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Unemployment’s Tale in Two Countries: US vs Germany

Position: Long Germany (EWG), Long British Pound (FXB), bullish on EUR-USD; Short Italy (EWI)

 

Conclusion: We don’t see the US unemployment rate turning around materially anytime soon, which should contribute incrementally to USD weakness. German unemployment shows an entirely different slope, one we believe adds to the country’s bullish outlook.  

 

Today Germany released its unemployment rate, which dropped 10bps versus the previous month to 7.5% in September. While we acknowledge that we’re not comparing apples to apples in looking at Germany’s unemployment rate versus the US’s (see chart below) we do have a few remarks on the implications of their utter divergences.

  1. Remember that Germany issued a $16 Billion subsidized part-time work program (Kurzarbeit) in the early part of 2009. By all accounts the chart would suggest the program helped to mute an upturn in the unemployment rate during the global recession.  Conversely, the US unemployment rate ramped up through the Great Recession, and has a contributing factor in our call for a much lower GDP estimate than most on The Street for 2010 and 2011.
  2. As our Financials analyst and jobless claims guru Josh Steiner has demonstrated in his research, US jobless claims have yet to come down to the 375-400K range, a level that has been shown historically to encourage the unemployment rate to dip meaningfully.
  3. With consumer consumption comprising a larger percentage of GDP in the US versus Germany (~70% versus ~50%) and wage and salary inflation minimal over recent months in both countries, we believe the US economy will be more hostage to a higher unemployment rate.  

We continue to contend that US unemployment rates in the 9-10% range should contribute to further erosion in the USD. One TRADE we think can work here is long EUR, short USD, despite the ongoing sovereign debt contagion threats across the Eurozone.

 

Matthew Hedrick

Analyst

 

Unemployment’s Tale in Two Countries: US vs Germany - unemploy


EARLY LOOK: The Incorrigible Hand

This note was originally published September 30, 2010 at 08:10am ET.

 

 

“A government big enough to give you everything you want is a government big enough to take from you everything you have.”
-Gerald Ford [Address to a Joint Session of Congress - August 12, 1974]

 

 

EARLY LOOK: The Incorrigible Hand - Gerald Ford

 

 

 

In yesterday’s Early Look, Keith said “I haven’t considered a heightening probability of a US stock market crash in an Early Look note since 2008.”  After reading that all I could think about was 1987 and a very difficult Friday in October.  We have five Fridays in October this year and I, for one, am concerned about all of them!

 

The current backdrop:

 

 

First catalyst - The Incorrigible Hand:

  • A financial bubble fueled by easy money and loose credit bursts  
  • Unemployment rises and GDP growth slows 
  • The misguided in Washington blame foreigners for unfair trade practices and pass a trade bill   
  • Thus sending the country into further economic weakness

 

EARLY LOOK: The Incorrigible Hand - Schumer

 

Some elder Americans have seen this movie before.  The rest of us can read about it.  The fragile state of our economy, which the data is speaking to daily, is not lost on Main Street America.  In Washington, politicians are posturing accordingly.  Schumer and friends are spitting fire about China’s “economically injurious behavior” and the need for action against the “currency manipulators” in the form of a trade tariff on Chinese imports.  Look no further than the Smoot-Hawley tariff act of 1930 for an example of what such action may result in for this country.  Despite a petition signed by over one thousand economists requesting a presidential veto, this law was signed into effect and many believe exacerbated the Great Depression.

 

Yesterday, the House of Representatives passed H.R. 2378 or the Currency Reform for Fair Trade Act.  If it becomes law this year (which is unlikely given the mid-terms and that the Senate is only in session for a few more days), the bill would give the Obama administration the power to raise tariffs on imports if the Commerce Department determines that an exporting country is manipulating its currency.

 

The refusal to yield to common sense on the part of those pushing this bill is beyond belief; you can’t make this stuff up.  The CBO released a report showing that the new tariffs would raise only $20 million versus the billions in trade we do with the Chinese.  Thinking we can legislate the YUAN higher is just lunacy.

 

 

 

Second catalyst - the Financials are at risk:

 

According to our Financials analyst Josh Steiner, certain Financials are setting up to be a great short.  In his note yesterday he said “this is the third time this year that we've written a note on high yield and its relationship/implications for the XLF. High Yield is knocking on the door of its YTD highs once again; the index peaked at 8.19% on April 29th, 8.28% on August 3rd and closed two days ago (September 27) at 8.24%. Following those first two peaks in high yield, XLF dropped 18% and 10%, respectively over durations of 64 and 23 days.“

 

 

 

Third catalyst - the cost of bailing out the European mess is on the rise:

 

Europe’s woes continue, whether the eyes of the manic media are focused on them or not.  Ireland’s government has injected 30 billion euro into Anglo Irish Bank since January 2009 and estimates that 11.4 billion euro in additional liquidity may be required.  Another lender, Allied Irish Bank, is also set to receive government funding bringing the total cost of Ireland’s bank bailout to as much as 50 billion euro ($68 billion).  In addition, the country's budget deficit will balloon to 32% of GDP this year.

