“Nothing is certain but the unforeseen.”
No stranger to intellectual debate, British author James Anthony Froude (1) was well-known for stirring the pot – perhaps even more so than @HedgeyeDJ (Daryl Jones, our no-holds-barred DoR) and @HedgeyeENERGY (Kevin Kaiser, our oft-controversial senior energy analyst).
Froude’s generally polemic works were often met with fierce debate and rejection among the British intellectual elite – perhaps none more so than his seminal work The Nemesis of Faith (1849), which was carefully crafted to call into question blind acceptance of the popular Christian doctrine of the time. Widespread public backlash in response to the novel ultimately cost Froude his fellowship at Oxford University.
Eventually Froude’s avoidance of institutionalized groupthink won out. Froude and his wildly contentious ideas ultimately found a permanent home when he was appointed Regius Professor of Modern History at Oxford (i.e. a really big deal) in 1892 – the very institution he was driven away from nearly a half-century prior. During his regrettably brief stint at Oxford (he died in 1894), Froude quickly earned a reputation for being among the most popular lecturers of his time.
If nothing else, Froude’s journey from the top to the bottom and back again is a lesson for analysts young and old to avoid the safety and comfort of groupthink. Never is this advice more important than when a time-tested, comprehensive and repeatable research process leads one to hold a counter-consensus view. Hold the LINE [short], Kaiser!
Back to the Global Macro Grind…
Incorporating another one of Froude’s lessons, we call attention to the aforementioned quote in the context of China’s banking system woes – which, thanks to the recent spate of legacy media coverage, are now as obviously present as a 6’3”, 325lb left tackle in one of Froude’s 19th century lectures.
Specifically, anyone even tangentially following recent press will arrive at the conclusion that a growing consensus among analysts across both the buy and sell sides believes with a fair amount of certainty that China’s credit binge and alleged housing bubble are sure to cause a Western-style financial crisis.
We aren’t so sure. With less than 2% of all financial assets held by foreigners, strict capital controls have, thus far, prevented a mass exodus of liquidity through the capital account. Domestically speaking, the PBoC’s own words from yesterday should douse any hopes of a crisis:
“Financial institutions’ cash reserves stood at about 1.5 trillion yuan ($244 billion) as of June 21, compared with the 600 billion yuan or 700 billion yuan sufficient under normal circumstances to cover payment and clearing needs. The present liquidity is not insufficient.”
Indeed, by comparing China’s present-day banking woes to the early tremors of Bears Sterns or juxtaposing China’s property market – rife with “ghost cities” – with our own pre-crisis froth, consensus has undeniably fallen victim to the availability heuristic. We don’t think that’s a prudent call to make at the current juncture; the Chinese sovereign has the resources, political will and mobility to prevent any Western-style financial crisis.
We’ve become a broken record on this, but it’s critical to remember that China’s present day economic woes are actually a function of very deliberate macroprudential policies. While highly unlikely, at any given time, Chinese officials can reverse course and keep the credit bubble inflating longer than any of us short-sellers can remain solvent.
On the contrary [to consensus], we think the outlook for China’s banking sector is likely to resemble that of a slow bleed, rather than sudden cardiac death. We’ve published a ton of work recently backing our conclusions with detailed analyses, but for those of you who weren’t able to tune in until now, we’ll take this opportunity to rehash our views:
- In the face of slowing deposit growth, the confluence of rising NPLs and/or the perpetual debt rollovers of SOE borrowers on top of balance sheets clogged with long-term assets that are held to maturity is something that should remain a sustainable headwind to the abundance of liquidity across the Chinese financial system.
- From a deposit growth perspective, it’s rather unlikely that Chinese households save more at the margins – especially in the context of the Communist Party’s economic rebalancing agenda. Moreover, structural headwinds to export growth (CNY overvaluation, sluggish growth in China’s #1 export market (i.e. the EU) and SAFE’s regulatory crackdown on “fexports”) should continue to limit inflows of new external capital into the Chinese economy as well.
- All things considered, we expect credit growth to slow sharply from recent levels and remain sustainably slower for the foreseeable future. We expect that outcome to weigh on observed rates of economic growth and future growth expectations, which should reflexively perpetuate greater [unreported] NPL exposures.
