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"Better than bad" is not "good"


METI Industrial Production data released today registered at 5.24% on a month-over-month basis, the largest increase on a M/M basis in 56 years and the second consecutive increase.  The news bolstered hopes that the worst in now over for Japan as marginally increasing exports and inventory depletion helped get the wheels turning again in several production categories.




Unfortunately the glass half full argument appears to us to be undermined by the data.  On a year-over-year basis total production for April still declined by a measure of over 31% with durable goods production declining over 41% -effectively taking absolute production back to levels last seen a generation ago.  Although on a sequential basis output of basic industrial products like fabricated and non-fabricated metals and plastics improved for the month, the continued decrease of output of transportation equipment, heavy machinery and other highly engineered products suggests that Korean factories -helped by a weakened Won, continue to place competitive pressure on Japanese rivals in the higher margin segments of heavy industry.


One of the bright spots to note for April was electronic products, which saw very significant improvement in output levels, with the rippling impact of increasing Chinese demand helping to drive production to a Y/Y decline of 37%, a 10% improvement over March levels and the smallest decline since November of last year. Passenger automotive also saw slight sequential improvement on marginal export recovery.  None of this was sufficient to stem rising job loss as official unemployment registered at 5%, the highest level since 2003 and within half a percent of the highest levels the nation has experienced since 1953.


We view today's data as mixed at best, with some marginal improvement but certainly no indication that a bottom has been found for the land of the rising sun. We fortuitously covered our EWJ short position yesterday, locking in a modest gain ahead of this news, but we continue to maintain a negative bias on the Japanese economy. Unlike the emerging Asian economies, which appear to be showing early signs of real recovery, and South Korea and Taiwan, who are being impacted more directly by "the Client"  and currency inflections, Japan still appears firmly stuck in a rut to us. The only positive catalyst that could sway our near term opinion on Japanese equities would be a weakening Yen.


Andrew Barber


Chart Of The Year Update: Pending US Dollar Crisis?


After seeing today's smack-down selling and follow through (the US Dollar Index is getting hammered, trading down a full -1.5% to $79.36!), I am comfortable stating as plain fact that the US Dollar has moved into pending crisis mode.


Pending Crisis? What's that? It's something that you need to address, acutely, before it becomes an outright disaster. Don't start managing risk after things crash - start addressing the probability of a crisis when it starts to threaten to move into the heart of the bell curve.


Three weeks ago, before the USD broke my long term TREND line of $81.54, I was comfortable being long the REFLATION trade ("Breaking The Buck" is a call I have been making for 6 months). Three weeks ago I considered a US currency crisis "tail risk" (i.e. a 3% or less chance of happening). Today, I think there is at least a 33% chance. That's way too high for me.


If you take a long term view of the US Dollar's history and go back to the date that matters most (1971, when Nixon abandoned the gold standard and started what would be limitless global credit creation using a US Dollar peg), there has only been 1 other time when the US Dollar Index sustainably broke the $80 level - that other time was Q407' to Q208'. What happened to the US stock market after that breakdown is now history.


I don't get paid to pander to the US government's position on this. Politicians and bankers get paid as debt obligations deflate. At this stage of the game, everyone is getting paid here via the REFLATION trade other than the real creditors of the US Financial System that matter: the Chinese government and American savers.


Breaking The Buck pays people like it should via REFLATION. Crashing it will have many unintended consequences. It will be global this time, indeed.


Be careful out there,



Keith R. McCullough

Chief Executive Officer


Chart Of The Year Update: Pending US Dollar Crisis? - crisis




Post election optimism and some better-than-bad data in India masks serious potential pain on the horizon


Today's data release from the ministry of statistics  showed that Indian GDP grew at a better than hoped for rate in Q1: 5.8% Y/Y. Although the rate of growth has now contracted on a y/y basis for 5 consecutive quarters the figure still represents much better than anticipated recovery in response to government stimulus programs and rate cuts. This is good news indeed for The victorious Singh Administration as it attempts to shore up confidence, but it still greatly lags government target growth rates needed to drive higher employment and consumer demand.   




Prime Minister Singh's initial moves in his new term are critical. India needs to borrow a significant amount to implement new stimulus and social programs, bringing the total borrowing for the year to 3.62 trillion Rupees - yet with total public debt above 75% of GDP there is a real chance that the country's credit ratings will slip below investment grade exacerbating already expanding long term yields.   Any move that could undermine confidence in the nation's credit carries risk since a stronger Rupee will be critical, with over 80% of current external debt already denominated in foreign currencies and new capital raises likely to be issued in USD, not to mention an import dependence for key commodities.



Inflation and Debt  


Wholesale price Inflation levels released yesterday by the Ministry of Commerce registered below 1% for the 11th consecutive week. With inflation seemingly tamed, market expectations are squarely pegged on continued easing from the central bank as the government gets down to the business of kick-starting growth. One cloud on the horizon however has been the continuing resilience of consumer inflation, with the measure for rural workers still hovering above 9% and urban measure over 8%. With government subsidies currently insulating consumers from direct energy commodity pressure (more below) the discrepancy is driven by pressure in consumer staples  -making further rate cuts less tenable.





