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LEISURE LETTER (06/04/2014)

Tickers: IKGH, SJM, MPEL, SGMS, HLT ,SHO, CCL

EVENTS TO WATCH

  • Wed June 4 - Thurs June 5: REITWeek, New York, NY
  • Wed June 4 - Thurs June 5: Russian Gaming Week 2014
  • Thurs June 5 - Todd in Vegas for slot suppliers mgmt meetings
  • Thurs June 5 - 4:30 pm MTN earnings
  • Mon June 9 - HTZ earnings
  • Tues June 10 - HLT lock-up expiration
  • Tues June 10 - Thurs June 12: Bally Systems User Conference
    Mohegan Sun
  • Thurs June 12 - Blackstone Investor Day 8:00 am

COMPANY NEWS

IKGH - junket announced rolling chip volume of $1.59 billion, -4% YoY.  The hold rate was 2.32%.  The company blamed the results on severe rainstorms for nearly 10 days in mid-May in both Hong Kong and the Canton Province.

Takeaway:  At least one junket held low in May.  More weather excuses coming?

 

SJM - (Macau Daily Times) "Too early to tell" the impact of smoking ban

SJM CEO Ambrose So has revealed that SJM has completed the design of their mass area smoking rooms and the preparations will be finished in October.  The Macau government will enforce the smoking ban on casino mass areas on October 6.

 

So claims that there are no signs suggesting that the mass area smoking ban, and other government monitoring measures, will slow down the investment of gambling operators.  Conversely, he believes that operators will wish to hasten the completion of their projects, because the gaming concessions are going to end soon.  Moreover, he has rejected the suggestion to lower the minimum betting sum in the VIP area, so gamblers can smoke and gamble at the same time.  “The investment into the existing design of the VIP rooms is very high. There are also partitions inside the rooms,” Ambrose said, claiming that to implement that strategy would not be advisable in terms of business.

Takeaway:  Relatively speaking, SJM has been under more pressure to abide by Macau's smoking regulations.  

 

Aruze (GGRAsia) looking to increase its portfolio of products for Asian gaming markets, Aruze Gaming America is refocusing its research and development efforts on games and products with higher volatility for potentially larger jackpots - a key factor for Asian and VIP gaming participation.  Aruze is developing the new products and games in Japan for distribution into the Philippines, Macau and hopefully Japan.

Takeaway:  Everyone wants a piece of the action in Asia, where Aristocrat, Ainsworth, and Shuffle Master control the market. 

 

MPEL – provided an update on its Macau Studio City development, increased the total budget by $300 million to $2.3 billion, and reaffirmed a mid-2015 opening. 

Takeaway:  Rising development costs

 

SGMS – announced a ten-year contract with the Independent Gaming Corporation Limited of South Australia to supply the Company's latest central monitoring and control system, the SGVideoTM system which will monitor approximately 12,500 gaming machines in more than 550 locations throughout South Australia. 

Takeaway: Good system win for SGMS. 

 

Dynam Japan Holdings (6889:JP) (Macau Business Daily) The Japanese pachinko hall operator plans on placing 100 of its ‘next generation’ machines in a Macau hotel (Macau Legend Development's Fisherman's Wharf) scheduled to open in September.  

Takeaway:  We look forward to seeing how these games perform in a previously non-pachinko gaming market.

 

HLT – Blackstone and the Blackstone Real Estate Partners VI Fund announced the development of a new 418-unit vacation ownership tower at Hilton Hawaiian Village Waikiki Beach Resort slated for completion in early 2017.  Interval sales of The Grand Islander by Hilton Grand Vacations Club are anticipated to begin in fall 2014 and nightly rental reservations may be requested in early 2016 for stays in 2017. The Fund will provide $400 million in development capital to the project. Blackstone appointed Hilton Grand Vacations, the vacation ownership division of Hilton Worldwide, to provide vacation ownership sales and marketing services, resort operations, timeshare homeowners’ association management and loan servicing

Takeaway: The timeshare development was previously disclosed by HLT on their Q1 2014 earnings call, but it would seem this project could provide an upside to the HLT's timeshare business in 2H 2014.