 

 

 

Fourth catalyst - Fridays ISM print:

 

Once again, we are looking at a Friday in October as bonds signal trouble and stocks levitate.  I understand that the economic backdrop of the crash in October 1987 was very different, but it’s still all about interest rates, the dollar and budget deficits.  This time, the “emergency” level of rates is not helping to stimulate the economy as intended. 

 

Tomorrow the ISM manufacturing index for September will be reported.  The August reading of 56.3 posted a big upside surprise versus expectations of 52.8, setting off a 9.09% rally in the S&P 500.  Since then, Factory orders, ISM non-manufacturing, Empire Manufacturing, Philadelphia Fed, Chicago Fed and the Dallas Fed have all reported disappointing numbers relative to expectations.  All of the regional FED readings, except the Empire State manufacturing reading, are showing September numbers that imply economic contraction, not expansion. A reading below 50 on the ISM is in play for the first Friday in October.

 

 

EARLY LOOK: The Incorrigible Hand - obama schumer

 

 

We believe that the fundamentals are pointing to the downside and the catalysts outlined above highlight some key risks to be aware of.  With many close races in the November elections, pointing fingers at others is the favored position in D.C. Rest assured, government’s Incorrigible Hand will be in action.  There are historical precedents for this kind of policy.  Looking at a more contemporary cautionary tale, Japan, is also instructive.  We will be exploring the lessons to be learned from Japan’s experience next Tuesday, October 5th when the Hedgeye Macro team hosts the 4Q10 Macro Themes conference call (email sales@hedgeye.com if you are interested in the call).  The three themes are:

 

(1)    Japan’s Jugular  - Japan got rocked last night, down 1.99%, now down 11.6% YTD.

 

(2)    Krugman’s Kryptonite - comparing our Japan conclusions to academic dogma about debt financed deficit “stimulus”, and deconstructing  Paul Krugman’s math.

 

(3)    Consumption  Cannonball  - The Incorrigible Hand strikes again!

 

Function in disaster; finish in style.

 

Howard Penney



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OK LV AIRPORT DATA

Flat airport traffic, low slot and table hold last year, and solid high end play should lead to positive revenue growth on the Strip in August.

 

 

McCarran Airport released data showing that the number of enplaned/deplaned passengers decreased only 0.4% in August.  As you know, fly in traffic represents the lion share of Las Vegas Strip visitation.  Based on this data and other inputs, we think Strip gaming revenue will increase 5-7%, assuming normal slot and table hold percentages.

 

Why do we expect positive gaming revenue growth with negative airport traffic?  Why not?  If people can be made to believe MGM is a good buy at 13x EBITDA, they’ll believe anything.  Actually, our prediction is a little more rationally based than that.  First, table and slot hold percentages were both below normal last year.  If use the same hold percentages as last August, our projection would be only slightly positive.  Second, we do expect table spend per visitor to be up over last year, consistent with recent months.  Finally, drive-in traffic has been positive the last few months and we think that trend continued in August. 

 

Here the projections:

 

OK LV AIRPORT DATA - vegas1


JOBLESS CLAIMS FALL 16K; CENSUS HEADWINDS END, BUT NEW HEADWINDS MAY BE AHEAD

Initial Claims 

Initial claims dropped 16k last week to 453k (falling 12k before the revision).  Rolling claims came in at 457k, a decline of 6.25k over the previous week. Reported claims fell near the bottom of their YTD range of 450-470k, but, importantly, are still squarely in the YTD channel and well above the 375-400k range necessary for the unemployment rate to fall.

 

An article in the New York Times last weekend (link sign-in required) highlighted the expiration of a stimulus program that directly subsidizes jobs, paying employees’ salaries in whole or in part to encourage small businesses, nonprofits, and government organizations to hire.  The $1B funding was a part of the emergency fund for the welfare program Temporary Assistance for Needy Families.  “The federal program has helped employ nearly 130,000 adults and has paid for nearly an equal number of summer jobs for young people, according to an analysis by the Center for Budget and Policy Priorities, a liberal policy institute in Washington,” reported the Times.  The program expires today, unless Congress and the President agree to extend it.  The Times noted that the extension is opposed by Congressional Republicans against further stimulus-related spending.  If the job creation estimate is correct, this could be a significant headwind for the initial claims series. 

