Accept Uncertainty

“For my part I know nothing with any certainty, but the sight of the stars makes me dream.”

-Vincent van Gogh


Back to the grind this morning. I’ll try to kick things into gear by keeping this tight. I’ll start where I always do, utilizing real-time market prices and the governing principles of chaos theory in our macro models. Managing risk in this increasingly interconnected global marketplace always starts with accepting uncertainty.


Chief of the Reserve Bank of Australia, Glenn Stevens, had this to say overnight as he kept Aussi rates unchanged at 4.5%:


“With growth in the near term likely to be close to trend, inflation close to target and with the global outlook remaining somewhat uncertain, the board judged this setting of monetary policy to be appropriate for the time being.”


Crisp, concise, and the to the point. To be sure, saying “somewhat uncertain” was pointed directly at Ben Bernanke who calls today’s global economy “unusually uncertain.” Altogether, global risk managers and central bankers alike should simply accept uncertainty in what it is that they do.


While I’m not certain about what it is exactly that Bernanke does in managing multi-factor and multi-duration global macro risk every day, I am certain about what it is that Congress does whenever they have an economic problem to solve for – spend.


Taking President Bush’s lead in increasing government spending, President Obama introduced another $50 BILLION in stimulus spending over the long weekend. This isn’t a political point – it’s a mathematical one. As you increase the numerator (spending) and the denominator continues to shrink (GDP), the ratio of US deficit/GDP goes up.


While there was some sort of sadistic fanfare associated with a 9.6% unemployment rate in this country being “better than expected” on Friday, we are going to look at the current intermediate term TRENDS in both US employment and consumption for what they are and we’re going to cut our US GDP growth estimate from 1.7% for Q3 to 1.3%.


What are the main macro signals in the US marketplace that continue to flash slowing growth? 

  • US Currency – the US Dollar was down last week for the 12th week of the last 14, losing another -1.1% of its uncertain value as the world’s reserve currency. Perhaps the President’s plans for additional stimulus leaked into week’s end. You tell me. 
  • US Bond Yields – after rising from its YTD lows last week, the interest rate on 10-year US Treasuries are falling again this morning back down to 2.65%. Notwithstanding that our intermediate term TREND line of resistance remains much higher (up at 3.01%), the reality here is that the bond market doesn’t lie about US GDP growth; politicians do. 
  • US Equities – after a big rally from oversold lows (we covered most of our short positions between August 24th and 25th walking through the math associated with the 1040 level being an important level to book gains on the short side), the SP500 remains bearish from an intermediate term TREND perspective. Our Bear Market Macro line in the sand remains 1144, and we have immediate term TRADE resistance at 1107. 

This isn’t to say that there aren’t other countries, currencies, and commodities in this world that won’t do well in this uncertain macro marketplace (after being bearish on them for the first half of 2010, we are long Chinese equities via the CAF). This is simply an opportunity to recognize that there is nothing “unusual” about how currency, bond, and equity markets in the US are correlating.


What could change our view that US GDP growth is slowing? 

  1. Weekly Jobless claims dropping, sustainably, below 390,000.
  2. Weekly MBA mortgage applications showing some semblance of a demand signal for US Housing (as opposed to the lowest levels of demand since 1997).
  3. Weekly price performance of US currency, US Treasury bonds, and US stocks changing their intermediate term TRENDS for at least 3 consecutive weeks. 

What could change our call for American Austerity (Q3 Hedgeye Macro Theme)? 

  1. Slowing US government spending
  2. Accelerating US GDP growth 

Unfortunately, despite the “sight of the stars” of the northern lights last week, I am certain that I see neither government spending nor growth in America changing their respective bearish paths this morning.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Accept Uncertainty - 1


 We’re only a week in but the numbers continue to look soft, at least relative to the recent scorchers. 



Our sources indicate that through the first five days of September, Macau table revenues were HK$2.27 billion.  Taking into account that the first 5 days include a full weekend, it projects out to around HK$14 billion including slots, or a little over 30% growth.


Of course, it really isn’t that useful to make projections after only 5 days but we did it anyways.  We do believe that September will be a slower grower.  The initial data seems to confirm this and our peeps on the ground are indicating that the gaming floors are noticeably less busy than they were in mid-August. 


The market shares are all over the place as can be seen in the following table.  Wynn is holding near its reduced August level of 14%.  LVS must’ve gotten nailed on the VIP tables as its share fell all the way to 13%.  Most interesting is MPEL, up over 20%.  Still way too early, but if MPEL can generate a third straight month of market share gains, we doubt the stock would retain a four handle for very long.  Poor MGM.  Not much else to say there.



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The Week Ahead

The Economic Data calendar for the week of the 6th of September through the 10th of September is full of critical releases and events.  Attached below is a snapshot of some (though far from all) of the headline numbers that we will be focused on.


The Week Ahead - c1

The Week Ahead - c2

Not Looking Good: U.S. Unemployment & ISM Non-Manufacturing by the Charts

Conclusion: The combination of today’s employment report and the ISM Non-Manufacturing Index spell incremental trouble for the U.S. economy. We have conviction that growth will continue to slow based largely on a jobless and deleveraging consumer, downward pressure on housing prices, and a burgeoning federal debt burden.


Position: Short the S&P 500 (SPY).


This morning’s employment report was well received by the market (up around 1% today). This is largely due to the fact that private payrolls “beat” consensus estimates, climbing 67k vs. 40k (Bloomberg Consensus).


