This note was originally published at 8am on September 23, 2013 for Hedgeye subscribers.
“If personality is an unbroken series of successful gestures, then there was something gorgeous about him, some heightened sensitivity to the promise of life, as if he were related to one of those intricate machines that register earthquakes ten thousand miles away.”
- F. Scott Fitzgerald, “The Great Gatsby”
Sunday is the day that many of us spend the evening relaxing in front of the T.V. and, if the advertisers are lucky, watching live sports. If the advertisers are not so lucky, we are likely catching up on TIVOed or Netflixed T.V. shows (that lack live and targeted commercials). A fan favorite around the Hedgeye office is Breaking Bad, which coincidentally was awarded the Emmy for Best Drama last night.
For those that haven’t watched this Emmy award winning T.V. show, it is about a high school science teacher who, after discovering he has cancer, turns to cooking methamphetamine to pay for his cancer treatments and provide a level of comfort for his family. No surprise, the protagonist Walter White begins to struggle with returning back to the somewhat simple life of being a high school teacher and ultimately decides to create his own methamphetamine empire.
As Walt pursues broadening his drug empire, he becomes increasingly morally corrupt and as the title insinuates, truly begins to “break” bad and make decisions that benefit his short-term gain at the expense of almost all else. While it would be a stretch to compare the FOMC to drug dealers, even if much of the country is addicted to low interest rates, in the Chart of the Day we’ve taken a look at the 10-year yield over the last three weeks and titled it, “Breaking Bad Rates.”
To be fair, lower interest rates aren’t all bad. For those of us who want to refinance our mortgage or buy a new home, it is actually quite a good thing. From a more macro perspective though, loose monetary policy leads to a weak dollar, which sustains high commodity costs. Low interest rates also incentive more speculative type investing, which create amplified business cycles.
As the market showed us last week, even if Chairman Bernanke is not suffering from the same internal conflicts as Walter White, the world is definitely addicted to the cheap American dollars that his policy has propagated. As Bernanke said in his press conference last week:
“We want to be sure that the economy has adequate support until we can be comfortable that it is, in fact, growing the way we want it to be growing.”
Rationally, if the Chairman of the Federal Reserve comes out and questions the underlying strength of the economy, one would expect more economically sensitive asset classes to sell off, or at least be weak. That, though, is not the reality in our current centrally planned world in which addiction to low interest rates is spreading faster than Walter White’s blue meth across New Mexico.
Back to the global macro grind . . .
Speaking of breaking economic data, the news out of China this weekend is largely breaking to the positive. Septembers HSBC flash purchasing managers index came in at a better than expected and expansionary 51.2. This was also a sequential improvement from August of 50.1 and the highest reading since March. As a result, the Shanghai Composite is up more than 1.3% this morning leading most of the major Asian indices. Imagine that a stock market that actually trades on the underlying growth prospects of its economy!
Our quantitative model, actually front ran this positive data point, which my colleague Darius Dale published in a note on September 6th titled, “China Goes Bullish Trend the Only Positive Data Point That Actually Matters.” At the time, we were struggling with the myriad of data points out of China, which were still more negative than positive, but the equity market, being the sneaking leading indicator it is, ultimately signaled to us more good news was to come. And so it has.
The set up for China gets increasingly interesting if the HSBC survey is correct and Chinese GDP is set to accelerate sequentially and exceed current consensus estimates. While we are not quite ready to get aggressive on the long side of China just yet, we do like those economies with accelerating growth and benign inflation. In fact, we’d call that breaking good and at a minimum we would not short China.
To be fair, none of the structural headwinds that we’ve been researching and writing about have gone away, but on the margin things do appear to be getting less bad at a time when the majority remains overly cautious on China. According to a Bloomberg poll from last week, which surveys Bloomberg Professional users, more than 32% cited a slowing China as the #1 risk to the global economy and only 17% indicated they believe that China’s economic outlook is improving. Didn’t know the consensus view on China? Now you know.
Speaking of breaking good, the economic data out of Europe this morning is also largely positive. While the Eurozone flash manufacturing PMI edged down to 51.1 in September from 51.4 in August, both the Services and Composite PMI hit 27-month highs. Now this is just one data series, but the potential for a sustained European recovery is a theme that you will likely see us highlight more and more often heading into year-end.
Our immediate-term Macro Risk Ranges are now as follows:
UST 10yr 2.58-2.81%
Good luck out there this week.
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research