 

Insider Transactions:

SHO – CEO Ken Cruse sold 153,553 shares on Friday, May 30th at an average price of $14.67, the chief executive officer now owns 667,430 shares of the company’s stock.

 

CCL – Micky Meir Arison sold 248,720 shares of stock on Monday, June 2nd at an average price of $40.11.

INDUSTRY NEWS

Dragon Boat Festival visitors increase 17.9 pct (Macau Business)
Macau had 419,120 visitors over the Dragon Boat Festival long weekend, +17.9% YoY. 

Takeaway:  Decent visitation numbers


Macau ETGs to be studied – (GGRAsia) Gaming industry participants are cautious on the future growth of the ETG segment in Macau, as they noted the Macau government is looking closely at the issue of the velocity and size of betting – even at low minimums – that is possible on ETG machines and on traditional slot machines, thanks to electronic betting.  The issue for the government, is the risk of low-income people losing a large amount of money in a short space of time via ETGs and slots.

Takeaway:  ETG machines haven't really played a signficant role in Macau yet.

 

Macau Border Crossing Incidents – During last week's Dragon Boat Festival, more visitors entered Macau through the Hengqin border than last year.  Additionally, mainland authorities found several travelers attempting to enter Macau with damaged or counterfeit identification documents. Authorities said that they also found some visitors who were using invalid IDs or had overstayed their visa, and will launch legal actions against those involved.

Takeaway: More immigration issues.

 

Macau Junket to be Sold(Macau Business Daily) Eternity Investment Ltd, a Hong Kong-listed real estate developer, is discontinuing its Macau gaming-related business by disposing of its entire equity interest in Rich Daily Group Ltd.
Rich Daily manages the services of Ocho, a gaming promoter (junket operators)  appointed by a casino here. According to a company filing with the Hong Kong Stock Exchange, the purchaser, Ng Cheuk Fai, is a ‘third party independent of the company.’ The shares will be sold for a total of HK$2 million, an amount which the company describes in the filing as ‘fair and reasonable.’ At the end of last year, Ocho adopted a tightening credit policy towards its mainland Chinese VIP customers in response to the slowdown in mainland China’s economy.

Takeaway: A sign of junket challenges. 

 

Macau Airlift – Civil aviation regulators from Macau and the Philippines have set air talks for June 17 and 18t to expand passenger traffic among between the countries.  The existing air service agreement between the Philippines and Macau was signed in 1997, with the last negotiation for increased passenger traffic held in June 2013, when both countries agreed to increase seat entitlement to 4,500 seats a week from 3,500.

Takeaway: A positive for the mass segment as well as the many Philippino workers who travel between Macau and their homeland/families. 

MACRO

Hedgeye remains negative on consumer spending and believes in more inflation.  Following  a great call on rising housing prices, the Hedgeye

Macro/Financials team is turning decidedly less positive. 

Takeaway:  We’ve found housing prices to be the single most significant factor in driving gaming revenues over the past 20 years in virtually all gaming markets across the US.


June 4, 2014

June 4, 2014 - Slide1

 

BULLISH TRENDS

June 4, 2014 - Slide2

June 4, 2014 - Slide3

June 4, 2014 - Slide4

June 4, 2014 - Slide5

June 4, 2014 - Slide6

June 4, 2014 - Slide7

June 4, 2014 - Slide8

 

 

BEARISH TRENDS

 

June 4, 2014 - Slide9

June 4, 2014 - Slide10

June 4, 2014 - Slide11
June 4, 2014 - Slide12

June 4, 2014 - Slide13


Republican Landslide?

This note was originally published at 8am on May 21, 2014 for Hedgeye subscribers.

“The people who cast the votes don’t decide an election, the people who count them do.”

-Joseph Stalin

 

A key upcoming market and economic catalyst on the horizon is the 2014 congressional midterm elections to be held on November 4th.  Historically, we’ve provided extensive election analysis into the election. The next six months will be no different.  Simply put, politics drive policy, which in turn drive markets.