- By layering on the structural NIM-compression that will be the [highly] likely result of interest rate liberalization – which the PBoC recently affirmed they are forging ahead with – we have formulated a potent three-pronged bearish thesis for Chinese financials and property developer stocks.
- As such, we anticipate a long-lasting drag on both earnings growth (not as important for Chinese equity valuations) and sentiment (very important to Chinese equity valuations) over the long-term TAIL. Equity capital raises from the banking sector and broad-based capital outflows – assuming capital account liberalization goes as planned – are not at all improbable scenarios.
- From an immediate-term TRADE perspective, however, we do think China’s cyclical banking system woes are reasonably priced in. As such, we actually expect to see some form of a relief rally at some point over the immediate-term, driven by speculators following through on yesterday’s soft backstop out of the PBoC and what may morph into USD-debauching, anti-tapering headlines out of the Federal Reserve with the UST 10Y yield showing increasing signs of convexity of late.
- We are however, inclined to fade any such strength in the event the SHCOMP approaches its immediate-term TRADE line of resistance up at 2,123. With Chinese stocks nearing full-on crash mode since their late-MAY highs, that line is approximately +8.8% higher from today’s closing price, which, for the second consecutive day, took out the near-4Y lows established last DEC.
- Alas, it remains our view that the headwinds facing China’s banking system are structural (i.e. NOT cyclical) in nature.
Please email us if you’re interested in reviewing the full compendium presentation materials and research notes backing these conclusions, and we’ll get them right over to you. We also have a list of ancillary securities and asset classes to underweight/sell/short if you’re interested in those as well.
At any rate, we urge you to embrace the uncertainty of this situation by running full speed away from anyone who tells you they know how this all ends.
In fact, the only certainly anyone can promise you regarding these risks is that the outcome is presently unforeseen and, quite possibly, hidden deep within the “shadows” of China’s financial sector.
Our immediate-term TRADE Risk Ranges are now (TREND bullish or bearish in brackets):
UST 10yr Yield 2.35-2.69% (bullish)
SPX 1 (bearish)
DAX 7 (bearish)
Nikkei 12,406-13,449 (bearish)
VIX 16.59-20.98 (bullish)
USD 82.21-83.39 (bullish)
Euro 1.30-1.32 (neutral)
Yen 96.25-99.17 (bearish)
Oil 99.18-103.39 (bearish)
NatGas 3.64-3.82 (bearish)
Gold 1 (bearish)
Copper 2.98-3.12 (bearish)
Keep your head on a swivel,
This note was originally published at 8am on June 12, 2013 for Hedgeye subscribers.
“I am not remotely interested in just being good.”
If you can’t tell I like winning, you probably haven’t met me yet. I think I hate losing more than I love winning. The only way not to be average in this game is to play on a great team. I am not remotely interested in just playing on a good one.
What makes a good analyst? What makes a bad one? What makes an average PM? What makes a great one? After playing on 3 big buy-side teams, then building my own here while we collaborate with client teams, I can tell you that greatness in this profession comes down to one very basic thing – having a repeatable, but flexible, process.
Once you have that – you have to do what Lombardi did. You have to find it within you to lead your teammates to believe in both the process and themselves. I’ve had the privilege of playing on a championship team on the ice. When individuals find a way to put the collective goal above themselves, you have an opportunity to drink from the cup.
Back to the Global Macro Grind…
It’s not cocky, arrogant, or whatever else someone who just wants to be good thinks you are when you get up every morning and tell them you are going to beat them. For some of us, that’s just the goal. Expecting to win is a culture – don’t apologize for it.
I was on the New York CFA Society’s Big Data panel for a 2 hour debate last night in NYC. The panel was a typical mix between academia, industry, and market practitioners. One academic guy was from Morgan Stanley. One industry guy was from IBM.
Harry Blount (CEO of Discern) was moderating the panel. He’s a former sell-side analyst building an independent research firm and he gets the game. He asked us to A) define Big Data and B) explain how we use it.
For me, this was a relatively easy exercise. Building, evolving, and explaining my multi-factor, multi-duration approach to real-time risk management is what I do. For some of the academic guys in the room, it was very difficult to understand what I was saying – primarily because they don’t do what I do.
What is it that you do?
