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$USD Debauchery: Repercussions

Takeaway: Dollar debauchery has consequences.

$USD Debauchery: Repercussions - doll1

Shhh. Don’t tell the Fed, but that Down Dollar (The one that’s down five weeks in a row), well it's kick-starting that ‘ole 2011-2012 style inverse correlation to Commodity Inflation again.

 

Lovely.

$USD Debauchery: Repercussions - C mon man

Right now, Brent Oil vs. US Dollar has an inverse correlation of -0.66  on a 6-week duration. Both Brent and WTIC are up about 1% this morning after Brent held our Hedgeye TAIL risk support of $109.07/barrel. We covered our Oil short yesterday.

 

Great news for America as we head into the thick of winter with heating bills and all. Right?

 

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AVIATING CHINA: CRASH LANDING?

Takeaway: The key to a safe “landing of the [growth] plane” is an expedited, well-implemented deregulation of FDI and portfolio flows.

This note was originally published December 04, 2013 at 14:44 in Macro.

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AVIATING CHINA: CRASH LANDING? - china1

 

CONCLUSIONS:

  • Conflicting signals from Chinese officials have made it difficult to handicap China’s TREND & TAIL GIP outlook(s) in recent months. We offer our latest thoughts in the note below.
  • We are decidedly back to analyzing China with a sanguine lens and are increasingly of the view that it probably warrants playing China alone (i.e. not via consensus ancillary “China plays”) on the long side with respect to the intermediate-term TREND.
  • With respect to the long-term TAIL, we still would like to see concrete implementation of capital account and FX reforms, as well as more safeguards put in place to limit the risk of a broadly destructive transition to a fully liberalized financial system (email us if you’d like to receive a walk-though of the specifics and a recent collection of confirming evidence).
  • It could be over a year before we have meaningful clarity on the latter, so our best solution for clients at the current juncture is to overweight “new China” (i.e. consumption and deregulation) while underweighting (or shorting) “old China” (i.e. the concomitant bubbles in credit and fixed assets investment), as highlighted in the chart below.

At the bare minimum, 2013 has been a weird year to be involved in China – either directly through Chinese equity exposure or indirectly through consensus ancillary plays like EM assets, commodities, and the currencies of commodity-producing nations.

 

While we consider it a huge victory for our team to have kept our clients out of or on the short side of those ancillary plays all year (and prior), that is certainly not to say we’ve nailed China or anything to that nature.

 

In the following table, we highlight the absolute bloodbath that has occurred across the commodity complex since we first introduced our structurally negative view on commodities back in APR ’11 as part of our Deflating the Inflation quarterly macro theme. We’ve obviously followed that up with numerous notes and presentations over the past couple of years, so please email us if you’re not yet familiar with our long-held bearish bias on the commodity complex and we’ll be happy to forward you the relevant materials.

 

AVIATING CHINA: CRASH LANDING? - dale1

 

Going back to not nailing China, we’ve been keen to change our stance on China multiple times in the YTD (% changes reflect the performance of the Shanghai Composite Index over the respective duration):

 

 

The predominant reason we’ve changed our tune on China so many times this year has been due to policy inflections that have materially altered (or complicated) our rolling-thee-to-six-month forward expectations for the Chinese economy. Amid this ~3M long period of admittedly-unattractive neutrality, we’ve analyzed China in both a positive and negative light, highlighting both the key opportunities and risks to China’s long-term GIP outlook along the way:

 

Sanguine tone:

 

Pessimistic tone:

 

We are decidedly back to analyzing China with a sanguine lens and are increasingly of the view that it probably warrants playing China alone (i.e. not via consensus ancillary “China plays”) on the long side with respect to the intermediate-term TREND.

 

With respect to the long-term TAIL, we still would like to see concrete implementation of capital account and FX reforms, as well as more safeguards put in place to limit the risk of a broadly destructive transition to a fully liberalized financial system (email us if you’d like to receive a walk-though of the specifics and a recent collection of confirming evidence).