 

The most famous national election surprise was probably the 1948 Dewey versus Truman presidential race.  It is widely considered the greatest election upset in American history.  Literally every prediction, both with and without associated polls, predicted that Dewey would defeat Truman.  In fact, in late September, Gallup had Dewey with an unbelievable 17 point-lead over Truman.

 

Republican Landslide? - truman

 

Given that most pundits believed he had no chance at winning the Presidency, Truman adopted a no holds barred approach to campaigning.  He attacked Dewey at every stop and “Give’em hell Harry” was consistently yelled by his supporters from the crowd.  With this gusto, Truman was able to narrow the deficit, but he still lost all of Gallup’s post convention polls, was endorsed by a mere 9% of the nation’s newspapers, and 50 of 50 “experts” in Newsweek selected Dewey to win.

 

Many members of the mainstream media were so confident of a victory that stories were written in advance of the election that discussed the “Next President Dewey” and “The Truman Failure.”  The most famous photo of the campaign was a copy of the Chicago Tribune held by President Truman that declared, “Dewey Defeats Truman,” after Truman had actually beat Dewey by a reasonable margin of 49.6% of the popular vote versus 45.1% for Dewey.

 

Back to the Global Macro Grind...

 

As of now, we certainly are not of the mind that there is going to be a massive surprise in the midterm elections, although we did get your attention with the title we’re sure!  In fact, with the advent of more advanced and real-time polling, a massive surprise is quite unlikely.  If there is a surprise, it may well be that the Republicans may actually do better than expected. But first let’s look at how the race stands today.

 

According to the RealClearPolitics 2014 Generic Congressional Vote aggregate, the race is fairly tight.  In fact, the Democrats currently have a slight edge over Republicans with the Democrats at 43.4 in the poll versus the Republicans at 42.8, for a positive edge to the Democrats of +0.6, but effectively is a near tie. Back in late October of 2013, this poll favored the Democrats by a spread of+6.6, so Republicans have certainly narrowed the margin.

 

Interestingly, if we go back to the 2010 midterm elections, this same set of polls also showed the election basically tied at this point in time (we show this in the Chart of the Day below).  Ultimately, that election turned into a Republican landslide and the Republican Party won more Congressional seats than almost any “expert” predicted.  Even the much avowed Nate Silver got the election wrong.

 

Republican Landslide? - Chart of the Day

 

In part, what many pundits missed in 2010 was the broad disdain for Congress.  That disapproval has continued to prevail and currently the RealClearPolitics Congressional Approval Poll Aggregate shows literally the lowest approval rating for Congress in the history of political polling.  Currently, the approval rating for Congress is 13.7%.  Needless to say, polls that ask about the Direction of the Country very much mirror this with only 28% of respondents saying the country is going in the right direction.

 

The other key point that many prognosticators missed in 2010 was the Republican motivation to vote.  Poll after poll showed that Republicans felt much stronger about the election in 2010.  As a result of this elevated enthusiasm, Republicans came out in droves.  Will that happen again this year again? It may be too early to tell, but President Obama’s low approval, which is currently at an abysmal +42, is likely to motivate Republicans and not get Democrats overly excited.

 

Perhaps the most interesting recent poll related to potential outcomes is a Politico poll from Monday that looked at States and races that are actually in contention.   In this poll the current edge for Republicans is somewhat staggering. 

 

According to the poll, 41% of respondents said they would vote for Republicans, 34% said they would vote for Democrats, and 25% were undecided.  When asked specifically about Senate races, the Republican edge increased to 43%.  Further, according to this poll, approval for Obama is just 40% and almost 50% favor an outright appeal of the Affordable Care Act.  Campaigning against an unpopular brand in Obama and unpopular policy in Obama Care may make this midterm strategically easier to execute on for the Republicans.

