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BERNANKE: WHO IS THIS GUY?

Takeaway: After listening to this unelected, unaccountable central planner’s testimony earlier this morning, all I can say is be very careful up here.

(From @keithmccullough and Keith's morning call.)

 

The top three items in my risk notebook this morning were as follows:

  1. Bernanke
  2. Bernanke
  3. Bernanke

After listening to this unelected, unaccountable central planner’s testimony earlier, all I can say is be very careful up here.

 

Here are some of my key thoughts and takeaways from the man Marxists fawn over:

  • The Serial Debaucher of your hard earned currency marches on, deciding not to acknowledge economic gravity and taper bond buying.
  • The best path for US #GrowthAccelerating is for the Fed to get out of the way. On a related note, the faster the Fed gets out of the way of #StrongDollar, the faster gas prices will finally fall and fuel U.S. consumer spending.
  • Bernanke says, “I have a great inflation track record" (all-time highs in oil, gold, and food prices during my term). The man is a world class storyteller, but a horrendous market and economic forecaster.
  • Why are consumer prices falling? Simple. Because Bernanke perpetuated the all-time highs in consumer prices back in 2011-2012.
  • Modern science and math has taught us to embrace uncertainty - Bernanke's model promises politicians certainty. Meanwhile, the certainty Bernanke promises (his forecasts, timing, etc) is certainly wrong at least 2/3ds of the time.
  • There was a day when I didn't like the policy and traded what I didn't like about it. Now I just accept it, and front-run it.

Bottom Line: Bernanke is officially the market's biggest liability. He has no idea how all of this will end. This whole thing will end in tears if he thinks he can call the turn. Be careful up here.

 

BERNANKE: WHO IS THIS GUY? - ben bernanke


JAPAN ASKS: “ARE YOU PREPARED FOR A MEANINGFUL BACK-UP IN GLOBAL INTEREST RATES?”

Takeaway: Our fundamental research & quantitative risk management signals are suggesting that global duration risk is rising at an accelerating rate.

SUMMARY BULLETS:

 

  • In recent weeks, both our fundamental research and quantitative risk management signals are suggesting that global duration risk is rising at an accelerating rate. Sure, it could be a massive head fake, but we certainly won’t be the ones holding the bag if we’re sitting here at EOY ’14 with G-7 bond yields +150-200bps higher than they are now. At a bare minimum, this is an increasingly probable scenario worth looking into.
  • As we’ve shown in previous research notes (HERE, HERE and HERE), a demonstrable backup in JGB rates could serve to apply selling pressure upon global sovereign debt securities, dragging up rates across various markets. Per the most recent Bank of America Merrill Lynch data, the spread between the nominal yields on G-7 notes and JGB yields narrowed to 61 basis points last week, the lowest since 1990!
  • While it’s not new news that investors have been increasingly shunning duration risk, we think it’s important to understand all of the moving pieces, rather than just relying on consensus expectations for what the Fed is going to do next. 

To recap those moving pieces:

  1. Domestic labor market improvement driven by a housing market recovery that itself is driven by a timely and marked acceleration in US births and household formation and a domestic consumption acceleration that is fueled by a commodity tax cut that is perpetuated by #StrongDollar are all reasons why we think Fed policy is poised for a major inflection over the intermediate term.
  2. A weakening yen that facilitates rising JGB yields that are more attractive on a relative basis should serve as an incremental drag on demand for US Treasuries stemming from Japan, which, as a country, currently represents 19.2% of total foreign demand for US Treasuries.
  3. Lastly, in a global currency war, manipulators simply need to buy less dollars to remain competitive if the USD continues to rally on trade-weighted basis (the Trade-Weighted US Dollar Index is already up +6% YTD). That ultimately equates to the central banks of commodity producing nations (many of which are EMEs) buying less US Treasuries, at the margins, in order to hold down their nominal exchange rates. The very recent blood-bath we’ve seen across the commodity currency spectrum is supportive of this view.

 

In today’s monetary policy announcement, the BOJ kept its “quantitative and qualitative monetary easing” program unchanged today, citing its view that previous measures would spur growth and lift consumer prices. The move (or lack thereof) was expected by consensus and came amid what policymakers termed "positive movements" in the Japanese economy. Central bank governor Haruhiko Kuroda downplayed the suggestions that the BOJ had lost control of the JGB market and said they would tweak the terms of its bond-buying program "as needed" to keep prices in check.