Note that earlier this week the Food Ministry responded to rising sugar prices by banning new contracts and new positions in existing contracts on the National Commodity Exchange in Mumbai. Prices of Sugar have been up sharply on anticipation of major shortfalls in domestic production for the current cycle, with an expectation that India will be a net importer this year for the first time since 2006.


Another new development is a move by the newly empowered INC administration to lift fuel price caps and allow refiners to maintain natural margins in response to lower oil prices. This lifts a major burden from state controlled energy companies and has driven equities sharply higher but it also adds an element of inflationary risk in the near term if oil reflation (or rupee deflation) resumes.


Still, this week's news is decidedly net positive for India Equity Bulls and, more importantly, for the Indian economy and people. Singh -a massively respected leader before this new victory, has been handed a very large check in the form of the optimism sweeping the nation post election, and he will need every ounce of that goodwill to buoy sentiment as his administration makes some very tough calls. As investors we continue to remain skeptical on the long term prospects for the Indian Economy and have a short term bias on the equity market there.


Andrew Barber


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Steinhardt: Leder Tracking the Legend

In April Research Edge announced that Footnoted.org has joined the Research Edge platform, creating additional competitive advantage for Research Edge subscribers.  We found this to be a post worth of passing on given the asymmetric views people have of where the hedge fund industry goes from here...


Michelle's thoughts follow:

We take a break from our usual troll through the filings because last night, I had a chance to hear legendary hedge fund investor Michael Steinhardt speak at a Brandeis event at the Harmonie Club. Though Steinhardt has been retired from the industry for nearly 15 years now, and said he spends most of his time on philanthropic issues, including trying to set up a charter school that focuses on teaching Hebrew in (of all places as the Brooklyn native joked last night) Gerritsen Beach, he had lots to say about the current economic situation, including how impossible it is to really predict anything.

During the hour-long talk, I attempted live tweeting, focusing on the market-related issues (as opposed to the other questions that came up about philanthropy and Jewish education) though I don't think Twitter was able to give the full flavor of the talk, which was really incredibly interesting and more than a bit inspiring.

Of particular interest to footnoted readers were Steinhardt's comments on the SEC losing its way (he also said the Department of Justice had too). He also said that the current period has "made me less of a capitalist" because so far at least, it has been a "punishment-free period." That's particularly interesting given Steinhardt's personal history with regulators. Some might remember that back in the early 1990s, Steinhardt settled with the SEC and DOJ over an investigation over T-bills, personally paying over $50 million in fines. He said the money management industry had "failed miserably" and that hedge funds were "no longer a place for the best and the brightest".

During the talk, he kept returning to the theme that everyone is a product of the last tick. So with markets going up since early March, there's an expectation that they will continue to go up. Ditto for back in September, when things started imploding. But the contrarian - and it would be hard to describe Steinhardt as anything but - doesn't follow the crowd. Steinhardt also kept returning to the theme of creative destruction and said that while some companies had been allowed to fail, there was "no appetite for short-term pain" like allowing GM to fail.

Afterward, as I stood in line to introduce myself, I heard the guy behind me - a fellow alum - say, "It must be nice to make a billion bucks and tell everyone else that they have it all f-ing wrong." Needless to say, he didn't say that to Steinhardt directly.


Steinhardt: Leder Tracking the Legend - footnoted.org

BKC – In panic mode

The discounting at Full Service chains is having an impact on QSR!

BKC failure to be irreverent in its advertising strategy has put the company in panic mode. In a business where you are in competition with a company like McDonald's, that out spends you by a multiple of three and can currently do no wrong, any misstep is painful.

Apparently, Burger King plans to focus more of its advertising message on value items. The value message has been working for a year at MCD and more than six months at Wendy's and now the marketing department at BKC have determined that "The current marketplace is demanding value and the company is being responsive to that consumer-driven demand." This is embarrassing!

Burger King focused on premium products; trying to capture market share from casual dining chains was a mistake from the beginning. In a difficult economy, a concept highlighting premium products in a segment of the restaurant industry that has a perceived value bent has proven very difficult to achieve.


The aggressive value message being put forth by the casual dining chains cannot be ignored, and courtesy of Burger King we now have proof of the fact.

While the increased discounting can negatively impact margins if not handled properly, declining food can mitigate some of the margin pressure. On the margin, the increased discounting definitely takes away any potential upside there may have been and increases the risk to the downside.

The news on Burger King only confirms my negative thesis on CKE Restaurant (CKR) as it continues to try holding the line on discounting. The continued decline in traffic at the core Carl's Jr. will ultimately force the company to give up some margin to get more people in the door!

Was anyone really going to buy an "Angry Whopper" with an Ad like this.....?