 

JOBLESS CLAIMS FALL 16K; CENSUS HEADWINDS END, BUT NEW HEADWINDS MAY BE AHEAD - 1

 

JOBLESS CLAIMS FALL 16K; CENSUS HEADWINDS END, BUT NEW HEADWINDS MAY BE AHEAD - 2

 

Our firm's expectations for an ongoing economic slowdown relative to the first half of the year and into 2011 will keep a lid on new hiring activity as management teams focus on cost control. All of this raises the risks that a prospective slowdown in GDP will precipitate an incremental slowdown in hiring/pickup in firings, which will, in turn, further pressure growth. We continue to look to claims as the best indicator for the job market, as they are real time and inflections in the series have signaled important turning points in the market in the past.

 

In the table below, we chart US equity correlations with Initial Claims, the Dollar Index, and US 10Y Treasury yields on a weekly basis going back 3 months, 1 year, and 3 years.

 

JOBLESS CLAIMS FALL 16K; CENSUS HEADWINDS END, BUT NEW HEADWINDS MAY BE AHEAD - 3

 

Census headwinds should finally abate on or about this week as end of September has historically been the last significant month of Census firings.

 

JOBLESS CLAIMS FALL 16K; CENSUS HEADWINDS END, BUT NEW HEADWINDS MAY BE AHEAD - 4

 

Joshua Steiner, CFA

 

Allison Kaptur


JOBLESS CLAIMS FALL 16K; CENSUS HEADWINDS END, BUT NEW HEADWINDS MAY BE AHEAD

Initial Claims 

Initial claims dropped 16k last week to 453k (falling 12k before the revision).  Rolling claims came in at 457k, a decline of 6.25k over the previous week. Reported claims fell near the bottom of their YTD range of 450-470k, but, importantly, are still squarely in the YTD channel and well above the 375-400k range necessary for the unemployment rate to fall.

 

An article in the New York Times last weekend (link sign-in required) highlighted the expiration of a stimulus program that directly subsidizes jobs, paying employees’ salaries in whole or in part to encourage small businesses, nonprofits, and government organizations to hire.  The $1B funding was a part of the emergency fund for the welfare program Temporary Assistance for Needy Families.  “The federal program has helped employ nearly 130,000 adults and has paid for nearly an equal number of summer jobs for young people, according to an analysis by the Center for Budget and Policy Priorities, a liberal policy institute in Washington,” reported the Times.  The program expires today, unless Congress and the President agree to extend it.  The Times noted that the extension is opposed by Congressional Republicans against further stimulus-related spending.  If the job creation estimate is correct, this could be a significant headwind for the initial claims series. 

 

JOBLESS CLAIMS FALL 16K; CENSUS HEADWINDS END, BUT NEW HEADWINDS MAY BE AHEAD - rolling

 

JOBLESS CLAIMS FALL 16K; CENSUS HEADWINDS END, BUT NEW HEADWINDS MAY BE AHEAD - raw

 

Our firm's expectations for an ongoing economic slowdown relative to the first half of the year and into 2011 will keep a lid on new hiring activity as management teams focus on cost control. All of this raises the risks that a prospective slowdown in GDP will precipitate an incremental slowdown in hiring/pickup in firings, which will, in turn, further pressure growth. We continue to look to claims as the best indicator for the job market, as they are real time and inflections in the series have signaled important turning points in the market in the past.

 

Yield Curve

The following chart shows 2-10 spread by quarter while the chart below that shows the sequential (quarterly) change. The 2-10 spread (a proxy for industry NIM) has been compressing rapidly in the past two quarters. Yesterday’s closing value of 207 bps is down from 212 bps last week. This quarter vs. last quarter is down 38 bps, which is a sequential acceleration from 2Q10 being down 19 bps vs. 1Q10. Moreover, the yield spread, were it to stay flat at present levels through 4Q10 would lead to a 4Q10 sequential decline of 17 bps. The headwind will grow in significance as it affects most companies on a lag.

 

JOBLESS CLAIMS FALL 16K; CENSUS HEADWINDS END, BUT NEW HEADWINDS MAY BE AHEAD - spreads

 

JOBLESS CLAIMS FALL 16K; CENSUS HEADWINDS END, BUT NEW HEADWINDS MAY BE AHEAD - spread qoq

 

The table below shows the stock performance of each Financial subsector over four durations. 

 

JOBLESS CLAIMS FALL 16K; CENSUS HEADWINDS END, BUT NEW HEADWINDS MAY BE AHEAD - subsector perf

 

Census headwinds should finally abate on or about this week as end of September has historically been the last significant month of Census firings.

 

JOBLESS CLAIMS FALL 16K; CENSUS HEADWINDS END, BUT NEW HEADWINDS MAY BE AHEAD - census chart

 

Joshua Steiner, CFA

 

Allison Kaptur


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