 

Net-net-net, the BOJ meeting was total non-event. In our opinion, the only important takeaway was that the BOJ plans to hold a meeting with financial institutions and institutional investors on MAY 29 to discuss recent market movements. Headlines are likely to follow – especially as it relates to the specter of rising interest rates and how the BOJ plans to facilitate that event. We’re guessing Japanese banks and pension funds – which have anywhere from 25% to 65% of their total assets parked in JGBs, depending on institution – would like an “orderly decline” of the JGB market as the Abenomics agenda progresses.

 

JAPAN ASKS: “ARE YOU PREPARED FOR A MEANINGFUL BACK-UP IN GLOBAL INTEREST RATES?” - 1

 

JAPAN ASKS: “ARE YOU PREPARED FOR A MEANINGFUL BACK-UP IN GLOBAL INTEREST RATES?” - 2

 

Perhaps the most important news of the day was the releasing of Japan’s APR trade data, which was very disappointing and highlighted some of Japan’s key macroeconomic issues that we’ve been detailing to investors for the past 12-18 months.

 

 

Export growth accelerated to +3.8% YoY from +1.1% prior vs. a Bloomberg consensus estimate of +5.4%. Import growth accelerated even more to  +9.4% YoY from +5.5% prior vs. a Bloomberg consensus estimate of +6.7%.

 

JAPAN ASKS: “ARE YOU PREPARED FOR A MEANINGFUL BACK-UP IN GLOBAL INTEREST RATES?” - 3

 

Thus far, the weakening yen has yet to prompt any structural shift in Japan’s BOP dynamics (these things take time), and that’s keeping Japan squarely in deficit territory with respect to its seasonally-adjusted trade balance, which narrowed slightly to -¥767.4B from -¥919.8B prior vs. a Bloomberg consensus estimate of -¥602.9B.

 

JAPAN ASKS: “ARE YOU PREPARED FOR A MEANINGFUL BACK-UP IN GLOBAL INTEREST RATES?” - 4

 

If the Japanese economy fails to make an import substitution adjustment prior to achieving any assumed structural increase in export competitiveness and fiscal retrenchment, we’re going to see more realized volatility in the JGB market as the current account dips squarely into deficit territory – which means Japan will be at the hostage of international creditors who’ll ultimately demand higher yields to compensate for the currency risk and Japan’s now-hawkish inflation outlook.

 

JAPAN ASKS: “ARE YOU PREPARED FOR A MEANINGFUL BACK-UP IN GLOBAL INTEREST RATES?” - 5

 

A backup across the JGB yield curve as a function of the aforementioned macroeconomic risks is amplified with Japanese domestic investors allocating financial assets to equities (currently 6.8% of the total), at the margins, in lieu of cash and bank deposits (currently 55.2% of the total, which are traditionally then intermediated into JGBs).

 

JAPAN ASKS: “ARE YOU PREPARED FOR A MEANINGFUL BACK-UP IN GLOBAL INTEREST RATES?” - 10

 

As it relates to Japan’s deteriorating BOP dynamics, the only saving grace we can think of is for Japanese bureaucrats to defy popular consensus by restarting the country’s nuclear reactors in a major way – an event rumored to be in the political works post the Upper House elections in MAR. Recall that Japan’s imports of mineral fuels increased to 34.1% of total imports in 2012 from 28.6% in 2010, which was the last full-year prior to the earthquake/tsunami. Adjusting for the impact of turning off the nuclear reactors, which subsequently increased Japan’s need to import incremental energy products, the 2012 current account balance would have been a positive 2.2% of GDP – double the reported 1.1%.

 

JAPAN ASKS: “ARE YOU PREPARED FOR A MEANINGFUL BACK-UP IN GLOBAL INTEREST RATES?” - 6

 

As we’ve shown in previous research notes (HERE, HERE and HERE), a demonstrable backup in JGB rates could serve to apply selling pressure upon global sovereign debt securities, dragging up rates across various markets. Per the most recent Bank of America Merrill Lynch data, the spread between the nominal yields on G-7 notes and JGB yields narrowed to 61 basis points last week, the lowest since 1990!

 

Even assuming that spread stays flat or that there is room for further compression given Japan’s bearish outlook for real interest rates, a material back-up in JGB yields over the next 12-18 months (akin to the 1994 and 2003 episodes) could be very hazardous indeed for bond investors around the world.