 

It could be over a year before we have meaningful clarity on the latter, so our best solution for clients at the current juncture is to overweight “new China” (i.e. consumption and deregulation) while underweighting (or shorting) “old China” (i.e. the concomitant bubbles in credit and fixed assets investment), as highlighted in the chart below:

 

AVIATING CHINA: CRASH LANDING? - 2

 

Going back to the intermediate-term TREND outlook, we think China has the opportunity to surprise consensus growth expectations to the upside into and potentially through 2014, after what is likely to be a brief dip into Quad #3 here in 4Q13:

 

AVIATING CHINA: CRASH LANDING? - CHINA

 

AVIATING CHINA: CRASH LANDING? - 4

 

AVIATING CHINA: CRASH LANDING? - 5

 

Moreover, we think China has the potential to continue distancing itself from the carnage that has become the emerging markets space. It will seek to accomplish this by enticing international capital flows (both FDI and portfolio) away from beleaguered EM economies, at the margins, through a combination of strengthening the CNY and promoting its use internationally, as well as through incremental deregulation and investor-friendly incentives.

 

AVIATING CHINA: CRASH LANDING? - 6

 

Below is a compendium of data points we’ve come across in the past couple of weeks that support this view:

 

  • Reuters noted that the PBoC said China will begin rolling out financial liberalization reforms in the Shanghai free-trade zone within three months. PBoC Shanghai chief Zhang Xin said the reforms would be launched within three months, evaluated after six months and formal policies would be fully implemented by the end of a year. He added the policies will serve as models for other regions as they move to create their own FTZs. (StreetAccount)
  • Xinhuanet noted that Zhang Xiaoqiang, deputy head of the National Development and Reform Commission, said China will simplify its foreign investment approval process in order to introduce a registration-based system for foreign investment projects. Zhang said that the government will further enhance the role of foreign investment in its market-oriented economic development. (StreetAccount)
  • Reuters reported that the yuan overtook the euro in October to become the second-most used currency in trade finance. SWIFT said the market share of yuan usage in trade finance grew to 8.66% in Oct, up from 1.89% in January 2012. The yuan now ranks second behind the US dollar, which has a share of 81.1%. (StreetAccount)
  • Dim Sum bond issuance has accelerated to the fastest pace since June 2012 as China’s pledge to move toward yuan convertibility boosts demand for the currency. Sales reached 27 billion yuan ($4.4 billion) in November, almost five times as much as October’s 5.8 billion yuan, according to data compiled by Bloomberg. Yuan savings in Hong Kong rose the most since April 2011 to a record 782 billion yuan in October. (Bloomberg)
  • The WSJ noted that foreign real estate developers eager to capitalize on rising consumption in China are increasingly raising funds to invest in warehouses and shopping malls. Data from PERE showed developers and their subsidiaries have raised $3.5B for China projects so far this year, eclipsing the $2.2B raised in all of 2012 and just shy of the $4B raised by private-equity and other fund managers. (StreetAccount)
  • Xinhuanet noted that Zhou Xiaochuan said China should increase the qualification and quota of QDII and QFII investors to help them with their activities. He added that administrative approval procedures for QDII and QFII qualification and quotas shall be eliminated "when conditions are ripe". (StreetAccount)

All told, we still think China has a lot of credit bubble-related skeletons in its closet that will increasingly become a headwind to Chinese economic growth over the long-term TAIL. For the time being, however, we think Chinese officials are putting the right policies in place to offset those headwinds, at the margins.

 

Please feel free to email us with any follow-up questions.

 

DD

 

Darius Dale

Associate: Macro Team

 

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From Chicago to France: E-Cig Regulatory Winds Are Blowing

As we inch ever closer into year-end, there remains an industry wide expectation that the FDA is set to announce regulatory restrictions on electronic cigarettes. The exact timing? It’s anyone’s guess.