That’s how I ended the book Rich Blake and I wrote about the early stages of my hedge fund career. For those of you who have read the book, you know that I have a lot of issues. Most humans do. It’s just hard to put those flaws on paper.
My career has been good, not great. And I don’t want it to end that way. That’s why I ended the book with what I go to bed with and wake up to every morning of my market life – questions...
And, oh do I have a lot of big ones in my notebook this morning:
- What if the US Dollar snaps my intermediate-term TREND line of $81.21?
- What if the USD/YEN cross breaks down through 95.85 TREND support?
- What if the SP500 continues to signal a series of lower-highs versus her all-time high of 1669?
- What if the VIX continues to signal a series of intermediate-term higher-lows?
- What if Tim Tebow wins a Championship with Belichick?
That last question found its way into my notebook after I saw the headline in the New York Daily News this morning “God Help Us!” Losers question champions. That’s fine. That is what they do. And what we want to do is answer the bell come game time.
I am not interested in being labeled a perma bull or perma bear. I am not interested in what the tired aristocracy of the Old Wall thinks about my style either. To win championships as a Global Macro Strategy team, we need to focus on results.
Being right requires being flexible. When the quantitative TREND signals change, we need to start questioning our positions. When the signals are head-fakes, we need to remove all confirmation bias from the research and make a call on that and timestamp it too.
This will change, but for now, if you want to get Global Equities right, you have to get the US Dollar right:
- Intermediate-term TREND correlation between USD and SPY on a 6 month duration = +0.84
- Intermediate-term TREND correlation between USD and EuroStoxx600 (6mths) = +0.81
- Intermediate-term TREND correlation between USD and Emerging Markets (6mths) = -0.54
Fortunately, this has been the upshot of our Global Macro Themes for the last 6 months. As the US Dollar A) stabilized then strengthened from its 40 year low and then B) broke out across longer-term durations = good for US and European stocks = bad for Emerging Market stocks (the aforementioned inverse correlation is to the MSCI EM Index).
So, what if the US Dollar starts to break-down from a TREND perspective? What happens if Bernanke doesn’t “taper” as the bond market now expects him to in September? What happens if the Japanese completely screw this up faster, instead of slower?
Anything can happen out there. That’s why I think Belichick likes Tebow inasmuch as I like hiring players who have the intangibles that I cannot teach. To be the change in strategy, I need players who are disciplined but flexible – and who expect to win.
What am I going to do with this leadership rant and all these questions today?
- Let Mr Market answer them for me
- If he answers the questions faster, I’ll move faster
- If he answers the questions slowly, I’ll take my time
Managing risk, slow and fast – that’s what great players in this game do. If you just want to be good at this, don’t be flexible. It’s a lot less work and your day will be a heck of a lot less introspective. I am not remotely interested in promising you certainty.
Our immediate-term Risk Ranges for Gold, Oil, US Dollar, USD/YEN, UST 10yr Yield, VIX, Nikkei, and the SP500 are now $1362-1411, $100.28-105.09, 80.79-82.36, 95.85-99.53, 2.14-2.23%, 14.84-17.98, 12,603-13,815, and 1607-1658, respectively.
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer
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Relied upon by big institutional and individual investors across the world, this granular morning newsletter distills the latest and most vital market developments and insures that you are always in the know.
THE MACAU METRO MONITOR, JUNE 26 2013
MACAU LEGEND CUTS IPO SIZE BY MORE THAN HALF Macau Business
Macau Legend has cut its initial public offer shares to 934.8 million from an earlier 2.05 billion. The company cites that current market conditions have changed. The offer price range remains unchanged at HK$2.30 (US$0.3) to HK$2.98 each. The price determination date is now July 2. Trading is expected to start on July 5.
Macau Legend, headed by David Chow Kam Fai, was previously looking to raise up to US$786 million (MOP6.3 billion) through its IPO on the Hong Kong Stock Exchange. Now, it could raise up to US$358 million.
LAS VEGAS SANDS SAYS CFO KAY LEAVING Bloomberg
Kenneth Kay will leave effective July 31. The company didn’t give a reason. Kay will provide transition services as part of a six-month consulting agreement, the Las Vegas-based casino and resort company said in a filing yesterday.
TODAY’S S&P 500 SET-UP – June 26, 2013
As we look at today's setup for the S&P 500, the range is 54 points or 1.77% downside to 1560 and 1.64% upside to 1614.