 

While it’s not new news that investors have been increasingly shunning duration risk, we think it’s important to understand all of the moving pieces, rather than just relying on consensus expectations for what the Fed is going to do next. To recap:

 

  1. Domestic labor market improvement driven by a housing market recovery that itself is driven by a timely and marked acceleration in US births and household formation and a domestic consumption acceleration that is fueled by a commodity tax cut that is perpetuated by #StrongDollar are all reasons why we think Fed policy is poised for a major inflection over the intermediate term.
  2. A weakening yen that facilitates rising JGB yields that are more attractive on a relative basis should serve as an incremental drag on demand for US Treasuries stemming from Japan, which, as a country, currently represents 19.2% of total foreign demand for US Treasuries.
  3. Lastly, in a global currency war, manipulators simply need to buy less dollars to remain competitive if the USD continues to rally on trade-weighted basis (the Trade-Weighted US Dollar Index is already up +6% YTD). That ultimately equates to the central banks of commodity producing nations (many of which are EMEs) buying less US Treasuries, at the margins, in order to hold down their nominal exchange rates. The very recent blood-bath we’ve seen across the commodity currency spectrum is supportive of this view. 

JAPAN ASKS: “ARE YOU PREPARED FOR A MEANINGFUL BACK-UP IN GLOBAL INTEREST RATES?” - 7

 

All told, the writing’s on the walls here, folks. In recent weeks, both our fundamental research and quantitative risk management signals are suggesting that global duration risk is rising at an accelerating rate. Sure, it could be a massive head fake, but we certainly won’t be the ones holding the bag if we’re sitting here at EOY ’14 with G-7 bond yields +150-200bps higher than they are now. At a bare minimum, this is an increasingly probable scenario worth looking into.

 

Darius Dale

Senior Analyst

 

JAPAN ASKS: “ARE YOU PREPARED FOR A MEANINGFUL BACK-UP IN GLOBAL INTEREST RATES?” - 8

 

JAPAN ASKS: “ARE YOU PREPARED FOR A MEANINGFUL BACK-UP IN GLOBAL INTEREST RATES?” - 9


BULLISH HOUSING DATA

Takeaway: Existing home sales volume was flat for the sixth month in a row, but inventories are showing early signs of recovery.

This note was originally published May 22, 2013 at 11:14 in Financials

Inventory "Green Shoots"

One of the gates on volume upside in housing is a lack of inventory. We're starting to see indications that that constraint may be easing.

 

The number of existing homes for sale in April rose to 2.16 million, an +11.9% increase vs. March's inventory of 1.93 million. For perspective, the average April MoM change from 2007-2012 has been +9.1%, and today's +11.9% print is the largest we've seen since 2006. 

 

Inventory growth of existing homes for sale grew in April at its fastest rate since 2007. This follows a March increase in inventory that was +1.6% MoM, which was 310 bps ahead of the 2007-2012 average change of -1.5%. So in the last two months, we've seen increases above trend of 310 bps and 280 bps, respectively. In other words, inventory is creeping back. Another way of framing this is to look at the YoY trend in inventory. April inventory is down 13% YoY, but that's a marked deceleration from the 20-25% YoY declines we saw throughout 2012.

 

The paradox of inventory is that low inventory correlates with rapid price gains, but constrains growth in transaction volume. We suspect the recent upticks in inventory reflect the falling share of underwater homes amid double-digit home price increases. An inventory recovery is also another sign that the market continues to heal. Rising home prices are continuing to alleviate the pressures of the distressed market through lower loss severity and improved cure rates (i.e. lower frequency).

 

Home Price Implications

On balance, to the extent this inventory recovery continues, we would expect to see rates of home price appreciation decelerate, though likely only modestly. Inventory is at 5.2 months supply right now, which has historically correlated with future annual home price increases of +9.2%. Alternatively, raw inventory levels of 2.16 million correlate with forward rates of home price appreciation of 8.1% YoY. These rates of appreciation are slightly below current rates, but still very strong by almost any measure.

 

Overall, this data is consistent with our ongoing bullish stance on housing.

 

Transaction Volumes

In other news, sales volumes were basically flat in April at 4.97mn units (SAAR) vs. 4.94mn in March. This marks the sixth consecutive month that inventories have been in the 4.9-5.0mn range.

 

BULLISH HOUSING DATA - april seq

 

BULLISH HOUSING DATA - inv lt

 

BULLISH HOUSING DATA - mo supply

 

BULLISH HOUSING DATA - mo supply lt

 

BULLISH HOUSING DATA - ehs

 

BULLISH HOUSING DATA - ehs lt

 

BULLISH HOUSING DATA - prices

 

BULLISH HOUSING DATA - inventory

 

Joshua Steiner, CFA

203-562-6500

jsteiner@hedgeye.com


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CANADIAN FROTH: Monitoring Stress in the Canadian Housing Market

Takeaway: The Canadian Housing Market is coming under increasing stress. Watch the Trends in home price growth and commodity price deflation.