 

Speaking of elections, perhaps the most noteworthy one internationally is the upcoming election in the Ukraine.  Currently the front runner is Petro Poroshenko, or as he is better known for his candy empire, the Chocolate King. The Chocolate King was the lone Ukrainian oligarch to join in the popular protests that led to the ousting of President Yanukovych in February, which seems to be giving him an edge with the masses. 

 

Regardless of who is ultimately victorious in the Ukrainian election, the results will be watched very closely by the international community, especially as it relates to Russian acceptance of the outcome.  Let’s just hope a relative of Josef Stalin isn’t counting the votes.

 

Our immediate-term risk ranges are now as follows (we have 12 Global Macro ranges with a TREND signal overlay in our Daily Trading Ranges product):

 

UST 10yr Yield 2.46-2.57%

RUT 1083-1112

Nikkei 13917-14212

VIX 12.13-14.18

USD 79.61-80.21

Gold 1282-1304 

 

Keep your head up and stick on the ice,

 

Daryl G. Jones

Director of Research  


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THE HEDGEYE DAILY OUTLOOK

 TODAY’S S&P 500 SET-UP – June 4, 2014


As we look at today's setup for the S&P 500, the range is 43 points or 1.57% downside to 1894 and 0.66% upside to 1937.                                                     

                                                                          

SECTOR PERFORMANCE

 

THE HEDGEYE DAILY OUTLOOK - 1

 

THE HEDGEYE DAILY OUTLOOK - 2

 

EQUITY SENTIMENT:

 

THE HEDGEYE DAILY OUTLOOK - 10

 

CREDIT/ECONOMIC MARKET LOOK:

 

  • YIELD CURVE: 2.19 from 2.20
  • VIX closed at 11.87 1 day percent change of 2.50%

 

MACRO DATA POINTS (Bloomberg Estimates):

 

  • 7am: MBA Mortgage Applications, May 30 (prior -1.2%)
  • 8:15am: ADP Employment Change, May, est. 210k (prior 220k)
  • 8:30am: Trade Balance, April, est. -$40.8b (prior -$40.4b)
  • 8:30am: Nonfarm Productivity, 1Q final, est. -3.0% (pr -1.7%)
  • 9:45am: Markit US Services PMI, May final (prior 58.4)
  • 10am: ISM Non-Manufacturing, May, est. 55.5 (prior 55.2)
  • 10am: Bank of Canada interest rate decision (prior 1%)
  • 10:30am: DOE Energy Inventories
  • 2pm: Federal Reserve issues Beige Book

 

GOVERNMENT:

    • President Obama attends G-7 Summit in Brussels
    • Senate in session; House out
    • 10am: Senate Environment and Public Works Cmte hears from Nuclear Regulatory Commission Chairman Allison Macfarlane, 4 commissioners on implementation of Fukushima task force recommendations
    • 10am: Senate Banking Cmte hearing on student loan servicing
    • Elections
    • Ernst wins GOP primary in Iowa, avoiding nominating convention
    • Republican Chabot advances in Calif.’s 31st District race

 

WHAT TO WATCH:

  • Dai-ichi Life to buy U.S. Protective for about $5.7b
  • Lenovo, IBM said to seek extension in U.S. review of deal
  • Markit seeks to raise $1.14b in U.S. initial offering
  • Euro-region recovery in services output supports job creation
  • Draghi said poised to keep rate-cut option even after June move
  • U.K. services growth keeps eco. booming as hiring strengthens
  • Australia GDP growth beats economists estimate
  • Telesat sellers said trying to span value gap on $7b deal
  • U.S. to review rules covering songwriter fees paid by Pandora
  • S&P loses bid to move state ratings lawsuits to federal court
  • Comcast to encrypt emails after Google raises issue: WSJ

 

EARNINGS:

    • Brown-Forman (BF/B) 7:30am, $0.58
    • Five Below (FIVE) 4:01pm, $0.06
    • Greif (GEF) 4:06pm, $0.61
    • Hovnanian (HOV) 9:15am, $0.03
    • Laurentian Bank of Canada (LB CN) 8:40am, C$1.23 - Preview
    • Leidos (LDOS) 6am, $0.54
    • PVH (PVH) 4:02pm, $1.49
    • Verint Systems (VRNT) 4:05pm, $0.55