 

We believe the industry is bracing for regulation that could include:  

 

1) A ban of online commerce

2) Age verification standards at retail

3) Flavor limitations (beyond tobacco and menthol)

4) Health/safety certifications

5) Labeling and marketing requirements

 

(For a more comprehensive overview of the industry and regulation please see our recent report: “E-Cigs at the Thanksgiving Table”)

 

As the inevitable FDA announcement draws near, we want to highlight some notable, recent regulatory winds blowing against e-cigs in Chicago and New York City, as well as in France. While we continue to maintain a very bullish outlook overall on e-cigs, especially with Big Tobacco’s participation in the category, these regulatory initiatives, if legally enacted, would represent headwinds to the category.

 

Chicago and NYC

  • In late November, Chicago’s City Council held preliminary meetings to consider regulating e-cigs as traditional tobacco, and include them under the Indoor Clean Air Act. This could include such measures as increasing the age of purchase to 21 from 18, moving them to the back counter at retail, as well as banning use in parks, restaurants and bars.
  • Last week, the NYC City Council held similar meetings to those held in Chicago. That said, NYC has already voted to raise the age to buy traditional tobacco and e-cigs to 21 from 18, and raise the minimum price per pack of traditional cigs to $10.50 (set to take effect in APR/MAY 2014).
  • Both Chicago and New York are expected to put their respective measures to final votes this month. If passed, they would go into effect sometime in January of next year.
  • Currently, New Jersey, North Dakota, Utah and Arkansas and have “lumped in” e-cig products in with tobacco under their indoor smoking bans. Meanwhile, Minnesota has changed its definition of tobacco products to include e-cigs and subjected them to tobacco-like taxes.

France

  • A French court in Toulouse ruled yesterday that tobacconists should have exclusive rights to sell e-cigs; France's 27,000 tobacconists already have a monopoly on selling traditional cigs in the country.
  • If legislation were to follow the court’s reasoning, it would force e-cig stores to close.
  • Right now, there are an estimated 300 shops selling e-cigarettes in France.
  • E-cig sales in France are expected to more than double to around 100MM EUR this year.
  • France's Health Minister Marisol Touraine is on record saying she wants to ban e-cigs from public spaces and ban advertising on them.

Stateside, depending on the eventual FDA ruling on e-cigs (on the Federal level), we could very well see a number of states being called to action to define and/or redefine e-cigs and tax rules around them. 

 

Bottom line: Despite increasing regulatory headwinds in the U.S and abroad, we remain very bullish on e-cigs.

 

 

Matthew Hedrick

Associate


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[podcast] McCullough: Keep Moving Out There

Hedgeye CEO Keith McCullough discusses his latest take on the market and says it doesn't matter whether you think the Fed should have tapered in September. That ship has sailed. What matters is what decisions you make next.

 


Extended (Again): SP500 Levels, Refreshed

Takeaway: There’s mean reversion risk down to 1734 TREND (-4.1% downside) versus +0.4% upside from the all-time closing high of 1808.

POSITION: 5 LONGS, 5 SHORTS @Hedgeye

 

During the 5-day correction in the SP500 (which ended Thursday) I went to 11 LONGS, 3 SHORTS. So all I am doing here is aggressively managing the immediate-term risk of this market’s range. #GetActive remains one of our Top 3 Global Macro Themes for Q413.

 

Unconventional markets call for unconventionally active risk management.

 

Across our core risk management durations, here are the levels that matter to me most:

 

  1. Immediate-term TRADE overbought = 1815
  2. Immediate-term TRADE support = 1785
  3. Intermediate-term TREND support = 1734

 

In other words, the immediate-term risk range = 1 and, from an intermediate-term TREND perspective, there’s mean reversion risk down to 1734 TREND (-4.1% downside) versus +0.4% upside from the all-time closing high of 1808.