Akin to a bad company beating low earnings expectations, this morning’s employment report does not pass the test of analytical rigor. Diving deeper into the “model” we see that private payrolls growth (while up 67k MoM) slowed sequentially. In MACRO, everything that matters happens on the margin, and, on the margin, this is sequential deterioration.


 Not Looking Good: U.S. Unemployment & ISM Non-Manufacturing by the Charts - 1


Analyzing the industry-specific reports, we see that employment at service providers fell 54k MoM. While a sequential improvement, it is important to note that today’s ISM Non-Manufacturing Employment Index came in at 48.2 for the month of August, offering no near-term signs of reprieve in this sector. Employment in the retail industry fell by 4,900 bodies and employment in the construction sector grew 19k MoM. We hope (understanding full well that hope isn’t and investment process) that this addition of labor isn’t busy adding more supply to a housing market that is very much in disequilibrium from a supply/demand standpoint. Research from Josh Steiner, our Managing Director of Financials, suggests we are due for a ~20% correction in housing prices over the next 12 months based on current inventory levels – absent major government intervention.


 Not Looking Good: U.S. Unemployment & ISM Non-Manufacturing by the Charts - 2


The deltas in federal government employment continue to be distorted by the unwinding of Census hiring, so we’ll just leave the (-121k) MoM decline alone. We will, however, point out that State & local governments continue to shed jobs (down 10k MoM) and the austerity measures currently being undertaken across the country will weigh on GDP growth going forward. YTD, State & local governments have shed 135,000 jobs and without meaningful intervention by the federal government (or a pickup in tax revenues, which we feel is unlikely based on where we think GDP is headed), this trend will continue because of their budget balancing mandate.


 Not Looking Good: U.S. Unemployment & ISM Non-Manufacturing by the Charts - 3


Today’s unemployment report is similar to the trend we saw in the 2Q earnings season whereby companies beat on earnings but missing on the top line. The positive market reaction to the private payrolls “beat” is overshadowing the sequential uptick in the unemployment rate (9.6% vs. 9.5% in July), which is a miss in our eyes – regardless of consensus expectations. The end result is simply that less people that want jobs have them. Underemployment, which measures part-time workers who’d prefer full-time employment and people who want to work but have given up looking, also worsened sequentially (16.7% vs. 16.5% in July). Needless to say, the employment situation in America is not conducive for a pickup in growth, given that ~70% of our economy is consumer spending.


 Not Looking Good: U.S. Unemployment & ISM Non-Manufacturing by the Charts - 4


The last chart we want to highlight comes from another survey; the ISM Non-Manufacturing Index for August “missed” estimates, falling off the table sequentially (51.5 vs. 54.3 in July vs. consensus expectations of 53.2). The survey, which covers about 90% of the economy, is now 150bps away from signaling a contraction. The three components of the index we watch all declined sequentially: New Orders dropped to 52.4 from 56.7; Backlog of Orders dropped to 50.5 from 52; and Employment dropped into contraction at 48.2 vs. 50.9 in July.


 Not Looking Good: U.S. Unemployment & ISM Non-Manufacturing by the Charts - 5


All told, the combination of today’s employment report and the ISM Non-Manufacturing Index spell incremental trouble for the U.S. economy. We have conviction that growth will continue to slow based largely on a jobless and deleveraging consumer, downward pressure on housing prices, and a burgeoning federal debt burden. On July 1st as part of our American Austerity theme, we published our initial estimate for 3Q GDP, which was 1.7%. That will be revised lower in the coming weeks.


We remain short the S&P 500 via the etf SPY with an immediate term TRADE downside target of 1061.


Enjoy the long weekend with your family and friends.


Darius Dale



Once per year, the BLS benchmarks its payroll estimates against state unemployment insurance filings, which last year saw a significant drop in the previously-reported payroll employment levels. 


In the benchmark revision for the year beginning March 2009 (printed in 2010), the net effect of the BLS revision was an upward adjustment to the number of jobs losses during the recession of 900,000 jobs.  When the BLS first announced the massive 2009 benchmark revision, in effect the statement indicated that the underlying assumptions to the Birth-Death Model were missing certain jobs losses and it is not a reliable indicator.  The BLS’s model assumes that jobs created by start-up companies have more than offset jobs lost by companies going out of business.  So for the BLS this becomes their equivalent of a fudge factor; the ability to make the employment situation appear better than it really is.  We will be following up with a more in depth analysis of this effect early next week.


So far this year, the model has created an average of 53,000 jobs per month, including 115,000 jobs this month.  In this economy, it is interesting that the bias has been positive and not negative!  While there is no shortage of misinformation being broadcast through the media, the government seems to be a fully engaged participant.


With the September payroll numbers, the BLS is scheduled to publish its initial estimate of the benchmark revision for March 2010; once again we are likely to learn that the BLS got it wrong again and hundreds of thousands of people lost their jobs that we did not know about. 


Knowing how flawed the Birth/Death model is flawed, backing out the 115,000 of addition jobs this month, the non-farm payroll number would be closer to -169,000; worse than consensus and acceleration from last month's loss of -131,000. 

We just bought the TLT exchange-traded fund.   If the hope that unemployment is meaningfully improving and housing is stabilizing, we’ll be a buyer of the long end of the bond market on associated weakness.


Housing is not improving and unemployment situation is not either.


Howard Penney

Managing Director

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