29% YTD and 6% since the speech.


However, Europe’s issues are far from in the clear. We believe that Europe in 2013 will have to continue to be monitored on a day-by-day basis as the wild cards of government intervention remain high coupled with the tenuous nature of the union of uneven states bound currently only under monetary policy.


A look at the European Economic Policy Uncertainty Index from tells quite a story of just how high the level of economic policy uncertainty still is in Europe despite the first European bailout (of Greece) way back in May 2009 and all the interventions since. We think this level of uncertainty should weigh on markets in 2013.


Weekly European Monitor: Into Year-End - 66. uncertainty



The European Week Ahead:


Monday:  Greece Oct. Retail Sales


Wednesday:  Eurozone Dec. PMI Manufacturing – Final; Germany Dec. PMI Manufacturing - Final; CPI – Preliminary; UK Dec. House Prices (Jan. 2-5); PMI Manufacturing; France Dec. PMI Manufacturing - Final; Spain Dec. CPI - Preliminary; PMI Manufacturing; Italy Dec. New Car Registrations; Budget Balance; PMI Manufacturing; Greece Manufacturing PMI


Thursday: Eurozone Nov. M3; Germany Dec. Unemployment; UK Dec. PMI Construction; Nov. Net Consumer Credit; Net Lending Sec. on Dwellings; Mortgage Approvals; M4 Money Supply; Spain Dec. Unemployment


Friday: Eurozone Dec. PMI Services and Composite - Final; CPI Estimate; Germany Dec. PMI Services – Final; UK Dec. Official Reserves; PMI Services; France Dec. PMI Services – Final; Spain Dec. PMI Services; Italy Dec. CPI - Preliminary; PMI Services



Call Outs:


Italy – Monti say he will not run in the Feb. 24-25 election but he’s available to lead a coalition committed to his reforms.


Deficits - El Pais said the European Commission will propose giving Spain, France and several other Eurozone states more time to cut their public deficits below the target limit of 3% of GDP. The report cited senior Spanish and EU sources that said France could get an extra year, while Spain would be given one or two more years beyond that date. It added that the Commission has agreed on a new Spanish deficit path of 7% of GDP this year and 6% in 2013, compared to current targets of 6.3% for this year and 4.5% for 2013.


Portugal - A report by the European Commission says weaker-than-expected economic growth and recent political setbacks mean Lisbon is at risk of missing even new, loosened deficit targets and must find an additional €4B in cuts in time for its next bailout review, scheduled for mid-February. The article added that although Portugal's bailout program runs through to the middle of 2014, it faces its most critical test in September when it must repay €5.8B in sovereign bonds without help from bailout lenders, which have already distributed €64B to Lisbon, or more than 80% of the total cash in the program.


Spain - Lloyds Banking Group said while Germany, Italy, France, the Netherlands and Belgium are forecast to lower the amount of debt they sell in 2013, Spain probably will raise its issuance to €110B. Morgan Stanley also said Spain will need to sell €111B of bonds in 2013, compared with the Spanish Treasury's provisional estimate for gross issuance of €90.4B. Lloyds' forecast for 2013 bond sales exceeds that of Spain's because it assumes the nation will miss this year's deficit target.


Italy - Italy’s centrist politicians (centre-left Democrats, Mr. Berlusconi's centre-right People of Liberty and the anti-establishment Five Star Movement) rallying behind Monti’s offer to lead alliance into Feb elections


Italy - Pier Luigi Bersani, says he would be ready to cede more sovereign powers to Brussels over government spending - in exchange for greater freedom to boost key economic sectors. Bersani, whose Democratic party has a strong lead in opinion polls ahead of February's elections, said he is open to supporting an ambitious German plan for EU control over national budgets, while stressing that it is essential for Europe to take more aggressive steps to revive economic growth. He added that he wants more equity and attention to social cohesion, and intends to continue Mr. Monti's drive for a deeper mutualization of European debt through the issuance of Eurobonds.