 

The less I try to over-think this, the better. The math works more than it doesn’t.

KM 

 

Keith McCullough

Chief Executive Officer

 

Extended (Again): SP500 Levels, Refreshed - SPX


Household Debt & Net Wealth: Streak Ends at 18

Summary:  Adjusted Household Net Wealth is just south of peak 2007 levels, Household Debt-to-GDP continues to decline and aggregate household credit growth went positive for the 1st quarter in 18 alongside sequential increases in both consumer and mortgage debt.   A summary review of household debt & balance sheet trends from the latest, 3Q13 Flow of Funds report from the Federal Reserve below.   

 

 

Household Net Wealth:  Household net wealth is +13.6% above the prior 2007 peak on a nominal basis, +2.7% on a inflation adjusted basis, and -1.5%  when adjusted for both inflation and the number of households.  Reported net wealth should continue to advance alongside ongoing home price growth and higher equity market highs. 

 

Putting aside the disproportionate benefit and wealth equality implications stemming from financial asset price inflation, asset/collateral inflation and a strengthening in the aggregated household balance sheet should continue to drive some measure of wealth effect spending and support capacity for incremental credit (more below).

 

Household Debt & Net Wealth:  Streak Ends at 18 - US Household Balance Sheet 3Q13

 

Household Debt-to-GDP:  Household Debt/GDP continues to fall as GDP grows at a positive spread to nominal debt.  At 77.5%, we’re currently 18.1% off peak 2009 Debt/GDP levels and have nearly retraced back to (1) trend although there still exists meaningful downside to longer-term averages.   

 

Household Debt & Net Wealth:  Streak Ends at 18 - Household Debt to GDP

 

Household Debt vs. Consumption:  Pre-Crisis

After moving largely in lockstep for five decades, household debt growth went exponential in 2000, decoupling from consumption growth which kept tightly along the path of a second order polynomial – which is just a mathy way to say debt growth exploded but with diminishing marginal impact on consumption growth (ie. every dollar increase in debt produced increasingly less than a dollar of consumption growth).

 

This debt-consumption interplay is a  typical antecedent of financial crises whereby incremental debt is used to speculatively acquire already overpriced (financial) assets instead of going towards entreprenurial or productive output/investment.   The red, long-term trend line in the second chart below reflects debts increasingly ineffectual ability to drive incremental consumption.   

 

Household Debt & Net Wealth:  Streak Ends at 18 - HH debt vs consumption

 

Household Debt & Net Wealth:  Streak Ends at 18 - HH debt vs consumption Chg

 

Household Debt Growth:  3Q13 Inflection

After 18 consecutive quarters of decline in YoY credit growth, aggregate household debt grew +1.3% in 3Q13 as consumer credit (~23% of total) accelerated to 6.3% YoY and Mortgage debt (~72% of total) accelerated to -0.8% YoY from -1.8% in 2Q13

 

Household Debt & Net Wealth:  Streak Ends at 18 - HH Debt QoQ   YoY

 

Debt Growth vs. Income Growth:  Upside in Credit

Despite its patent obviousness, that fact that debt growth in excess of income growth is unsustainable remains, perhaps, the most glaring example of willful economic blindness for developed economy consumers and bureaucrats . 

 

When growth in credit exceeds growth in income for 30 years and monetary policy becomes impotent as a support at the zero bound in rates, the long-term credit cycle ends with a 2008 style de-leveraging fireworks. 

 

As can be seen in the chart below, in the wake of the financial crisis and through to the present, income growth has advanced at a positive spread to debt growth. With debt growth turning positive in 3Q alongside continued labor market strength and broadly positive mortgage, auto, and consumer loan trends, positive credit growth is set to continue. 

 

The closing of the delta between income and debt growth represent the upside to credit driven consumption.

 

Household Debt & Net Wealth:  Streak Ends at 18 - HH Debt growth vs Income growth

 

Christian B. Drake

Associate

 

 


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