Touch of Genius

“Any intelligent fool can make things bigger, more complex, and more violent. It takes a touch of genius - and a lot of courage - to move in the opposite direction.”

-Albert Einstein

 

A lot of political courage it would take to get this global deficit and debtor nation under control Sir Einstein; a lot of courage indeed…

 

Fortunately, as the US citizenry braces for American Austerity, we are starting to see the early stages of political courage emerge. In the aftermath of President Obama’s “Debt and Deficit Commission” warning him of a “fiscal cancer that could destroy the country from within”, popular websites like Drudge are carrying this as their top story this morning (Drudge Report’s “Debt Like Cancer” at #1 http://www.drudge.com/news/134622/debt-like-cancer).

 

As the Fiat Fools of the Krugman Empire attempt to make our deficit and debt problems “more complex and more violent”, a Touch of Genius that has always been America’s resolve seems to be finding its way into the daily dialogue of Washington’s Officialdom. This is progress. After 5 consecutive down weeks for the US Dollar, apparently Mr. Macro Market has the world’s attention.

 

Recognizing risks and TRENDs as they emerge on the margin is the art of global macro. While it’s politically convenient for the perpetual bull market machine to say that “no one saw the sovereign debt crisis coming 6 months ago”, readers of this daily diatribe know better. Our call 6 months ago was the same for the Euro as it is for the US Dollar now. The currencies of countries with burgeoning deficit and debt to GDP ratios are leading indicators for their domestic stock markets.

 

Fundamentally, our Hedgeyes here in New Haven are chaos theorists. We believe that there is a deep simplicity that governs the global ecosystem and that it manifests itself in high correlations and r-squares. Our daily risk management task is to recognize when immediate term TRADEs (3 weeks or less) are going to become intermediate term TRENDs (3 months or more). Then we call these out as quarterly Macro Themes.

 

Our Q3 Macro Theme of American Austerity has already hit the tipping point of political consensus. With mid-term elections pending and no recovery in US employment in sight, we don’t think that it is politically palatable for Bernanke and Geithner to take Paul Krugman’s word for it. In the last week we have heard leaks coming out of both the Fed and Treasury that another “bigger, more complex” stimulus is not going to be put on the table. God Bless America for that.

 

The alternative is that we literally become the Japanese experiment which, by the way, still doesn’t seem to be going too well. In the last 3 days, here’s the news that’s come out of the island nation gone lost decade(s):

  1. After being in office for less than a month, newly appointed Japanese Prime Minister Naoto Kan has already lost support of the upper house.
  2. Japanese equities have lost ground relative to global equities, closing down on both days this week, moving the Nikkei to -9.6% YTD.
  3. Japan’s Public Pension Fund (which holds 12% of all JGBs) sold more government bonds than it bought last month for the 1st time in 9 years.

You see, unlike the USA who levered up their citizenry with the American Mortgage Dream, Japan has opted to suck down the savings base of their people in order to continue to fund their Great Bureaucracy. As baby boomers get older, they have less savings to give and now the Japanese well is running dry. Sound familiar?

 

Both Japan and Europe have already trekked the road to perdition that the Big Keynesians in America want us to travel. While hope is not an investment process, I do see glimmers of it now that America is learning more than just fear-mongering lessons about great depressions. Americans don’t want to be Japan or Spain.

 

If American Austerity starts to take hold, it won’t be a bed of roses for all things in your portfolio. The United States of America runs an over-consumption economy that dares the citizenry to lever themselves up and go buy a house or car. That needs to stop. It’s time for some frugality.

 

Short term pain for long term gain is something that the Chinese, Brazilians, and Australians seem completely in agreement with. To a degree, some European countries that are far more mature than America are getting this too.

 

The UK is one of those countries that is starting to look interesting to us on the long side – not so much from an equity market perspective yet, but certainly from a currency perspective. Remember, our baseline macro model currently sees currencies as the lead indicator for a country’s budget and balance sheet health.

 

We bought the British Pound (FXB) in the Hedgeye Asset Allocation Model yesterday taking our allocation to international currencies to the highest of all our asset classes other than cash. We have an 18% allocation to international currencies with a 15% position in the Chinese Yuan and a 3% position in the British Pound.

 

Until Professional Politicians in the US start to implement the kind of austerity measures that PM David Cameron and Chancellor of the Exchequer, George Osborne, have, we’re going to maintain our short position in the US Dollar (UUP) and US Equities (SPY) against our Chinese (CYB), Singaporean (EWS), and British (FXB) longs.

 

My immediate term support and resistance levels for the SP500 are now 1048 and 1092, respectively.

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Touch of Genius - japan