BKC – In panic mode - bkcads


Game On

"I went to a fight the other night, and a hockey game broke out."
 - Rodney Dangerfield
That quote is for my boss who loves a good quote, but is preparing for a Bloomberg TV interview right now so he has less control over what I'm doing! I digress!
As it stands going into today's market action we will likely end on a positive note for the month.  Currently, for the month the Dow is +2.89%, S&P +3.90%, Nasdaq +2.01%, and Russell 2000 +0.95%.  We are getting to the end of the line here as people try to protect their month end.  Next week starts a new month - Game On!
After a good, solid month like this and with the S&P at 906, it is important to remember that "less bad" is different from "good."  We now need "good" to be the dominant story and I don't think we are there yet.  Coming into the last day of the month, the risk reward for the S&P 500 has 888 on the down side and 919 on the upside.    
Yesterday's market action saw the USD down again intraday, which means REFLATION up!  The reality is that the only parts of the market that were working were things that America isn't the only incremental buyer (Energy (XLE), Materials (XLB), OIL (USO), etc...).  The glaring negative divergence in performance was in Consumer Discretionary (XLY).  
The negative divergence in consumer discretionary is occurring at a time when two of the four key aspects of our MEGA consumer call are starting to turn slightly negative.  (G)as - nationwide gas prices at the pump stand at $2.45 a gallon, up $0.40 in a month and (M)oney - right now the average rate for 30-year fixed-rate loans is 5.44%, the highest level since early February.  
When consumers worry more about their potential gasoline bills, consumer spending slows.  With oil trading at $65 and looking to go higher, it's only a matter of time.  Also, the implication of higher mortgage rates supports our call that the "less bad" news on housing (part of the A(ssets) in MEGA) is behind us.  We are also seeing increased consumer credit and deleveraging concerns gaining momentum.
Yesterday, we Re-shorted the US dollar as a vote of no confidence.  A number of polls have suggested that Treasury Secretary Geithner will not be in his job by year end and now he is headed to China.  Supposedly he will urge China to boost domestic demand and loosen controls on the Yuan! It's a nice thought, but the reality is he can't "urge" them to do anything. He is going to China and they will end up telling him what to do.  We need them more than they need us.  
This is a trip President Obama did not want to make because he could potentially be seen as weak, knowing the Chinese will tell him what to do.  So what does he decide to do, send his treasury secretary who is perceived as weak and who most Americans don't believe should be in the position he is in.  So what is the right thing for us to do - short the dollar!    
The biggest loser on the day yesterday was Bill Ackman.  If you were unsure if activist investing went the way of the buggy whip, you are sure of it now.  Target Corp. said yesterday a preliminary count shows shareholders "by a comfortable margin" appear to have re-elected the company's four incumbent directors and backed a proposal to set the board's size at 12, dealing a sucker punch to activism.
Not only has Bill Ackman lost billions on his investment in Target, he has now spent millions trying to save face by tying to get on Target's board, all for nothing! Courtesy of CNBC, Bill had seemingly endless time on air to make his case and that did not work because he had nothing to offer. His response to all of this: "We can work together going forward, but these guys run the company. We do not want to get involved in any kind of day-to-day involvement."  
Please stop right now!
Function in disaster; finish in style
Howard Penney
Managing Director


CAF - Morgan Stanley China Fund- A closed-end fund providing exposure to the Shanghai A share market, we use CAF tactically to ride the wave of returning confidence among domestic Chinese investors fed by the stimulus package. To date the Chinese have shown leadership and a proactive response to the global recession, and now their number one priority is to offset contracting external demand with domestic growth.

EWD - iShares Sweden-The country issued a large stimulus package to combat its economic downturn and the central bank has effectively used interest rate cuts to manage its economy. Sweden's sovereign debt holds a strong AAA rating despite Swedish banks being primary lenders to the Baltic states. We expect Sweden to benefit from export demand as global economies heat up.

XLV - SPDR Healthcare-Healthcare looks positive from a TRADE and TREND duration. We've been on the sidelines for the last few months, but bought XLV on a down day on 5/11 to get long the safety trade.

TIP- iShares TIPS - The iShares etf, TIP, which is 90% invested in the inflation protected sector of the US Treasury Market currently offers a compelling yield on TTM basis of 5.89%.  We believe that future inflation expectations are currently mispriced and that TIPS are a compelling way to own yield on an inflation protected basis, especially in the context of our re-flation thesis.

GLD - SPDR GOLD -We bought more gold on 5/5. The inflation protection is what we're long here looking ahead 6-9 months. In the intermediate term, we like the safety trade too.

UUP - U.S. Dollar Index - We believe that the US Dollar is the leading indicator for the US stock market. In the immediate term, what is bad for the US Dollar should be good for the stock market. Longer term, the burgeoning U.S. government debt balance will be negative for the greenback. The Euro is up versus the USD at $1.4082. The USD is down versus the Yen at 95.9510 and down versus the Pound at $1.6128 as of 6am today.

XLU - SPDR Utilities - As long term bond yields breakout to the upside, Utility investments are the relative yield loser. This was not the case yesterday. We remain short.  

EWW - iShares Mexico- We're short Mexico due in part to the repercussions of the media's manic Swine flu fear.  The country's dependence on export revenues is decidedly bearish due to volatility of crude prices and when considering that the country's main oil producer, PEMEX, has substantial debt to pay down and its production capacity has declined since 2004. Additionally, the potential geo-political risks associated with the burgeoning power of regional drug lords signals that the country's economy is under serious duress.

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