 

COMMODITY/GROWTH EXPECTATION (HEADLINES FROM BLOOMBERG)

 

  • China Considers Offshore Yuan Gold Trade in Shanghai Trade Zone
  • WTI Gains for Second Day as U.S. Stockpiles Shrink; Brent Rises
  • Nespresso Falls Prey to Mining Cuts as China Cools: Commodities
  • Iron Ore Cargoes at Record as Pilbara Mines Export Socks Off
  • Copper Declines the Most in Seven Weeks on Strengthening Dollar
  • Gold Trades Near Four-Month Low as Investors Weigh Dollar Gain
  • Coffee Enters Bear Market as Brazil Sees Smaller Crop Loss
  • Arabica Coffee Drops for 4th Session in New York; Sugar Falls
  • Palm Rebounds as Decline to Seven-Month Low Seen Spurring Demand
  • Steel Rebar Trades Near Record Low as Demand May Fall in Summer
  • Buffett’s $26 Billion Power Bet in West Seen Paying Off: Energy
  • Nickel Rally Gives BHP to Anglo Chance to Dump Mines: Real M&A
  • China Gets Gas Bargain as Russia Hit by EU Sanctions: Bull Case
  • Copper Backwardation Seen by Macquarie Narrowing Amid Probe

 

 

THE HEDGEYE DAILY OUTLOOK - 5

 

CURRENCIES


THE HEDGEYE DAILY OUTLOOK - 6

 

GLOBAL PERFORMANCE

 

THE HEDGEYE DAILY OUTLOOK - 3

 

THE HEDGEYE DAILY OUTLOOK - 4

 

EUROPEAN MARKETS

 

THE HEDGEYE DAILY OUTLOOK - 7

 

ASIAN MARKETS

 

THE HEDGEYE DAILY OUTLOOK - 8

 

MIDDLE EAST

 

THE HEDGEYE DAILY OUTLOOK - 9

 

 

The Hedgeye Macro Team

 

 

 

 

 

 

 

 

 

 

 

 

 


BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA

Takeaway: We no longer consider Brazil an attractive investment destination and are content to remove the country from our Best Ideas list.

CONCLUSIONS:

 

  1. As the facts change, we do. An increasingly convoluted policy mix complicates Brazil’s intermediate-term GIP outlook. As such, we are content to book the gain and may look to potentially revisit the country on the long side as campaigning heats up into the OCT general elections.
  2. Taiwan has been a country we sort of missed not pounding the table on in the YTD (on the long side), but we now anticipate meaningful upside from current levels. For intermediate-term investors, GIP fundamentals support chasing Taiwanese equities up here – particularly amid heightened prospects for M&A activity in the global semiconductor space.
  3. Unnecessarily fearing a volatile market response, we were wrong to have booked the gain in India just ahead of the final election tally. That being said, we are now content to look through likely near-term economic softness (i.e. the “G” in our GIP model) with the intention of playing for likely structural improvement in India’s inflation and policy dynamics (i.e. the “I” and the “P” in our GIP model).

 

STEP ONE: SELL BRAZIL

Since our bullish conference call titled, “TIME TO BUY BRAZIL?” (2/27) the following has occurred in Brazilian capital and currency markets:

 

  • The BRL posted a total return of +4.7% vs. the USD, which compares to a sample mean of +2.7% of and is good for the 6th largest gain amongst the 24 EM currencies tracked by Bloomberg over that timeframe.
  • The iShares MSCI Brazil ETF (EWZ) has appreciated +11.2%, which compares to a sample mean of +6.5% and is good for the 5th largest gain over that timeframe across the 24 country-level EM ETFs we track.
  • Petrobras (PBR) – our preferred single-name exposure in the Bovespa Index (refer to slides 57-71 of the aforementioned slide deck) – has appreciated +21.4%. That more than doubles the +10.6% gain for the Bloomberg Industries Global Integrated Oils Index, for which Petrobras is a constituent.

