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Bull/Bear Class

“The first question to be answered is this: What constitutes a class?”

-Karl Marx

 

Most classically liberal economic historians will recall that Karl Marx and his ideology of #ClassWarfare went out on a low note. The aforementioned quote comes from the final chapter of Marx’s “Capital” in 1894 – not surprisingly, it was called “Classes.”

 

Capital” was published long after Marx and Engels issued their now infamous “The Communist Manifesto” (1848). It wasn’t unlike some of the fear-mongering pablum you hear from American politicians today – a political strategy born out of crisis.

 

In Britain, they called this mid-19th century economic crisis The Hungry Forties. Charles Dickens’ “A Christmas Carol” was published in 1843 as a progressive answer to the regressive social-fear being perpetuated by Marx, Carlyle, Malthus, etc. I’m the son of a firefighter and a teacher – I wasn’t raised thinking about Marx’s first question. I don’t think it’s healthy to lead from that perspective either.

 

Back to the Global Macro Grind

 

I don’t believe in Class Warfare. It’s a cowardly top-down ordering of humanity by our leaderless #PoliticalClass that attempts to pin us against one another for their political gain. The only class war I see in this country is between them, and the rest of us.

 

I don’t believe in being part of the Perma-Bull or Bear Class either. That’s so Old Wall. It’s such a marketing thing too. I believe in freedom of choice and bottom-up personal liberties. That includes being able to change my mind.

 

I guess that means I’d be a bad politician.

 

To review my decision making process – there are two big parts:

 

1.       The Fundamental Research Process

2.       The Quantitative Risk Management Process


They are not the same thing. Neither do they always agree. When the research and risk management signals are aligned, I either get loud about my rising conviction or I tone it down and reverse course.

 

In mid-November, both the research and risk management signals changed to bullish on both Global Growth’s Slope (stabilizing instead of slowing) and equity market direction (the SP500 held its long-term TAIL support line of 1364). So, we changed.

 

That doesn’t mean this morning’s risks have gone away (I listed my Top 3 Risks in yesterday’s Early Look):

  1. #EarningsSlowing
  2. Rising Oil Prices
  3. Japanese Policy

It simply means I don’t wake up at the top of every risk management morning looking for confirming evidence to my current positioning. To review that position from an asset allocation perspective this morning:

  1. We have our highest Global Equity asset allocation in a year
  2. We have a 0% asset allocation to Fixed Income
  3. We have a 0% asset allocation to Commodities

So, when the research and risk management signals are lined up, I don’t beat around the bull or bear bush – I make the call. No, that doesn’t mean this should be the pension fund asset allocation of the government of Qatar – it simply means that for my hard earned wealth, I like equities, straight up, over bonds.

 

Our bearish call on Commodities isn’t new. We have been making it since March of 2012. It’s probably a little long in the tooth, so we covered our Gold (GLD) and Gold Mining (GDX) shorts on red this week after getting immediate-term TRADE oversold signals. That doesn’t mean I am bullish on Gold; it just means I can re-short it on the bounce at my immediate-term TRADE overbought signal.

 

This is a tough game. There are multiple durations and multiple risk factors to consider. But it’s proven to be a lot tougher ever since the SP500 topped in 2007, Oil topped in 2008, and Gold topped in 2011. We try not to buy tops.

 

Has the SP500 topped for 2013?

 

I don’t think so. In fact, if the front-end of Earnings Season delivers (the Financials report first with Wells Fargo on Friday and  they will have relatively strong growth due to the strength in both Housing and the Yield Spread), Mr Macro Market may have this right.

  1. The Financials (XLF) are already the best performing S&P Sector at +3.5% YTD
  2. The 2-day correction in the SP500 came on a DOWN volume signal (volume is now accelerating on the UP days)
  3. US Equity Volatility (VIX) risk management signals are telling me the VIX wants to make lower-lows

So, we’ll see if I am right or wrong on this. That’s why we keep score. In the meantime, if you ever see me becoming perma anything, send me a friendly reminder that it’s time to retire to the class of mediocre minds who are inflexible.

 

Our immediate-term Risk Ranges for Gold, Oil (Brent), Corn, US Dollar, EUR/USD, UST 10yr Yield, VIX, and the SP500 are now $1, $110.23-112.71, $6.80-6.89, $79.99-80.72, $1.29-1.31, 1.84-1.96%, 13.34-15.11, and 1, respectively.

