Inflation Wars: Snorting QE

This note was originally published at 8am this morning, October 12, 2010. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

"I didn't even like coke that much, it was just a case of getting on whatever train I needed to take to get high.”

-Carrie Fisher


On many levels, the Big Government American Life of the late 1970s became a scary place. As consensus gets paid to snort QE and blow its mind on whatever M&A machination they can dream up because “money is cheap”, please remember that we’ve seen government sponsored trailers to this movie before.


In 1977, as Jimmy Carter was being sworn in as President of The United States and the Fed’s Chairman, Arthur Burns, was finishing his experiment of monetizing US Treasury debt, “Star Wars Episode IV: A New Hope” came to the big screen. In the meantime, Princess Leia (Carrie Fisher) was snorting lines of cocaine on the set of “The Empire Strikes Back.”  


If you didn’t know that’s what was going on behind the scenes, now you know. Yesterday, in the spirit of Columbus Day, the now 53-year old Fisher admitted that she didn’t even really like doing coke, but she was quite happy to get high anyway.


Hope, of course, is not an investment process and neither is chasing this market higher in the face of what you really know is going on. Inflation is running up again. Both companies and consumers alike are starting to get squeezed.


Before you have a “New Keynesian” who got submarined by stagflation circa 1981 send me a reply explaining how everything is “deflationary”…  but earnings for the companies my buddies and I are long are “going to be great”…  but “we need QE3 anyway”… let’s look at some real-time prices:

  1. CRB Commodities Index hit a new YTD high yesterday for 2010 (up +13% since August!).
  2. Copper prices are up +28% since August and are now testing their all-time peak prices of 2008.
  3. Chinese stocks have rallied +20% since their July lows.

China, Copper, and Commodities? Yes, Dear Congress person, these are what we call demand drivers of long term secular inflation that are augmenting your Burning of the Buck as you provide the stimulus for Jobless American Stagflation.


Now please don’t take my word for this concept of long-term secular inflation. Have all of your analysts read pages 180-201 in Reinhart & Rogoff’s ‘This Time Is Different.’ Chapter 12, “Inflation and Modern Currency Crashes”, is very timely reading when you consider the history of global inflation going back to the year 1500.


Yes, going back that far in time is a long time. But so is life and, as Rose Bertin aptly put it, “there is nothing new except what is forgotten.” The chart on page 181 of the median inflation rate, using a 5-year moving average, tells you all you need to know. Ever since the world convinced itself that the US should be trusted to debauch the world’s reserve currency, prices have gone up.


In today’s world inflation is, like politics, a local phenomenon that’s backed by the credibility of the government who oversees its currency. So let’s strap the accountability pants on and snort down some local inflation readings from this morning:

  1. UK Consumer Price Inflation (CPI) was reported at +3.1% year-over-year (+110bps above what even the government calls acceptable).
  2. Brazil is raising its inflation forecast for 2011 to +4.98% - that’s pretty precise because they change the estimate as prices change.
  3. Korea’s Posco (the 3rd largest steelmaker in the world) cuts earnings guidance by 7% due to “commodity costs” rising.

All the while, back here in the Empire of the Fiats, after the US Dollar has lost -13% of its value over the course of the last 19 weeks, Ben Bernanke is going to fear-monger you into trusting that everything you put in your car or grocery basket is deflating. Keep snorting on that QE idea dude. Arthur Burns did.


Ahead of Heli-Ben’s deflation speech at the Boston Fed on Friday, think about what’s really going on behind the scenes here folks. The US government is broke and can’t afford to tell Americans on Social Security that professional politicians would rather pay themselves than the political piper.


As my partner, Howard Penney wrote yesterday, health insurance premiums are rising, poverty is up (43 million on food stamps), and the nation's unemployment rate is nearly 10% and now the government is expected to announce this week that more than 58 million Social Security recipients will go through another year without an increase in their monthly social security benefits.