Data Dump:


France Q3 Final GDP +0.1% Q/Q vs initial +0.2% and expectation +0.2%   [0.0% Y/Y vs initial +0.2% and expectation +0.1%]


France Consumer Spending -0.2% NOV Y/Y vs -0.3% OCT

France Consumer Confidence 86 DEC vs 84 NOV

France Producer Prices 1.9% NOV Y/Y vs 2.8% OCT


Italy Business Confidence 88.9 DEC vs 88.5 NOV

Italy Economic Sentiment 75.4 DEC vs 76.5 NOV

Italy PPI 2.2% NOV Y/Y vs 2.6% OCT


UK BBA Loans for House Purchases 33634 NOV vs 33128 OCT

UK Hometrack Housing Survey -0.1% DEC M/M vs -0.1% NOV = fall for a 6 months   [-0.3% DEC Y/Y vs -0.3% NOV]


Spain Mortgages on House -14.4% OCT Y/Y vs -32.2% September

Spain Retail Sales -7.8% NOV Y/Y vs -8.4% OCT


Austria PPI 0.4% NOV Y/Y vs 0.7% OCT

Netherlands Producer Confidence -5.7 DEC vs -7.0 NOV

Ireland Property Prices -5.7% NOV Y/Y vs -8.1% OCT

Switzerland UBS Consumption Indicator 1.23 NOV vs 1.30 OCT


Sweden Wages (non-manual workers) 2.7% OCT Y/Y vs 2.7% September

Sweden Retail Sales 0.9% NOV Y/Y vs 1.1% OCT


Finland Business Confidence -15 DEC vs -13 NOV

Finland Consumer Confidence 3.5 DEC vs 1.0 NOV


Russia Manufacturing PMI 50 DEC vs 52.2 NOV

Russia PMI Services 56.1 DEC vs 57.1 NOV


Czech Republic Business Confidence 1.6 DEC vs 0.3 NOV

Czech Republic Consumer and Business Confidence -3.9 DEC vs -5 NOV

Czech Republic Business Confidence -26 DEC vs -26.3 NOV


Slovakia Consumer Confidence -38.9 DEC vs -33.1 NOV

Slovakia Industrial Confidence -10 DEC vs -15.7 NOV


Slovenia CPI 2.7% DEC Y/Y vs 2.3% NOV

Slovenia Retail Trade -6.1% NOV Y/Y vs -6.7% OCT


Matthew Hedrick

Senior Analyst

Milk Prices and the Fiscal Cliff

An interesting and unintended consequence of the fiscal cliff is the “milk cliff” (perhaps better thought of as a "milk mountain") – lost in the budget battle is the fact that there is a Senate ratified farm bill that has yet to make it to the floor of the House.  The farm bill covers multiple billions of dollars in various agricultural programs, including dairy.


As it currently stands, the government sets a price minimum for milk that supports the supply of a very important staple product for families and also affords some stability with respect to financial planning for milk producers.  Obviously, if supply and demand dictates a higher price than the government “floor”, producers happily sell on the open market for an incremental profit.  Our understanding is that unless a new deal is put in place, the calculation mechanism for the price floor will revert to a 1949 law that reflects milk production technology that is 6 decades obsolete, adjusted for inflation. 


We have seen various sources that suggest this would put the government in a position where it is forced to support a “floor” that will be about 2x the current market price.  The potential impact to consumers is a doubling, over time, of the current average cost of $3.50 for a gallon of milk.

While milk consumption has been on a steady decline since the 1960s, per capita milk consumption is still approximately 20.6 gallons per person per year (U.S. Department of Agriculture).  And while a doubling of the price represents “only” an annual price increase of $72 per person, the total “tax” hike is a highly regressive $22.7 billion.  Again, not the end of the world, and there are certainly ways for the government to delay and or mitigate the impact, but the reality is that the potential exists for consumers and producers to see a material disruption in the dairy market.


Finally, even with declining per capita consumption as a backdrop, retailers still rely on the milk category to drive traffic, so this development represents a marginal negative for food retailers as well.