CREDIT/ECONOMIC MARKET LOOK:
- YIELD CURVE: 2.16 from 2.20
- VIX closed at 18.47 1 day percent change of -8.16%
MACRO DATA POINTS (Bloomberg Estimates):
- 7am: MBA Mortgage Applications, June 21 (prior -3.3%)
- 8:30am: GDP Q/q, 1Q final, est. 2.4% (prior 2.4%)
- 8:30am: Personal Consumption Expend., 1Q final, est. 3.4%
- 8:30am: GDP Price Index, 1Q final, est. 1.1% (prior 1.1%)
- 10am: Fed’s Fisher, Lacker testify on financial regulation to House Financial Services Committee
- 10:30am: DOE Energy Inventories
- 11am: Fed to buy $2.75b-$3.5b debt in 2020-2023 sector
- 1pm: U.S. to sell $35b 5Y notes
- 10am: Supreme Court will rule on Prop. 8, Calif. initiative banning same-sex marriage, and DOMA, a law denying federal benefits to legally married gay couple
- 10am: Sen. Finance Cmte hearing on future of health care
- 10am: House Budget Cmte hearing on energy development for economic growth, jobs
- House Finl Svcs Cmte holds hearing on possibility of further taxpayer-funded bailouts resulting from Dodd-Frank; FDIC Vice Chairman Thomas Hoenig testifies
- 10:30am: Senate Budget Cmte holds hearing on consequences of federal budget decisions on future generations
- 1:30pm: House Energy and Commerce panel on energy, power holds hearing on the renewable fuel standard
WHAT TO WATCH
- Gold hits lowest since Sept. 2010, silver lowest since Aug. 2010
- China swaps drop a 4th day as PBOC eases cash squeeze
- Democrat Markey wins Mass. Senate race for Kerry’s seat
- Las Vegas Sands says Kay will leave as CFO
- Draghi says deficit cuts in euro area should be growth friendly
- EU resumes battle of how to impose losses at failing banks
- Wal-Mart India head leaves 7 mos. after local CFO suspended
- Australian PM Julia Gillard calls Labor party leadership vote
- Marc Rich, commodities trader, died aged 78 in Switzerland
- Stratasys plans acquisitions for 3-D printers that use metals
- China starts investigation to ensure accuracy of eco. data
- Square to process payment online, taking on PayPal: WSJ
- General Mills (GIS) 6:58am, $0.54 - Preview
- Lindsay (LNN) 7am, $1.80
- UniFirst (UNF) 8am, $1.38
- Monsanto (MON) 8am, $1.59 - Preview
- AGF Management (AGF/B CN), 8am C$0.16
- Herman Miller (MLHR) 4pm, $0.36
- Paychex (PAYX) 4:01pm, $0.38
- Bed Bath & Beyond (BBBY) 4:15pm, $0.93 - Preview
- Progress Software (PRGS) 4:15pm, $0.22
- HB Fuller (FUL) 5:25pm, $0.70
COMMODITY/GROWTH EXPECTATION (HEADLINES FROM BLOOMBERG)
- Marc Rich, Fugitive Commodities Trader During 1980s, Dies at 78
- Gold Bear Market Hits Hardest in South Africa Mines: Commodities
- Australia Cuts Iron Ore Estimate as China’s Expansion Slows
- Gold Slips to 34-Month Low as Precious Metals Slide on Fed View
- Copper Seen Dropping on Slower Chinese Growth as Stockpiles Gain
- Gold’s Slump Signals Fed Can’t Fuel Inflation: Chart of the Day
- Government to Call Meeting of Malaysian Palm Planters Over Haze
- WTI Crude Drops as U.S. Supplies Remain Near Three-Decade High
- Rubber Declines to Lowest in Nine Months on China Demand Concern
- Soybeans Decline on Concern USDA May Raise U.S. Acreage Estimate
- Coal Crippled by Supply in Worst Quarter in Year: Energy Markets
- France Says ‘Satisfied’ With Farm Ministers’ Agreement on Policy
- Europe-to-U.S. Gasoline Arbitrage Cargoes Increase 64% in Survey
- China’s Corn Crop Seen Rising to Record as Imports Set for High
The Hedgeye Macro Team
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