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Bull/Bear Class - Chart of the Day

 

Bull/Bear Class - Virtual Portfolio


THE M3: MGM COTAI GAZETTED

The Macau Metro Monitor, January 9, 2013

 

 

MACAU GIVES MGM CHINA GREEN LIGHT ON COTAI CASINO WSJ

MGM China has received official approval from the Macau government for its Cotai project.  MGM Cotai will include a five-star hotel, gambling space and open areas on a 17.8 acre site.  MGM China reiterated in a statement that the resort, with a budget of $2.5 billion, will include approximately 1,600 hotel rooms, 500 gambling tables and 2,500 slot machines as well as restaurant, retail and entertainment offerings.  Construction, for which the company still needs government approval, is expected to take up to three years.



The Marshmallow Experiment

This note was originally published at 8am on December 26, 2012 for Hedgeye subscribers.

“Strength does not come from physical capacity.  It comes from an indomitable will.”

-Mahatma Gandhi

 

It is a quiet week at Hedgeye and in the markets this week.  Keith is spending some time with his family, so I’ve been handed the pen on the Early Look.  My family decided to take a little vacation in the Canadian Rockies for the holidays.  As a result, this note is coming to you from Banff, Alberta in all of its -30 degrees Celsius glory.

 

Similar to most vacations, I’ve taken an opportunity in the downtime to do some reading.  The most interesting book I’ve picked up this holiday season is called, “Willpower”, and was written by Roy Baumeister and John Tierney.  This is not one of those books in which the title has a double meaning - the book is in fact about will power. 

 

As the authors write, when psychologists attempt to identify the key traits that lead to positive outcomes in life they consistently come up with two: intelligence and self control.  Interestingly, the first trait, intelligence, is considered to be somewhat innate and researchers have thus far been unable to permanently increase a person’s intelligence.  Self control, on the other hand, can be improved.  In fact, according to Baumeister and Tierney, improving self control, or willpower, is the surest path to a better life.

 

One of the most interesting studies that support the relationship of willpower to positive life outcomes is the Marshmallow Experiment.  This experiment was conducted by Stanford psychologist Walter Mischel in 1972 and its original objective was to study how children learn to delay gratification.  In the experiment, four year olds were put in a room alone and told that they could eat a marshmallow whenever they wanted, or if they waited until the experimenter returned they would get two marshmallows.

 

Interestingly, Mischel’s daughters attended the school where the Marshmallow Experiment occurred, so he kept hearing anecdotes about the marshmallow kids from his daughters after the experiment had ended.  Naturally, this led Mischel to do follow up research on the children that had participated in the experiment. 

 

The follow up research showed that those four years olds who were able to hold off for the second marshmallow had SAT scores that were on average 210 points higher, earned higher salaries, had lower body mass indexes, and lower rates of divorce.  The results of this experiment surprised many academics, since prior to this experiment it was thought that childhood characteristics were not accurate predictors of future success.

 

Since discipline is an attribute of most great investors, I’m sure many of those men and women that went on to have great careers as stock market operators would have waited for the second marshmallow.  As for politicians, I’m not so sure.  If the most recent policy stalemate implies anything, it is that elected officials don’t really want any marshmallows.  The caveat over the last 24 hours is that President Obama has made the decision to end his Christmas vacation early and will return to Washington, D.C. today, thus the futures are up this morning.  Santa Claus Rally anyone?

 

So, even as President Obama is coming back in hopes of getting his proverbial second marshmallow, it remains very unlikely that the fiscal cliff gets resolved in 2012.  Senator Mitch McConnell, who has been a catalyst for prior bargains, is having none of it this year as he looks toward a re-election campaign in 2014 and recently stated:

 

“We don’t know what Senator Reid will bring to the floor.  He is not negotiating and the president is out of town.  So I don’t know what they are going to do over there.”

 

The Republicans in the House, of course, have also not been able to accomplish much. Speaker Boehner’s attempt before the holidays to get his members to support a tax increase on incomes over $1 million was not successful. The likely reality is that we are looking at a short term solution that allows Congress more time to negotiate.  If this reminds you of the definition of insanity, doing the same thing over and over again and expecting different results, it should.

 

The other major concern related to the influence of politicians is the debt ceiling.  According to the most recent data from the Treasury Department, the total outstanding U.S. government debt was $16.30 trillion as of December 21th.  This is just shy of the statutory debt limit of $16.39 trillion, a number which is likely to be violated in early January 2013.

 

So, where is Washington on resolving the looming breach of the debt ceiling? Well, according to InTrade, the online prediction market, the odds of the debt ceiling being raised by year-end are currently at 10%.  Similar to the fiscal cliff, our elected officials have decided to wait until both of these issues are directly upon us and volumes are back in the New Year.  I suppose this is a version of waiting for two marshmallows, albeit not a positive version.

