This note was originally published at 8am on June 27, 2013 for Hedgeye subscribers.
“There is thy gold, worse poison to men’s souls,
Doing more murder in this loathsome world,
Than these poor compounds that thou mayst not sell.”
My colleagues and I ventured up to Toronto (nicknamed Hogtown due to the vast pork processing plants that used to call Toronto home) yesterday to meet with some old clients and some new prospects. The first prospect’s office we strode into had a massive solid gold coin and paintings from French Impressionists on the walls. Clearly, the commodity, and in particular gold, boom, has been good to Canadian investment managers.
As we made our rounds yesterday, it became increasingly obvious that Canadian money managers were also doing their utmost to diversify from this commodity heritage and in the short run that means diversifying more into U.S. equities. In part, this was actually due to a perception of potential strength in the U.S. dollar, a theme which is very near and dear to our hearts, of course.
One manager actually made a very interesting point on gold companies, which was that as the majors were being increasingly forced to hedge out gold prices, they put their company at even greater risk in the future if, and when, gold prices and operating costs increased. His view is that intrinsic value of many major Canadian gold companies is substantially lower than where Mr. Market is currently valuing them.
Given how much fun we’ve had analyzing the hedging strategies of LINN Energy, the Canadian gold sector may be an interesting short research project to work on next. But as always, while you can marry your longs, it’s highly recommended to only date your shorts.
Back to the global macro grind . . .
Despite a little bit of a market freak out last week, global markets are seemingly stabilizing. An important tell for us on this front is sovereign debt markets in Europe where, logically, risk capital seems to flee first. After peaking over 5% on Monday, Spanish 10-year bonds are back down well below 5% and on their way back to 4.5%.
Admittedly, though, even as some of the risk has decreased over the past couple of days, the low volume price recovery in many key markets has been uninspiring. In Asia, the bounce has been very uninspired with China down small over night and Hong Kong only up 0.5% for the second day of its bounce. In Europe, Greece is back in crash mode as is down -2.7% this morning.
Speaking of yields, the future direction of yields on U.S. Treasuries is one of the topics our international clients are increasingly focused on, which is no surprise given the blood bath that has occurred in the U.S. government debt market over the last thirty days. But, where will yields go from here?
Many bond experts had been adamant that the Federal Reserve would defend the 2% line on the 10-year. Clearly, that was about as defendable as a Canadian Football League offense against a NFL defense. In the Chart of the Day, we look at the yield on the 10-year going back ten years. On a basic level, if the market truly begins to price in the end of quantitative easing, the blood bath in the bond market is likely in early days.
Conversely, as interest rates go up in the U.S., this should bode well for the U.S. dollar especially given the positive relative position versus the Yen and the Euro. In Japan, to generate anywhere close to 2% inflation will require substantially more quantitative easing. Meanwhile in Europe, the continued economic bifurcation between countries makes it unlikely the ECB will tighten anytime soon. On the last point, the best example of this is like the gap in unemployment rate of Germany at 6.8% and the rest of the Euro zone at 12.2%.
Another key theme that will continue to play out if rates in the U.S. increase and the U.S. dollar naturally strengthens is Emerging Markets outflows. In fact, in the strong dollar era from 1995 to 2001, the SP500 CAGR was 15.8% and the CAGR of the MSCI EM Index was -5.3%. Conversely, in the weak dollar period of 2001 to 2011, the SP500 CAGR was 1.4% and the MSCI EM Index returned 14.5%. Now clearly, there were and are other factors at play, but the U.S. dollar will continue to be one of the most influential.
As it relates to interest rates, today’s jobless claims print will be the most important data we will get through the end of the week. If claims are better than expected, then interest rates are likely to continue their ascent. So far, equities have not acted well with interest rates breaking out to the upside, though that could change if a stabilizing economy becomes increasingly evident.
The global markets are having a difficult time finding their identity. As Shakespeare wrote:
“All the world’s a stage, and all the men and women merely players: they have their exits and their entrances; and one man in his time plays many parts, his acts being seven ages.”
Indeed, we are all stock market players. The key is to make sure, whether it is gold, U.S. treasuries, or LINN Energy, that we are not the last players to exit.
Our immediate-term TRADE Risk Ranges are now (TREND bullish or bearish in brackets):
UST 10yr 2.39%-2.74% (bullish)
SPX 1558-1618 (neutral)
DAX 7606-8096 (bearish)
Nikkei 12,578-13449 (bearish)
VIX 15.17-20.97 (bullish)
USD 82.27-83.67 (bullish)
Euro 1.29-1.31 (bearish)
Yen 96.41-99.53 (bearish)
Oil 98.98-103.36 (bearish)
NatGas 3.64-3.89 (bearish)
Gold 1207-1316 (bearish)
Copper 2.98-3.12 (bearish)
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research
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“Any society that would give up a little liberty to gain a little security will deserve neither and lose both.”
Who is this guy? Seriously. Bernanke is un-elected and un-accountable – but, evidently, has the power to change the entire risk parameters of the economy with an un-qualified market timing opinion that spits in the face of economic data.
I get the whole fear-mongering love for Ben thing. Politicians and bankers who put the country on the brink saved us from themselves in 2008 – or so they claim. Nailed it. Even if you believe that, it was so 2008-2009. We’re half-way through 2013 for God’s sake.
