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Correction: EDV: We Are Removing Vanguard Extended Duration ETF From Investing Ideas

Takeaway: Please note we are removing Vanguard Extended Duration ETF from Investing Ideas

Editor's Note: In the first paragraph below, the original version inadvertently read that we added ZROZ to the short side of Real-Time Alerts. We apologize for the error. Rather, we closed our long position. We have no open positions in ZROZ.

 

* * *

 

Today, Hedgeye CEO Keith McCullough advised Real-Time Alerts subscribers that they close their long position in PIMCO 25+ Year Zero Coupon U.S. Treasury ETF (ZROZ). The reasoning also lays out why we're taking EDV off Investing Ideas: 

 

"With the 10yr UST Yield pulling back to 2.23% today (you could have been plugged shorting the Long Bond like consensus did on the recent jobs report at 2.39%), I'm getting an immediate-term TRADE overbought signal (within a bullish intermediate-term TREND) in ZROZ. 

 

With the Fed hell bent on raising into a slow-down, we have to risk manage the risks associated with that. They have no idea on the economy (forecasts on growth have been wrong 70% of the time since Bernanke's un-elected reign). So the risk, is their forecast."

 

Correction: EDV: We Are Removing Vanguard Extended Duration ETF From Investing Ideas - Fed forecast cartoon 11.13.2015


Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht?

Takeaway: We think consensus is wrong on the outlook for the Chinese yuan.

Yesterday President Xi Jinping corroborated our long-held bias that that “the [Chinese] economy still faces relatively large downside pressures” – not that anyone needed Xi to confirm what we already knew. Growth in the volume of Chinese rail freight traffic and price trends across various key industrial commodities would seem to imply as much.

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China Rail Frieght Volume YoY

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - Copper Monthly Average

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - Iron Ore Monthly Average

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - Rebar Monthly Average

 

Looking across a variety of key high-frequency indicators, Chinese economic growth has stabilized insomuch that it is no longer “rolling down the hill” but policymakers are decidedly still “walking [the economy] down the steps”. This phenomenon is most recently highlighted by sequential slippage in the growth rates of industrial production, fixed assets investment, foreign direct investment, total social financing, as well as various measures of supply and demand in the Chinese property market.

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China Industrial Production YoY

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China Fixed Assets Investment Growth

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China FDI YoY

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China Total Social Financing

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China Housing Starts YoY

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China Housing Construction YoY

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China Value of Buildings Sold YoY

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China Volume of Buildings Sold YoY

 

Offsetting the aforementioned “downside pressures” is a sharp reversal of what has been a disastrous and well-documented trend of capital outflows that coincided with the IMF’s tacit decision to include the CNY in its vaunted SDR basket.

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China Estimated Capital Flows

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China Capital Flows

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China M1 Money Supply YoY

 

Moreover, Beijing has taken to capital controls to help it accomplish its goal of maintaining exchange rate stability. Specifically, the PBoC has recently stepped up verbal guidance to onshore banks to cull their offshore lending practices, which, in turn, has made it more expensive than ever to borrow and sell short the offshore yuan, or CNH.

 

While capital controls have rarely – if ever – been proven successful at staving off long-term currency depreciations, they can and will continue to be a short-seller’s worst nightmare from the perspective of consensus expectations for a material devaluation of the RMB.  The “Bejing Put” remains the #1 reason we aren’t raging bears on China; Chinese officials can and will do what they have to do to ensure an orderly downshift in their economy – if there even is such a thing.

 

Will the aforementioned SDR labeling bring stability to the outlook for the exchange rate? Judging by the spread between the spot rate and PBOC’s reference rate since the mid-AUG devaluation, one could make the case that stability is in – for now at least.

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - CNY Reference Rate

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - CNY Reference Rate Spread

 

As such, we feel comfortable reiterating the claim we staked in our 9/23 note titled, “When Will China Devalue Again?”: “…we think the Chinese are neither incentivized nor inclined to devalue the CNY again – certainly not in the near term. That said, however, we believe another round of euro debasement out of the ECB is likely the next catalyst for investors to begin pricing in this risk – rightly or wrongly.”

 

As a reminder, the ECB is scheduled to review its monetary policy on 12/3 and Draghi’s recent guidance has indeed been [appropriately] dovish, on the margin. From our 11/9 note titled, “What’s Driving Our Bearish Forecasts for Domestic and Global Growth?”:

 

In terms of cratering a narrative around the aforementioned mathematical reality of steepening base effects in the Eurozone, industrial production, exports, consumer confidence, business confidence and PPI are all slowing on both a sequential and trending basis throughout the region. Its composite PMI is still slowing on a trending basis and household consumption growth is trending at an unsustainably elevated rate in the context of our outlook for ECB monetary policy and it’s likely [negative] impact on the EUR.”