 

Clearly, if we get past the inability of the politicians in Washington to put their partisan bickering aside and reach a workable solution to both the fiscal cliff and debt ceiling, then 2013 may shape up to be a positive year for equities.  As Keith has been writing, global growth seems to be bottoming (one of the more recent supportive global data points this week is Taiwanese Industrial Production hitting a nine month high on Monday), commodity inputs look to be on a deflationary path, and housing in the U.S. is poised for a parabolic recovery in terms of home prices.

 

The last point is critical for growth surprising on the upside in the U.S. as the value of the consumer’s home has historically shown a high positive correlation to their discretionary spending intentions.  A sustained housing recovery is the proverbial marshmallow that many U.S. focused investors have been patiently waiting for over the last five years.  Based on our models, 2013 could well be the year where that happens.

 

Our immediate-term Risk Ranges for Gold, Oil (Brent), Copper, US Dollar, EUR/USD, UST 10yr Yield, and the SP500 are now $1636-1671, $106.21-109.77, $3.49-3.58, $79.13-79.99, $1.30-1.33, 1.70-1.85%, and 1419-1450, respectively.

 

Keep your head up and stick on the ice,

 

Daryl G. Jones

Director of Research

 

The Marshmallow Experiment - Chart of the Day

 

The Marshmallow Experiment - Virtual Portfolio


Daily Trading Ranges

20 Proprietary Risk Ranges

Daily Trading Ranges is designed to help you understand where you’re buying and selling within the risk range and help you make better sales at the top end of the range and purchases at the low end.


TRADE OF THE DAY: BA

Today we bought Boeing (BA) at $73.37 a share at 3:02 PM EDT in our Real-Time Alerts. Both our risk management signal (immediate-term TRADE oversold) and Hedgeye Industrials Sector Head Jay Van Sciver's research view (maintenance issues will be corrected - there are no real alternatives), say buy Boeing here, so we will. Nice dividend yield from this price.

 

TRADE OF THE DAY: BA - TOTD


PATIENCE SHOULD PAY DIVIDENDS IN INDIA

Takeaway: We are warming up to India on the long side, but plan to wait ~2-3 months for what we think could be a much better entry point.

SUMMARY CONCLUSIONS:

 

  • Given our short-cycle outlook for the Indian economy (i.e. Quad #3 in 1Q = Growth Slowing as Inflation Accelerates), we don’t think the RBI, led by Governor Duvvuri Subbarao, will be inclined to ease as soon as many are hoping (~MAR) and we believe this pushing out of monetary easing expectations by at least one quarter is one of the core reasons the SENSEX and the rupee have underperformed over the past month.
  • However, we don’t think the aforementioned timing catalyst is strong enough to run out and short the SENSEX or the INR with. If anything, it should just keep India’s benchmark equity index from making a new all-time high (north of 21k on the SENSEX) in the coming 1-2 months.
  • Moreover, a probable ~six-month stay in Quad #1 (Growth Accelerating as Inflation Decelerates) of our G/I/P chart starting in 2Q should provide the RBI with the macroeconomic cover to acquiesce to market demands for aggressive monetary POLICY easing – especially if Singh & Co. make additional headway in the fiscal reform department.
  • Regarding fiscal reform, the key India-specific catalyst that looks to dominate domestic headline risk between now and then is undoubtedly the unveiling of the FY14 budget. For the sake of India’s investment-grade credit rating, Finance Minister Palaniappan Chidambaram and his team must get serious about fiscal sobriety. Ultimately, that means cutting spending, overhauling the tax code and just saying “no” to subsidies – a very difficult task indeed, given the political pressure to “buy” votes ahead of the MAY ’14 parliamentary elections.
  • All told, we will patiently look to use any US Debt Ceiling-induced weakness to increase our allocation to India on a pullback(s) heading into 2Q – provided our quantitative signals support that move at the time.

 

Since the start of DEC, India’s 10YR sovereign debt yield has plunged -27bps to a ~two-year low of 7.91% on the strength of widespread expectations for monetary POLICY easing in the next 1-3 months. The aforementioned move on the long end has pancaked India’s 10YR-1YR* (no actively traded 2YR note) yield curve to a nine-month low of -3bps wide – a move that is likely foreshadowing a trip to Quad #3 (i.e. Growth Slowing as Inflation Accelerates) on our G/I/P chart.