Robert  Campagnino

Managing Director







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Housing: Full Steam Ahead

The housing market day-after-day continues to see positive news come out of it. The latest bit of data is November pending home sales, which came in strong with a +1.7% month-over-month increase after a +5.0% increase in October. We expect upside of +18.1% over the next 18 months. Prices are currently rising at around 0.6% a month. This comes on the heels of lower inventory, improving prices and an increase in mortgage applications; a much welcome recovery for investors and home owners.


Housing: Full Steam Ahead - Pending Home Sales ST normal


Takeaway: Don’t be a hero; let process, not emotions determine you next move(s).

Sadly, the US equity market and global economy remains at the perfectly frustrating whims of our central planners in Washington D.C. On the realization that a CY12 Fiscal Cliff compromise is unlikely to be agreed upon, stocks are broadly selling off. Looking to the S&P 500 Index specifically, the market is now bearish from a TRADE and TREND perspective on our quantitative factoring with no support to our TAIL line of 1,371.


Across our core risk management durations, our updated levels for the SPX are:


  • Bearish TRADE = 1430
  • Bearish TREND = 1419
  • Bullish TAIL = 1371


At Hedgeye, we remain firm believers of the reflexive relationship between PRICE and economic fundamentals. In that vein, the current quantitative setup of the US stock market tells us that:


  1. We are likely to go over the Fiscal Cliff – whatever that means (more on this later); and
  2. The underlying momentum of the US and global economy is stabilizing and poised to gather steam.


Regarding point #1: Unlike the credibility of the Old Wall’s legacy media sources, the US economy won’t run into the proverbial wall on JAN 1st, 2013. In fact, the full economic impact of tax hikes and sequestration will be lagged and cumulative throughout CY13. Consider it more like running up a steep hill, rather than falling off a cliff, per se.


Additionally, any negative impacts can be retroactively adjusted for if and when a compromise is reached – likely no later than MAR, according to our latest in-depth analysis of the debt ceiling and the implications therein for Fiscal Cliff negotiations: “DEBT CEILING UPDATE: WILL SANTA’S SACK BE FILLED WITH COAL?” (NOV 16). That could turn out to be a boon for 2Q13 GROWTH, especially if 1Q13E comes in slower than initially anticipated.


Regarding point #2: We continue to get data both domestically and internationally that supports our baseline fundamental view that global GROWTH is stabilizing, which is better than slowing and not as good as accelerating. To juxtapose:


  • The supertankers within my geographic coverage areas (i.e. China and Japan) both showed weak DEC PMI data out this morning; moreover, Japan’s NOV Industrial Production data supports our view that the country’s recession will extend into 4Q12; while
  • The little boats that tow the larger boats into and out of the docks (pardon my lack of boating jargon) within my geographic coverage areas (i.e. Singapore and Hong Kong) confirmed with their NOV Industrial Production, Trade and PMI data that the global economy is, in fact, leaving the dock – albeit at a very measured pace.
  • The latest US Housing Price and Home Sales data suggests a formerly key component of the US economy is roaring back and poised to accelerate in 2013; while
  • Yesterday’s domestic Consumer Confidence bomb and generally disappointing Retail Sales figures during the Holiday Season are major causes for concerns as it relates to the sustainability of any domestic economic recovery.


How does one balance good and bad data in their head, while at the same time remaining sane enough to make capital allocation decisions? That’s easy: tune out the noise and listen the PRICE signals. For now, those signals suggest defensive positioning is warranted. Conversely, a close above 1,419 would suggest the opposite is true. Whatever you do, don't make it any more complicated than that.


Have a great weekend,


Darius Dale

Senior Analyst




Takeaway: Pending home sales rose further in November, which, in turn, raises our expectations for future home price appreciation.

Housing Demand Continues to Grow

November's Pending Home Sales data was surprisingly strong. While it didn't eclipse expectations by much, the 1.7% MoM increase comes on the heels of an unusually strong 5.0% MoM increase in October. Our demand model for projecting future home price changes uses pending home sales to forecast price changes 18 months out. Based on this morning's reading, we're increasing our expectation for upside to +18.1% (from +17.1%) over the next 18 months, or roughly 1%/month. Currently, prices are rising at a rate of 60 bps per months.






Joshua Steiner, CFA


Robert Belsky

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