The last time I saw Dick Fuld, he was living large at my golf club; Timmy Geithner just got paid $200,000 to speak at an #OldWall conference ; and bankers who are long FICC (Bill Gross too) are begging Bernanke for more. Is this the society Franklin and Jefferson had in mind?
Back to the Global Macro Grind…
Thanks for letting me get that off my chest. If it’s not self-evident to you that markets are going right squirrel on this, your internet connection must be down. Pardon the pun, but in a nutshell:
So here’s the deal - Ben Bernanke is not only going to A) time the economic cycle (even though his growth forecasts have been wrong 58-73% of the time, depending on what year you use), he’s also going to B) time the market cycle.
Actually, to be balanced, what he’d say he’s attempting to do (which is unprecedented by the way during a recovery) isn’t timing, per se. I think these Keynesian types who have never risk managed a market or run a business in their life call it “smoothing.”
I call that reckless.
Mucker’s Policy Advice: longer-term, Mr. Market is already pricing in #StrongDollar and #RatesRising, so just let it go pal. Let free-market prices and economic cycles clear; or your legacy will be that of someone who kept trying to re-flate bubbles as they were blowing up.
If Bernanke doesn’t take Mr. Market’s advice on this, here’s what is most likely going to happen:
In other words, with Oil prices ripping a move above our long-term TAIL risk line of $108.11/barrel this morning, Bernanke is going to effectively give everyday Americans an enema again. Not cool.
This is not new territory for this conflicted cat. Remember what he did with his “communication tooling” in September of 2012? He said he would print to infinity and beyond and commodities (Gold) had their last hurrah on that.
Then, within 2-3 months, markets were in bedlam, US Consumption growth tanked, and the USA printed a Q412 GDP number of 0.38%!
It’s especially awesome for the guy who gets paid to run Gold Bond funds. Why don’t we take rips on this volatility roller coaster over and over and over again? Bernanke is on the switch – we’ll have 3 coasters on the same track at the same time; he’s wicked good on timing!
What’s my economic strategy this morning?
Seriously. What on God’s good earth am I supposed to recommend you do on this? Lever yourself up with asset classes that are crashing? Fortuitously, we aren’t short anything related to Bernanke’s banker boy bonuses (FICC – Fixed Income, Currencies, Commodities). And we’re not short anything PIMCO yet either, so maybe I’ll just sell everything and take the rest of the summer off.
I’m getting really tired of all this un-American central planning anyway. We’ve had a great year, and there’s no way I’m letting whoever this guy thinks he is make me give it all back.
Our immediate-term Risk Ranges are now as follows:
UST 10yr 2.41-2.77
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer
THE MACAU METRO MONITOR, JULY 11, 2013
MACAU MOGUL LAWRENCE HO COMMITS TO CASINO IN RUSSIA WSJ
Lawrence Ho's Summit Ascent Holdings Ltd. said Wednesday it agreed to buy a 46% stake in an initial US$130 million phase of the casino project on the outskirts of Vladivostok. Melco International Development Ltd, which also is run by Ho would take a 5% stake. It is unclear if MPEL is not involved.
Ho and his Russian associates also signed a memorandum of understanding to be equal partners in a second phase of the project, estimated to cost US$500 million. Ho's companies cited Russia's low tax rate, proximity to northeast China, "cordial diplomatic relationship" with Beijing and Vladivostok's tourism potential as reasons for the investment.
The first phase of the planned casino resort in Primorye—a vast eastern region bordering China and Korea—is scheduled to open in September of next year. The developers plan to build around 120 hotel rooms and install 65 gambling tables and 800 slot machines. The second phase could include 170 gambling tables, 500 slot machines, 500 hotel rooms and entertainment and conference facilities.
GOVT SAYS TOURISTS' CASH DECLARATION WON'T UNDERMINE MACAU'S FREE PORT STATUS Macau News
Secretary for Economy and Finance Tam Pak Yuen said that cash flow across the border would not be restricted “as long as it is not related to money laundering”, insisting that the city’s status as a free economy and free port would hardly be affected by the possible implementation of the cash declaration system. The purpose of the system was to enable “higher transparency and monitoring of the flow of cash", he added.
When asked if the “threshold” was currently being studied, Tam said that “the relevant entity is studying the amount suitable for Macau’s situation”, reiterating that the first priority was to study “if Macau needs to implement this system”.
Tam also said that the cash declaration system “is not targeting the gaming industry,” stressing that the possible measure was not “a limitation on the movement of cash at all.”
SJM HOLDINGS SIGNS NON-GAMING ENTERTAINMENT FOR COTAI Macau Business
Olympics 2008 supplier Beijing Gehua Cultural Development Group will create an entertainment precinct and cultural attractions for SJM Holdings Ltd’s Cotai development. The RMB2-billion (MOP 2.6 billion) deal will lead to the creation of the Wonderland of Art and Literature, including performances, exhibitions and amusement park rides based on Chinese cultural themes.
TODAY’S S&P 500 SET-UP – July 11, 2013
As we look at today's setup for the S&P 500, the range is 42 points or 1.55% downside to 1627 and 0.99% upside to 1669.
CREDIT/ECONOMIC MARKET LOOK:
MACRO DATA POINTS (Bloomberg Estimates):
WHAT TO WATCH
COMMODITY/GROWTH EXPECTATION (HEADLINES FROM BLOOMBERG)
The Hedgeye Macro Team
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