 

PATIENCE SHOULD PAY DIVIDENDS IN INDIA - 1

 

PATIENCE SHOULD PAY DIVIDENDS IN INDIA - INDIA

 

GROWTH should slow from somewhat impressive rates within this current cycle (DEC Manufacturing PMI: 54.7 from 53.7 prior; DEC Services PMI: 55.6 from 52.1 prior) and INFLATION should be buoyed on the margin by the late-year diesel price hike and a weak currency, which has fallen -6.5% vs. the USD since its cycle peak on OCT 4; that compares to a regional median gain of +0.5% and is good for the second-sharpest decline in Asia over that duration (the JPY fell -10%).

 

PATIENCE SHOULD PAY DIVIDENDS IN INDIA - 3

 

By the end of the second quarter, Bloomberg consensus has the RBI cutting its benchmark repo and reverse repo rates by a cumulative -50bps each. Directionally similar, the buy-side is a bit reserved in magnitude, pricing in -42bps relative to the benchmark on the 1YR OIS tenor and -6bps relative to the benchmark on the 1YR sovereign debt note.

 

PATIENCE SHOULD PAY DIVIDENDS IN INDIA - 4

 

Given our short-cycle outlook for the Indian economy (i.e. Quad #3 in 1Q = Growth Slowing as Inflation Accelerates), however, we don’t think the RBI, led by Governor Duvvuri Subbarao, will be inclined to ease as soon as many are hoping (~MAR). Moreover, India’s deteriorating current account dynamics and a still-underwhelming fiscal POLICY outlook are likely to continue keeping RBI board members awake at night just enough to remain data dependent on monetary POLICY. Despite the RBI’s recently adopted focus on GROWTH, we view rate cuts in India as more of a 2Q-3Q event as opposed to a 1Q catalyst.

 

PATIENCE SHOULD PAY DIVIDENDS IN INDIA - 5

 

Jumping back to Indian fiscal POLICY, Finance Minister Palaniappan Chidambaram has pledged to narrow the budget shortfall to 5.3% of GDP this fiscal year, from 5.8% in FY12. With a decade-low fiscal year GROWTH target of +5.7%, we don’t think Chidambaram’s deficit-to-GDP target is sober enough to warrant Subbarao abandoning his long-held view that India requires meaningful fiscal retrenchment to create ample space for the RBI to meaningfully ease monetary POLICY.

 

We believe this pushing out of monetary easing expectations by at least one quarter is one of the core reasons the SENSEX and the rupee have underperformed over the past month. Since our 12/6 note backing off of the short side of Indian equities and the rupee (“SINGH WINS THIS ROUND IN INDIA”), the SENSEX has appreciated just +1.3%, which compares to a regional median gain of +4.4%. The INR has fallen -1.3% vs. the USD over that same duration, which compares to a regional median gain of +0.1%.

 

If just on the strength of our quantitative factoring alone, however, we don’t think the aforementioned timing catalyst is strong enough to run out and short the SENSEX or the INR with. If anything, it should just keep India’s benchmark equity index from making a new all-time high (north of 21k on the SENSEX) in the coming 1-2 months.

 

PATIENCE SHOULD PAY DIVIDENDS IN INDIA - 6

 

Moreover, a probable ~six-month stay in Quad #1 (Growth Accelerating as Inflation Decelerates) of our G/I/P chart starting in 2Q should provide the RBI with the macroeconomic cover to acquiesce to market demands for aggressive monetary POLICY easing – especially if Singh & Co. make additional headway in the fiscal reform department. That would be supportive of continued inflows of foreign capital into both India’s debt market (which foreign investors have been increasingly allowed to participate in; up +26% in 2012) and Indian stocks. Importantly, such inflows would be supportive of the INR, which Bloomberg consensus sees strengthening +4.7% by year-end from near all-time lows vs. the USD.

 

PATIENCE SHOULD PAY DIVIDENDS IN INDIA - 7

 

PATIENCE SHOULD PAY DIVIDENDS IN INDIA - 8

 

All told, we will patiently look to use any Debt Ceiling-induced weakness to increase our allocation to India on a pullback(s) heading into 2Q – provided our quantitative signals support that move at the time.

 

The key India specific-catalyst that looks to dominate domestic headline risk between now and then is undoubtedly the unveiling of the FY14 budget. For the sake of India’s investment-grade credit rating, Finance Minister Palaniappan Chidambaram and his team must get serious about fiscal sobriety. Like yesterday. Ultimately, that means cutting spending, overhauling the tax code and just saying “no” to subsidies – a very difficult task indeed, given the political pressure to “buy” votes ahead of the MAY ’14 parliamentary elections.

 

Darius Dale

Senior Analyst


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