It's the fracking economy, stupid!
Takeaway: Central planners can't arrest economic gravity.
In this no punches pulled excerpt from The Macro Show today, Hedgeye CEO Keith McCullough explains why regardless of what the Fed says today, he still thinks we're headed for a 20% or more correction in the S&P 500.
"No matter what the Fed gives you today, they're not going to give you economic growth. They might get oil prices to $33. I'll give them a hero cookie for that.
But the bigger question here is what happens when investors realize that central planners cannot arrest economic gravity? The answer: People start to sell because profits are slowing. That's the most obvious call.
Whether you look at Boeing or Apple this morning, profits continue to slow. And if profits continue to slow -- we laid this out in our Macro themes deck -- for two consecutive quarters, the S&P 500 is most likely to be around 1700. That's a 20% correction from the highs. That's the call that I'm staying with.
So I don't really care what the Fed says. It's not going to change the economic trajectory. It's not going to change the economic data. The U.S. economy is still going to be what it is and that's slowing.
I don't think the Fed is going to be as dovish as people are hoping. As we have continued to remind clients for a long time, you can hope all you want, but hope is not a risk management process."
Takeaway: The latest data out of Europe and China confirms our 18-month old #GrowthSlowing theme.
Our Macro team analyzed the latest batch of global #GrowthSlowing data in a note sent to subscribers this morning.
Here is the key takeaway on Europe:
"... Today, the German economic ministry cut Germany’s 2016 growth forecast to 1.7% from 1.8% previously forecast. It also cut the 2016 export growth outlook to 3.2% vs prior 4.2% and lowered its outlook for import growth to 4.8% vs 5.3%. #EuropeSlowing."
... Then there's China:
"... Chinese industrial profits declined -4.9% Y/Y in December which is a sharp deceleration from -1.4% Y/Y in December. Whispers of fresh stimulus might be the only fading hope to delaying the flush of global overcapacity hanging on the “Chinese Demand” story."
Global #GrowthSlowing has been our Macro call for 18 months now. The latest batch of data confirms our thesis. We're sticking with it.
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Editor's Note: Below is a brief excerpt and chart from today's Early Look written by Hedgeye Director of Research Daryl Jones. Click here to learn more.
"... That said, one of the most focused on lagging indicators -- employment -- still appears strong. But as the Chart of the Day highlights, employment is very long in the tooth. Not only have jobless claims bottomed (meaning employment is worsening on the margin) the current length of time at/below the critical threshold of 300K jobless claims would imply only six more months of economic expansion."
“Better a live donkey than a dead lion.”
-Sir Ernest Shackleton
Over the years, I’ve read a number of books about the life of Sir Ernest Shackleton. The most recent, “Shackleton’s Way,”is a “study of the leadership lessons of the great Antarctic explorer.”
There are many key lessons to learn from Shackleton. In particular, his ability to manage a small group of disparate characters in the most challenging of environments. From my perch, the most significant lesson is how Shackleton “always put the well-being of his crew first”. In terms of morale and minimizing turnover, this is a lesson leaders across the spectrums of business, sports, politics, and the military can take to heart.
Put another way: generals should eat last.
Inasmuch as the book tends to idolize Shackleton, he ultimately died heavily in debt and on the short end of many failed business ventures. His true Antarctic ultimately wasn’t the one he conquered, but, rather, the one back in England that ultimately conquered him.
These days, no doubt, the stock market seems like the Antarctic to many of us – depressing, dark, and endless. Year-to-date, the SP500 is down -6.8%. If we annualize that return to the end of the year, the SP500 will be close to zero. Lucky for us, that’s not going to happen.
There will be an end to The Antarctic that is the U.S. and global equity markets this year. Ultimately, equities won’t bottom on some arbitrary call on valuation in which the denominator of the multiple is likely wrong, but as they usually do when a recession has hit and the economic news is as dark as an Antarctic winter night.
On that front, clearly some economic news is getting increasingly bleak. As we highlighted in our Q1 Themes presentation a few weeks back, a whole slew of economic data including manufacturing, PMIs, exports, capital investment, durable goods, and corporate profits are showing are showing y-o-y declines.
That said, one of the most focused on lagging indicators -- employment -- still appears strong. But as the Chart of the Day highlights, employment is very long in the tooth. Not only have jobless claims bottomed (meaning employment is worsening on the margin) the current length of time at/below the critical threshold of 300K jobless claims would imply only six more months of economic expansion.
So... has the stock market bottomed yet? Probably not. But it certainly will in time, as it always does. But be forewarned, it took Sir Ernest Shackleton three attempts before he was able to cross the Antarctic.
Back to the Global Macro Grind…
In what has become the new standard for "good" stock market news, China closed well off its lows. At one point during the trading day, the Shanghai Composite was, well, getting Shanghai-ed down almost 4%. Finishing down only 50 basis points on the day and avoiding the another two day -10% loss? Well, it's a victory, of sorts.
This “victory” was catalyzed by rumors of an increased crackdown on short sellers. As conjecture goes, the PBOC is giving guidance to some offshore banks in Hong Kong to suspend offshore Yuan lending. In addition, the PBOC supposedly asked both the banks and various companies to collect information about short sellers in the offshore Yuan market.
If this all sounds familiar, it should. In the 2008-2009 time frame, the crackdown on dastardly short sellers was rampant globally. When all else fails, blame the shorts! That all works fine in some central planning "La-La Land" of economics, but back in the real world blaming short selling doesn’t suspend economic gravity. In fact, if anything, it makes markets less efficient. (Note to Chineses policy makers: the $1 trillion in capital that exited your economy last year wasn’t due to short sellers!)