As a point of reference, Social Security and Supplemental Security Income benefits are adjusted annually to reflect the increase in inflation; the average CPI-W for the third calendar quarter of the prior year is compared to the average CPI-W for the third calendar quarter of the current year and the resulting percentage increase represents the percentage that will be used to adjust Social Security benefits beginning for December of the current year.


The projection will be made official on Friday, when the Bureau of Labor Statistics releases inflation estimates for September. Those on Social Security haven’t had a raise since January 2009, and now it looks like they won’t be getting one until at least January 2012.


Now you know why Bernanke’s speech in Boston is titled “Revisiting Monetary Policy In A LOW INFLATION Environment”…

Keep taking whatever train you boys at the Fed need to get on to help CNBC cheer that stock market higher. We know what’s going on behind the scenes.


My immediate term support and resistance lines for the SP500 are now 1153 and 1173, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Inflation Wars: Snorting QE - fisher

The NFL Calendar is Re-Written

The old adage in NFL product licensing is that “Reebok owns Sunday (pro), Nike owns Saturday (college), and Under Armour owns Friday (high school).”  Well, get ready to rewrite the calendar. Reebok’s 10-year deal with the NFL expires in 2012, and the lion’s share is ending up in Nike’s hands. Nike is a winner here. But let’s face it…these deals are getting expensive. The biggest winners might very well be the retailers.


A few thoughts…


1)      Nike will absolutely blanket both the collegiate circuit as well as the NFL.


2)      A decade ago, this deal did not make sense for Nike (it was just emerging from a VERY ugly period when the contract -- which it owned -- came due). Today, it makes all the sense in the world. This synchs perfectly with the company’s focus to go deep into specific categories – US Football being one of them.


3)      It’s not on the cheap. We’re still waiting on numbers, but it’s safe to say that it will be well above the $30mm/year paid by Reebok. This deal will also have some up front payment that is likely to flow through the P&L. The interesting point here, however, is that even if it were $60 per year, we’re only talking 2% of Nike’s Demand Creation budget. If there was never a single dollar of sales associated with this deal, it would only hurt margins by 30bps.  Clearly, that’s not the plan…but it shows the size and scale Nike has vs. its’ competition.


4)      Let’s give credit where it’s due to AdiBok for not chasing this puppy. But what does it do now? The $300mm was an extremely poor investment for Reebok – one of the worst in recent memory for any company in this space. But Adidas now has a powerful $30mm/year weapon on its P&L. Will it use it in another sport in the US? Will it go after specific athletes? Our bet is that it will up the ante for European Football. Nike will not have the luxury of ignoring this.


5)      Under Armour is more likely to get Tom Brady (see our 10/7 post – Tom Brady – Free Agent). That would be somewhat of a loss for Nike – even though he has not had great commercial value. The traditional Nike mindset would be to keep him anyway (they'd let pride get in the way). If they let him go, it will impress me as it relates to Nike letting its ego go and focusing on the highest ROI uses of capital. That said, while cutting Brady loose might make sense on paper, what happens if UA steals market share because they use him more effectively? Decisions, decisions... I just argued both sides in a simple paragraph. Can you imagine what the debate is like internally?


6)      Foot Locker is likely to benefit as well. Note that Nike has co-branded NBA shops with FL. FL would love NFL shops, but AdiBok wasn’t exactly the best partner. That will change.

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Dropping the Mitts . . . Less Than a Month Until Election Day

Conclusion:  We are becoming increasingly convinced that that the Republicans will take back the Senate, which is supported by new data from Intrade.  Further, a major Republican win is clearly becoming priced into equity markets.


As Election Day 2010 looms in less than a month, the proverbial gloves are being dropped across the nation with political rhetoric from both sides taking a more aggressive tone.  In particular, the Democrats seem to be turning up the volume in terms of negativity.  Strategically, this may actually be a decent strategy, as the Democrats currently appear to be in dire straits.  Not only do the Democrats continue to lag in key polls, which we’ll touch on, but some of their large supporters from recent years seem to be losing interest in supporting politics.