 

While that’s obviously a fair degree of global macro alpha, we aren’t simply content to relinquish our research view simply because the trade has worked well. Rather, we see a confluence of deteriorating GIP fundamentals supporting an exodus of investors from Brazilian capital and currency markets.

 

Brazilian growth data is flat-out awful; as you can see in the table below, there is a hardly a meaningful economic indicator in Brazil that isn’t rapidly decelerating on both a sequential and trending basis. That this is coming amid accelerating headline inflation means Brazilian policymakers are now forced to choose between promoting growth or combating inflation – the latter of which we still view as the country’s key political issue.

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - BRAZIL GIP

 

Unfortunately for investors, the Rousseff administration is resorting to the tired Keynesian playbook of fiscal stimulus ahead of the election, choosing ramp up deficit spending ahead of what is likely to be Brazil’s most contested presidential race since 1989. Recent policy initiatives include:

 

  • A +4.5% increase in income tax exemptions starting next year;
  • A +10% increase in Bolsa Familia cash transfers starting next year worth R$9B… this latest increase takes Bolsa Familia transfers – which benefit ~25% of the Brazilian population – up +64% in real term since the Rouseff administration took office on JAN 1st, 2011; and
  • Extending a $9.7B payroll tax cut for various manufacturing industries.

 

These promises of fiscal sweetness come amid heighted pressure to raise the minimum wage, which has increased +42.2% in real terms since 2007. Both Rousseff and her runner-up in the latest polls, Aecio Neves, are on board with another hike.

 

The problem with hiking the minimum wage now is that many government salaries and pension benefits are indexed to the federal minimum wage in Brazil. In fact, roughly 80% of all federal expenditures are earmarked by law. That is obviously not helpful for a government that has promised investors fiscal retrenchment in 2014. The 1.9% primary surplus target appears to be in danger and the nominal budget balance – which is what really matters to the currency – remains bloated at -3.1% of GDP.

 

While Rousseff continues to get tagged in the latest polls (37% support as of MAY 7-8), we view the recent retreat from promises of fiscal austerity and monetary policy tightness out of the Neves camp (20% support as of MAY 7-8) limits pressure upon the Rousseff administration to tighten policy heading into the election.

 

Eduardo Campos (11% support as of MAY 7-8) is a fiscal and monetary hawk and we would view any ascent by him to 2nd place in the polls as positive for our original long idea. That remains to be seen at the current  juncture, however. As such, we are now content to take down our intermediate-term growth estimates and take up our intermediate-term inflation estimates for Brazil.

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - BRAZIL

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - BRAZIL GROWTH

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - BRAZIL INFLATION

 

All told, it appears increasingly likely that the Brazilian government is choosing stimulus over prudence at the current juncture and we think international capital allocators have begun to sniff this out.

 

Specifically, the BRL, Bovespa and Petrobras have all recently broken their respective immediate-term TRADE lines of support and are now flirting with TREND line breakdowns on our proprietary three-factor quant model. The latter two are in the process of confirming lower-highs from technical perspective as well. We don’t recommend buying either signal, as both tend to be leading indicators for further downside.

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - BZF

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - EWZ

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - PBR

 

STEP TWO: BUY TAIWAN

Let’s assume you’ve just booked your Brazil allocation for a nice profit and have some capital to put to work. You’re likely well aware of how we feel about chasing the domestic growth style factor up here in the US equity market, so naturally we are looking abroad for our preferred allocation. Taiwan passes our fundamental and quantitative screens and looks like an interesting play on the long side of global equities from current levels.

 

Up +5.9%, Taiwan’s benchmark TAIEX Index is on a slow-and-steady march higher in the YTD. While being up +590bps might not seem like that much, that compares to a sample mean of +4.7% across the 21 equity markets we track across Asia & Latin America and is besting the +4.4% YTD gain for the S&P 500.