Canadian non-seasonally adjusted Existing Home Sales declined 3.1% y/y in April while  home prices grew +2.0% according to the Teranet-National Bank 11-City composite Index  – marking the 17th consecutive month of deceleration.   

 

As a reminder, in our view of housing as a Giffen good, demand and price interact reflexively driving the self-reinforcing feedback loop characteristic of both vicious or virtuous cycles.  Within this framework, the negative demand growth and sustained price deceleration currently prevailing in the Canadian housing market is not a bullish setup.  

 

Admittedly, Canadian housing has, arguably, been overvalued for some time.  With home price appreciation still positive and Canadian and global growth marching along modestly there has been no discrete catalyst for precipitating a market correction. 

 

Now, however, with employment growth and household consumption accelerating to the downside, consumer confidence flagging, household debt ratios near peak, commodity prices deflating, and housing price growth moving towards the zero line, emergent stress in the Canadian housing market appears to be a situation worth stalking more closely on the short side.    

 

Below we highlight the recent trends in the Canadian Housing market along with key income and balance sheets trends for Canadian Households. 

 

Home Prices, Sales & Starts:  The Teranet-National Bank Home Price Index (analogous to the Case-Shiller HPI in the USA) decelerated to +2.0% Y/Y  –  the 17th consecutive month of deceleration.  New Housing Starts, meanwhile, continued to implode in April, declining 30.9% Y/Y.  Existing Home Sales activity was also weak again in April with non-seasonally adjusted sales declining -3.1% y/y.    

 

CANADIAN FROTH:  Monitoring Stress in the Canadian Housing Market - Housing Starts CA 052113

 

CANADIAN FROTH:  Monitoring Stress in the Canadian Housing Market - Home Prices CA

 

CANADIAN FROTH:  Monitoring Stress in the Canadian Housing Market - Existing Home Sales April CA

 

Canadian Housing Market Value:  The first two bar charts below are from The Economist (Link) and show housing market under/over-valuation by country relative to both rental prices and disposable personal income.  In rank order of overvaluation/risk, the Canadian housing market remains one of the most overvalued versus historical averages for both measures.    

 

The third chart compares home price growth vs wages indexed back to 1999.  The divergence between home prices and wages has been stark over the last 15 years with prices holding 36% downside to parity with earnings.  

 

CANADIAN FROTH:  Monitoring Stress in the Canadian Housing Market - CA Housing over undervaluation Economist

 

CANADIAN FROTH:  Monitoring Stress in the Canadian Housing Market - Canadian HPI vs Wages

 

Canadian Employment:  Longer-term, home prices have shown a strong relationship to labor market trends.  Payroll growth decelerated to +0.9% y/y in April and the growth trend has been slowing on both a 1Y & 2Y basis.  Household consumption growth has shown a similar, notable deceleration while Household debt growth continues to outpace income growth (discussed further below).   

 

CANADIAN FROTH:  Monitoring Stress in the Canadian Housing Market - Canada Employment vs HPI

 

CANADIAN FROTH:  Monitoring Stress in the Canadian Housing Market - Canadian Household Consumption

 

 

CANADA vs USA:  Household Debt, Income, & Housing Downside

Current Household Debt levels look increasingly unlikely to drive incremental consumption growth or asset price inflation.   Canadian Household Debt/GDP continues to rise while debt growth continues to grow at a positive spread to earnings/disposable income growth.  As a comparison, below we show the longer-term Household Debt/GDP trends for both Canada and the USA.  

 

Broadly, Canadian household debt growth is following the same trajectory as the U.S. prior to the financial crisis whereby debt growth went exponential, driving declining marginal consumption, before peaking and inflecting at 97.6% of GDP.  At 91.1% of GDP as of 4Q12, Canadian household debt capacity is moving towards an upper bound and an asymmetric setup in which some manner of household deleveraging becomes increasingly likely relative to incremental, debt catalyzed consumption growth.    

 

Indexing the Case-Shiller 20-City HPI to the Canadian home prices provides an illustration of the magnitude of peak-to-trough pricing downside for Canadian home prices from here.  Using the U.S. experience as precedent, prices hold ~40% downside from current levels.   