In particular, we would highlight this quote yesterday about George Soros in the New York Times:


“Mr. Soros, a champion of liberal causes, has been directing his money to groups that work on health care and the environment, rather than electoral politics. Asked if the prospect of Republican control of one or both houses of Congress concerned him, he said: “It does, because I think they are pushing the wrong policies, but I’m not in a position to stop it. I don’t believe in standing in the way of an avalanche.”


Avalanche does indeed seem like the appropriate adjective given the results from some recent polls.


The polls we focus on most consistently in terms of predicting a potential upside surprise for the Republicans are the Generic Congressional Polls.  This is a poll that measures the generic preferences of Likely Voters.  Real Clear Politics aggregates all of the polling companies into an average (which is charted below).  Currently, the Generic Congressional Poll is as wide as it has been in this electoral cycle for the Republicans with 48.1% of those polled likely to vote for the Republican and 41.3% of those polled likely to vote for the Democrat.


Dropping the Mitts . . . Less Than a Month Until Election Day - 1


Additionally, Intrade has open futures contracts on both the Senate and House. Currently, the contract for the Republicans taking the House is trading at 78.7, which is basically its highest point of this election cycle. The contract for whether the Democrats will keep the Senate is also now leaning Republican, as it closed below the 50 level last night with a closing price of 48.5.  This contract has seen a dramatic decline in the last few weeks as the likelihood of the Democrats maintaining the Senate seems more and more unlikely based on recent data.


Dropping the Mitts . . . Less Than a Month Until Election Day - 2


In terms of the race for the Senate, the Real Clear Politics poll averages currently have the Democrats holding 48 seats, the Republicans winning 46 seats, and 6 seats currently too close to call. Interestingly, over at the Republicans are doing even better with 48 seats, while the Democrats have 47 seats with the remaining seats too close to call.  The most noteworthy race to recently shift categories is the Senatorial race in California between Barbara Boxer and Carly Fiorina, which has gone from Leaning Democrat to Too Close To Call, as Fiorina has narrowed the gap.


As we stated from the outset, the continued shift of the date towards the Republicans seems to have heightened the rhetoric of the Democrats.  As part of our research process, we receive campaign emails from both Democrats and Republicans and were somewhat interested to receive an email this weekend with this statement inserted:


"This is a threat to our democracy... And if we just stand by and allow the special interests to silence anybody who's got the guts to stand up to them, our country's going to be a very different place.

That's what the President just said about the Chamber of Commerce, a right-wing group spending $75 million to beat Democrats this fall, and reportedly taking money from foreign corporations -- some even owned by foreign governments.”


This statement from President Obama was made in conjunction with the video below, which attempts to tie the Chamber of Commerce, to President George W. Bush, and to foreign sources of money:


We were somewhat surprised to see President Obama, specifically, target the Chamber of Commerce, but to be fair the Chamber of Commerce has aggressively ramped up its lobbying efforts in the last decade.  In fact, in 2009 the Chamber of Commerce spent $144.5MM, up from $18.7MM in 2000, and is now the largest spending lobbyist by a factor of 5 (next is Exxon Mobil).  The vast majority goes towards Republican causes and candidates.


As we stated above, strategically it does make sense for the Democrats to amp up the volume on their attacks and try to bring back into focus the economic track record of the Bush administration.  There is also risk in this strategy, though, as the Chamber of Commerce, despite its lobbying efforts, legitimately represents more than 3 million U.S. businesses and, based on many polls, is a widely respected organization.


Regardless, with the Democrats facing an avalanche, as per George Soros, the next couple weeks should lead to an acceleration of aggressive attacks.  While there is potential that these attacks narrow the gap, there is also some probability that these attacks push voters further away from the Democrat party in the upcoming midterm.


Daryl G. Jones

Managing Director

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