 

While it’s hard to argue in favor of the predictability of YTD gains, Taiwan does have idiosyncratic country risk factors that support allocating capital to this market at the current juncture. Specifically, improving GIP fundamentals support chasing Taiwanese equities up here – particularly amid heightened prospects for M&A activity in the global semiconductor space. It’s worth noting that the Tech sector accounts for a whopping 46% of TAIEX market cap, with semiconductors alone accounting for 23%.

 

Contrary to Brazil, it’s particularly difficult to find a meaningful economic indicator in Taiwan that isn’t accelerating on both a sequential and trending basis. While headline inflation is indeed accelerating, it’s accelerating off of extremely low levels and does not warrant any attention from the central bank – especially with WPI trends being so subdued.

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - TAIWAN GIP

 

Both the sequential momentum and base effects embedded in our predictive tracking algorithm support our above-the-Street forecast for Taiwanese real GDP growth in 2014 and we see it accelerating through at least the third quarter.

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - TAIWAN

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - TAIWAN GROWTH

 

Annualized currency weakness supports a marginally hawkish CPI outlook as we progress through the year, but as previously mentioned, this catalyst is unlikely to result in monetary tightening over the intermediate term. READ: the coast is clear for Taiwanese exporters.

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - TWD

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - TAIWAN INFLATION

 

Not surprisingly, the benchmark Taiwan TAIEX Index has registered a +0.83 correlation with the MSCI World Semiconductors GICS Level 3 Index in the YTD, which is up a bit from the +0.80 correlation registered over the trailing 3Y. Indeed, it would seem that getting the semis cycle right is really all investors need to have a handle on to get market beta right for Taiwanese equities.

 

For those of you who are not yet aware, we’ve recently hired a Global Semiconductors analyst to co-head our Information Technology vertical at Hedgeye. While it would not be compliant nor appropriate for us to discuss his incubating ideas and themes at length in this note, office chatter supports our existing view that #InflationAccelerating will continue to perpetuate a robust M&A cycle across many industries globally – including semiconductors.

 

Needless to say, semiconductors is in fact an industry with far too many public companies and is ripe for M&A activity over the intermediate term. Perhaps that’s why both the semiconductor stocks and the iShares MSCI Taiwan ETF (EWT) continue to make new highs. Moreover, semiconductors aren’t levered to slowing US consumer demand, as the US accounts for only 20-25% of all consumer electronic consumption globally.

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - EWT

 

Another style factor we have and continue to support across global capital markets in the YTD is a reach for yield – i.e. allocating capital to long-duration fixed income and bond-like equities. As the chart below highlights, Taiwan is outclassing many of its EM peers with respect to its highly attractive real yields.

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - EM Real Yields

 

All told, if you’re looking for places to put money to work in global equities, then we are firmly in support of any decision to allocate capital to Taiwan on the long side.

 

STEP THREE: BUY BACK INDIA

In our 5/12 note titled, “BOOKING RESEARCH ALPHA IN INDIA”, we advocated for booking gains in what we are now dubbing the “Modi Trade” across Indian capital and currency markets. At the time, it seemed like a good call in the context of the research alpha we generated and the likelihood that much of the good news was priced in – seemingly only leaving room for election-day disappointment. From that note:

 

  • “Indian capital and currency markets have performed quite remarkably since we outlined our bullish thesis back on OCT 29th of last year.”
  • “Specifically, the EPI etf has appreciated +21.6% since then, which compares to a sample mean of -1.4% across the 24 country-level EM etfs we track and good for the second-best performance over this duration.”
  • “Moreover, the INR has appreciated +3.2% vs. the USD since then, which compares to a sample mean of -2.4% across the 21 currencies we track across Asia and Latin America and good for the third-best performance over this duration.”
  • “Going back to the EPI etf, this fund has ripped +19.2% in the last ~3M alone (note: we reiterated our bullish bias in a detailed note on JAN 22) – implying some degree of investors crowding into this trade.

 

As mentioned at the onset of this note, that was the wrong call. Specifically, the WisdomTree India Earnings Fund (EPI) has appreciated another +8.6% – on admittedly thinner volume of late. While the latter signal is cause for worry, it’s easy for investors to interpret the heavy volume amid the late-MAY melt-up as the entrance of “real money”, strategic buyers who now view a Modi-led India a core holding in an international equity portfolio. @JohnnyComeLately money aside, we do think the chase is generally warranted.