Back in the U.S., the central planners aren’t yet intervening, but the news over the last 24 hours certainly isn’t all that encouraging. In fact, the all-knowing indicator of U.S. economic health, iPhone sales, grew at its slowest pace since 2007.
We will be receiving more information from the Fed today, but since they just raised rates, it is unlikely they will be getting dovish anytime soon. In the world of globally connected markets, this means the U.S. dollar is likely to strengthen even more from here.
A strong dollar is fine, to a point. But it's also detrimental when it's crushing the U.S. energy, industrial and export sectors. It is great that gasoline is cheaper in Houston than Saudi Arabia, but the derivative impact on the high levered energy industry and debt markets is not going to be pretty. In the short run, it looks like the Fed is tightening into deflationary headwinds and a potential recession. No doubt we know how that ends.
In lighter news, I wanted to highlight this interesting excerpt from my colleague JT Taylor’s "Morning Bullets" at Potomac Research Group relating to Donald Trump:
What Does The Fox Say? – In a campaign that’s been defined by redefining conventional wisdom, this new twist takes the cake. Donald Trump announced last night that he will not participate in Thursday’s debate. As part of the ongoing, sophomoric feud between the front runner and Fox, the network put out a press release essentially taunting Trump (itself unprecedented), who then called Roger Ailes' bluff . . . we can be almost certain that Trump will dominate the news cycle from now until the caucus in Iowa on Monday.
Meanwhile, according to the most recent Washington Post poll, Trump’s lead is as strong as ever. 60% of Republicans see him as the eventual nominee. The Antarctica of politics? It is just beginning.
Our immediate-term Global Macro Risk Ranges are now:
UST 10yr Yield 1.96-2.09%
DAX 9 (bearish)
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research
Takeaway: The MTW crane business has positive value, we think, and the Zoomlion bid for TEX – a new high comp – should highlight that potential. Other Chinese companies may look to diversify away from domestic markets suffering from sagging fixed asset investment and fear of currency devaluation. While we like the idiosyncratic value-unlock character of an MTW long position, the macro and credit environment are increasing inhospitable. That argues for a shorter leash. We are curious to see how the shares trade around the actual spin, as trading in break-ups typically improves just before or somewhat after actual separation. We would also keep an eye on the (now less levered) MTW crane business, which may get severely oversold as portfolios dump this “too small” potential acquisition target. Ping us for our MTW Black Book and EQM/data sets for additional background.
Zoomlion Bid: We don’t doubt that Zoomlion is serious in its bid for TEX. Zoomlion’s home market is fragmented, ultra-competitive, and in a likely structural decline. There is also widespread concern about a substantial currency devaluation. If Zoomlion waits too long, diversification away from domestic markets may become too expensive. Others Chinese manufacturers may try to follow Zoomlion’s lead, and companies like Sany may do more deals along the lines of its early 2012 purchase of Putzmeister. If that’s an accurate take, Goldman’s Asia bankers will have an even happier 2016 than Australian mining insolvency lawyers.
Zoomlion As Comp: The value of a business is the present value of future free cash flows, liquidation value, or what someone will pay for it. The $30 cash offer for Terex, a ~100% premium to mid-January trading, could be construed as a necessary move by a company in a tough domestic market. It could also be viewed as reshaping the competitive landscape in the industry. Zoomlion will gain Terex’s distribution, residual value history, installed base, and brand. That may make a similar transaction attractive to a Sumitomo or Sany. If TEX rebuffs the Zoomlion offer, it could shift the focus to Manitowoc’s crane segment. We don’t know exactly which TEX businesses Zoomlion is most interested in, but it’s a fair bet that cranes are a key attraction.
MTW Cranes Valued @ TEX Bid: It is our contention that the MTW crane segment is given a negative valuation by the market, to the extent that one can guess how the market apportions value. On a sales basis and depending on how the final debt allocations get settled, we would estimate that it would equate to $8-$9 per current MTW share. Assuming the market even roughly prices in this new comp, MTW shares should respond well. We do think that the crane business at MTW is a good sale candidate that fits with several deep pocketed buyers.
S&P Doesn’t Like It, So It’s Probably Good: The analysts at S&P took a break from their after-the-action downgrading energy-related debt to give an opinion on the new issues from Manitowoc and MFS. Our read is that the ratings are not entirely positive, although the pricing on the larger MFS $975 mil 7 yr debt at a Libor +475 would appear an improvement vs. the current costs. It seems that MFS will have somewhat more debt than initially anticipated, consistent with elevated concern about crane cyclicality. We will get more details on the debt allocations on Thursday and readers can peruse the S&P ‘analysis’, but the recent weakness in high yield markets is going to take some value away from equity holders. Most people we have spoken with will just be happy that they are getting the issues off at a reasonable price to complete the separation on time.
Upshot: The MTW crane business has positive value, we think, and the Zoomlion bid for TEX – a new high comp – should highlight that potential. While we like the idiosyncratic value-unlock character of an MTW long position, the macro and credit environment are increasing unhospitable. That argues for a shorter leash. We are curious to see how the shares trade around the actual spin, as trading typically improves just before or somewhat after actual separation. We would also keep an eye on the (now less levered) MTW crane business, which may get severely oversold as portfolios dump this “too small” potential acquisition target.
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