 

All told, while we are comfortable reiterating our explicitly dour outlook for Chinese economic growth, it bears repeating that we continue to view the Chanos “economic collapse” view as misguided given that the “Beijing Put” continues to largely offset that outcome. China’s trending GDP growth deceleration just feels like a collapse to the rest of world given China’s outsized contribution to global growth.

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - China Contribution to World Nominal GDP Growth

 

That is especially true for those suppliers that are over-indexed to Chinese import demand. As the following charts highlight, the lower commodity prices go, the slower global business investment and corporate profit growth are likely to become.

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - CRB vs. World Gross Capital Formation

 

Can Beijing Maintain Exchange Rate Stability Or Is the Chinese Yuan the Next Thai Baht? - CRB vs. MSCI World EPS

 

It all comes back to the rising U.S. dollar. Consider the following dynamics:

 

  • A significant portion of global demand growth in the pre and post-crisis eras was predicated on China’s “managed float” peg to the U.S. dollar.
  • Why? Because China had been importing a substantial portion of our Greenspan/Bernanke bubble-blowing monetary policy for over a decade (the DXY declined -39.7% from its July 2001 top to its April 2011 low).
  • Moreover, the country’s 2001 entry into the WTO opened up access to global export markets, which allowed it to generate the sizeable current account inflows needed to fuel gangbusters deposit growth throughout the onshore banking system (China’s “closed” capital account means every $ that enters the Chinese economy gets converted into RMB).
  • The M1 growth associated with rapid current account inflows helped to perpetuate a domestic fixed assets investment bubble via asset/liability matching.
  • INSERT insatiable demand for energy and raw materials HERE.
  • The U.S. dollar bottoms in 2011 and goes on a multi-year bull run, up +35.9% from the aforementioned April 2011 low.
  • Chinese export growth slows alongside a dramatic narrowing of its current account balance.
  • Mainland deposit growth slows, followed by a secular slowdown in fixed assets investment growth.
  • Growth in Chinese demand for incremental raw materials appropriately collapses… Meanwhile, every crude oil, copper and iron ore producer the world over is regretting having signed off of incremental exploration and production a few years back at the peak in Chinese economic growth.

 

CLICK HERE to review our deep dive analysis supporting these conclusions.

 

You can bet your bottom dollar that members of the PSC and broader CPC are well aware of these dynamics, which is largely why various officials have quite often used words like “messy” and “complicated” in describing Chinese economy over the past few years.

 

Moreover, this unspoken understanding is largely behind the stated drive to transform China into a services-oriented and consumption-led economy, which itself is a “complicated” task that will require a downshifting of GDP growth, a curbing of industrial overcapacity and a system-wide recognition of nonperforming loans – which have been both materially and serially underreported amid systemic “evergreening”.

 

Bigger picture, the aforementioned dynamics help explain a significant degree of the missing supply/demand link between the semi-perpetual (and often meaningful) inverse correlation between the U.S. dollar and commodity prices. As such, it’s not a coincidence that raw materials continue to crash in conjunction with the trending deceleration in global growth.

 

This linkage is largely behind why CAT’s management team can’t figure out why its order book continues to collapse.

 

More broadly, this linkage can explain a substantial portion of the current profit recession in the U.S.

 

Even more broadly, this linkage is largely behind why Brazil has been unable to escape recession and why many EM equity markets and currencies have crashed and/or continue to crash.

 

When the proverbial “dots” are connected, this linkage can even explain a portion of the BoJ’s shocking balance sheet expansion (now 75% of Japanese nominal GDP), which has perpetuated a peak-to-present crash of -38.3% in the JPY/USD cross and a +139.4% rally in the Nikkei 225 Index off its June 2012 lows.

 

“If you don’t do globally-interconnected macro, globally-interconnected macro will do you.”

-Me

 

As we’ve said at every turn since our 2008 inception, Global Macro starts and ends with the U.S. dollar – which itself is an extension of not just U.S., but rather global, monetary policy. In light of that, we think investors would do well to know exactly where the dollar is headed in 2016…

 

Feel free to email with questions or comments. As always, we encourage thoughtful debate.

 

DD

 

Darius Dale

Director


Cartoon of the Day: Chinese Growth Hits A Wall

Cartoon of the Day: Chinese Growth Hits A Wall - China growth cartoon 11.19.2015

 

"While the 'reflation' green arrow chasers are enjoying themselves today, I must remind you that President Xi (China) was quite bearish about the Chinese economy earlier this week (and China cut rates last night as a result of that weakness)," wrote Hedgeye CEO Keith McCullough in a note to subscribers today.