 

CANADIAN FROTH:  Monitoring Stress in the Canadian Housing Market - Canadian HPI vs Case Shiller

 

CANADIAN FROTH:  Monitoring Stress in the Canadian Housing Market - Household Debt to GDP

 

CANADIAN FROTH:  Monitoring Stress in the Canadian Housing Market - USA HH Debt vs Consumption Exp vs linear

 

CANADIAN FROTH:  Monitoring Stress in the Canadian Housing Market - HH Debt vs Consumption Exp vs linear

 

CANADIAN FROTH:  Monitoring Stress in the Canadian Housing Market - CA Debt Growth vs Income Growth

 

In short, the ingredients  - overvalued Housing Market, slowing employment and Income growth, Household over-indebtedness, negative housing demand and decelerating price growth  - are there for a housing correction or even a broader deleveraging.  A move to negative price growth could serve as a trigger catalyst for a market correction as could further, significant strong-dollar driven commodity deflation for the energy/commodity-oriented Canadian economy. 

 

In the case of negative home price growth, and from a Giffen cycle perspective, negative price growth would drive a further decline in demand in a successive, self-reinforcing fashion.  On the credit side, absolute declines in home values would driver tighter lending standards, reducing the pool of qualified borrowers, serving as an additional headwind to demand and overall transaction activity.    

 

As it relates to the commodity price deflation prevailing currently, total  Canadian exports are ~$500B (on total GDP of ~$1.8T) with Energy Products, Mining/Metals, and Forestry collectively representing ~38% of total exports.  If #StrongDollar continues to perpetuate broad and significant commodity deflation, the impact to the Canadian economy would not be immaterial.  If this occurs concomitant to negative house price growth, slowing employment, and peak debt, it’s not a factor cocktail you’d want to be long of. 

 

Moving forward, we’ll continue to monitor trends as we dig on the idea further.  Stay tuned.  It’s getting increasingly interesting here.   

 

Christian B. Drake

Senior Analyst 

 

 


Corn - Last Week's Planting Surge - Perspective in a Single Chart

Corn - Last Week's Planting Surge - Perspective in a Single Chart - Top Corn Plantings


Bernanke, Bernanke and Bernanke

Client Talking Points

Japan

Abe is finally acknowledging the increase in implied volatility in the JGB market. That’s new – which means it’s probably going to continue and the Japanese central planning duo of Abe/Aso are going to now have to jawbone 3 markets all at once – Weimar Nikkei, Yen, and JGBs – Godspeed with that. Nikkei rips another new high +1.6% to +51.5% YTD as the Yen hits a new low at 102.88. 

Copper

Get the dollar right, get commodities right. Copper up 1.2% (making a lower high here this morning) and Gold is trying to bounce again too – watching both very closely into and out of the Bernanke testimony; acknowledging economic gravity would be nice – that would give us a green light to do more of the same (buy Dollars, short commodities, short treasuries, buy consumption stocks, etc).

USD

#StrongDollar been front-running a subtle shift in Fed policy for months; US Dollar Index remains in a Bullish Formation with a risk range of $83.57-84.69; if Bernanke does the right thing today, shorting EUR/USD probably signals go to me today too; we’ll see; $1.30 big resistance there.

 

***We are obviously keeping a very close eye on Bernanke’s testimony today.  Good chance he panders to the Keynesian doves. What we expect him to do, and what he will likely do, remain on opposite ends of the spectrum. Meanwhile, we had all-time SPY highs in the USA again yesterday – housing data, Bernanke testimony, and jobless claims all on our 48 hour radar screen.

Asset Allocation

CASH 36% US EQUITIES 18%
INTL EQUITIES 18% COMMODITIES 0%
FIXED INCOME 0% INTL CURRENCIES 28%

Top Long Ideas

Company Ticker Sector Duration
IGT

Decent earnings visibility, stabilized market share, and aggressive share repurchases should keep a floor on the stock.  Near-term earnings, potentially big orders from Oregon and South Dakota, and news of proliferating gaming domestically could provide near term catalysts for a stock that trades at only 11x EPS.  We believe that multiple is unsustainably low – and management likely agrees given the buyback – for a company with the balance sheet and strong cash flow as IGT.  Given private equity’s interest in WMS (they lost out to SGMS) – a company similar to IGT that unlike IGT generates little free cash – we wouldn’t rule out a privatizing transaction to realize the inherent value in this company.  

WWW

WWW is one of the best managed and most consistent companies in retail. We’re rarely fans of acquisitions, but the recent addition of Sperry, Saucony, Keds and Stride Rite (known as PLG) gives WWW a multi-year platform from which to grow. 

FDX

With FedEx Express margins at a 30+ year low and 4-7 percentage points behind competitors, the opportunity for effective cost reductions appears significant. FedEx Ground is using its structural advantages to take market share from UPS. FDX competes in a highly consolidated industry with rational pricing. Both the Ground and Express divisions could be separately worth more than FDX’s current market value, in our view.

Three for the Road

TWEET OF THE DAY

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