 

While the aforementioned storytelling has little to do with our fundamental process, we do think it’s worth considering in the context of what has been one of the most hyped capital and currency markets in the YTD.

 

Indeed, while Modi and his BJP Party did take care of business in last month’s elections, capturing an outright majority with 283 of 543 available seats in the lower house of Indian parliament (accounting for BJP allies, this figure jumps to an overwhelming majority of 335 seats), the BJP coalition is still on very shaking footing in the upper house where they control only 61 of 245 seats. The former ruling Congress Party, which had been in control of Indian parliament since 2004 dropped -175 seats from their 2009 election total.

 

The aforementioned consternation in the upper house consternation is critical in the context of some of the prospective economic reforms being bandied about the press, many of which require upper house consent – particularly on anything related to foreign direct investment, taxes and constitutional amendments. Such reforms include, but are not limited to:

 

  • Significant capital account/capital markets deregulation;
  • Broad-based foreign direct investment deregulation;
  • Implementing a goods and services tax in order to simplify India’s convoluted tax code that often results in double taxation at the interstate level; and
  • Deregulating the labor market in order to decrease the frictional cost of doing business in India, which we detailed in our JAN 22nd note is extremely high.

 

While it is unlikely that any of this gets done in the near term, it’s become increasingly clear that international investors are willing to propel the hope-fueled rally in Indian capital and currency markets higher.

 

Moreover, while we believe that fiscal and economic reforms are likely to disappoint intermediate-to-long-term expectations of what is likely priced into the SENSEX at its all-time highs, we do think the prospect for Indian monetary policy supporting structural improvement in India’s GIP fundamentals is a meaningful enough catalyst to warrant reallocating to India on the long side.

 

As mentioned throughout our bullish work on India over the past few quarters, RBI governor Dr. Raghuram Rajan’s monetary policy soundness has been integral to restoring the country’s credibility amongst global inventors after last year’s fiscal and monetary policy-induced currency crash. A key indication of this is India’s current account balance improving markedly from -4.4% of GDP to -2.8% in 4Q13.

 

Thus far, we’ve received little-to-no indication that his job or the RBI’s monetary policy independence is at risk under the Modi regime. Recall this was a key worry of ours a few weeks back.

 

Digging into the most recent data, the RBI’s decision to stand mostly pat on rates today was both well telegraphed (e.g. predicted by all 38 analysts surveyed by Bloomberg) and well-received given that they maintained their previous guidance of maintaining appropriately tight monetary conditions until inflation converges to their targets (i.e. +8% YoY by JAN ’15 and +6% YoY JAN ’16).

 

The board did implement some targeted easing measures, such as lowering rates in both its statutory liquidity ratio (SLR) and its export credit refinance facility (ECR), but these moves appear more administrative in nature and rhyme with the marginal trend-duration improvement we’ve seen in India’s CPI and WPI readings.

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - INDIA GIP

 

As the table above highlights, India’s growth data is good, but not great. Recent sequential and [marginal] trend-based improvement in PMI data is offset to some degree by waning consumer confidence, passenger car sales and money supply data. As such, we continue to maintain a choppy intermediate-term outlook for Indian growth. If it’s any consolation for investors, our model has Indian CPI converging to the aforementioned targets by EOY ’14.

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - INDIA

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - INDIA GROWTH

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - INDIA INFLATION

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - INR

 

All told, we are now content to look through likely near-term economic softness (i.e. the “G” in our GIP model) with the intention of playing for likely structural improvement in India’s inflation and policy dynamics (i.e. the “I” and the “P” in our GIP model). Giddy up!

 

BOOKING THE GAIN IN BRAZIL; ROTATING INTO TAIWAN AND BACK TO INDIA - EPI

 

Have a wonderful evening,

 

DD

 

Darius Dale

Associate: Macro Team


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