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INSIGHT: China, Commodities & #GrowthSlowing

INSIGHT: China, Commodities & #GrowthSlowing  - china year of the snal

 

On The Macro Show this morning, Hedgeye Macro analyst Darius Dale discussed the divergence between China's economic reality and the movement in it's equity markets. 

 

Last night, the Shanghai and Shenzhen closed up 1.4% and 3.1%, respectively, taking the handoff from a strong close in the U.S. 

 

Now consider the recent economic data out of China. In November, the country's MNI PMI slipped to 49.9 from 55.6 in October, Dale noted. That jived with recently reported crashing rail freight traffic, along with sequential slippage in industrial production, fixed assets investment, foreign direct investment, total social financing, as well as various measures of supply and demand in the Chinese property market in the month of October.

 

It's worth noting that China's President Xi Jinping was a bit too honest this week when, in a speech, he admitted the country's economy faced "considerable downward pressures."

 

No kidding.

 

INSIGHT: China, Commodities & #GrowthSlowing  - China GDP cartoon 07.16.2015

 

As Dale pointed out, that "downward pressure" on Chinese growth is also putting considerable pressure on commodities like copper and iron ore. Here's a telling excerpt from a note sent to subscribers earlier this morning:

 

"Fresh cycle lows in copper and iron ore are not a good sign for global growth… How bad is it? The China Iron & Steel Association said it expects steel output to drop -2.9% in 2016. That’s not a small inflection considering China’s mills produce half of global output. Former chief economist of Rio Tinto had this to say about continuing deflationary headwinds: “There’s about 300MM tons (~40% of Chinese production) of surplus capacity (in steel refining) that needs to not just be shut down, it needs to be bulldozed.” The deflation continues."


EDV: We Are Removing Vanguard Extended Duration ETF From Investing Ideas

Takeaway: Please note we are removing Vanguard Extended Duration ETF from Investing Ideas

Today, Hedgeye CEO Keith McCullough added PIMCO 25+ Year Zero Coupon U.S. Treasury ETF (ZROZ) to the short side of Real-Time Alerts. The reasoning also lays out why we're taking EDV off Investing Ideas: 

 

"With the 10yr UST Yield pulling back to 2.23% today (you could have been plugged shorting the Long Bond like consensus did on the recent jobs report at 2.39%), I'm getting an immediate-term TRADE overbought signal (within a bullish intermediate-term TREND) in ZROZ. 

 

With the Fed hell bent on raising into a slow-down, we have to risk manage the risks associated with that. They have no idea on the economy (forecasts on growth have been wrong 70% of the time since Bernanke's un-elected reign). So the risk, is their forecast."

 

EDV: We Are Removing Vanguard Extended Duration ETF From Investing Ideas - Fed forecast cartoon 11.13.2015


INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO

Takeaway: Claims are behaving as we expected with the year-over-year change trending towards zero and energy states worsening on the margin.

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims20

 

As we come to the end of '15, jobless claims both in aggregate and for the energy states separately, are behaving as we have modeled.  Year-over-year improvement continues to converge towards zero as the level of claims backs up off of the low but remains within its frictional floor below 330k (for 21 months now). We continue to point out that the last three cycles saw claims sit below 330k for 24, 45 and 31 months before the economy entered recession, putting us 12 months from the 33-month average.

 

Additionally, energy state claims are worsening versus the country as a whole as many energy companies are set to experience the pain of their price hedges rolling off around year-end. The spread between those two indexed series in our chart below has widened for 10 weeks in a row. That includes the most recent week, ending November 7, when the spread widened from 28 to 31. 

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims18 2

 

The Data

Initial jobless claims fell 5k to 271k from 276k WoW. The prior week's number was not revised. Meanwhile, the 4-week rolling average of seasonally-adjusted claims rose 3k WoW to 270.75k.

 

The 4-week rolling average of NSA claims, another way of evaluating the data, was -6.7% lower YoY, which is a sequential deterioration versus the previous week's YoY change of -7.0%

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims2

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims3

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims4

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims5

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims6

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims7

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims8

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims9

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims10

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims11

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims19

 

Yield Spreads

The 2-10 spread fell -8 basis points WoW to 140 bps. 4Q15TD, the 2-10 spread is averaging 143 bps, which is lower by -10 bps relative to 3Q15.

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims15

 

INITIAL JOBLESS CLAIMS | CONVERGING TO ZERO - Claims16

 

Joshua Steiner, CFA

 

Jonathan Casteleyn, CFA, CMT

 


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