Initial Claims Rise 13k (17k After Revision)

Initial claims rose 13k last week to 462k (rising 17k before the upward revision of last week’s data).  Rolling claims came in at 459k, an increase of 2.25k over the previous week and the first increase in the series in seven weeks. All told, claims remain in the same band they’ve occupied since the start of the year. It bears worth repeating that claims need to be in the 375-400k range before unemployment can start to fall. For reference, we pointed out last week the curious fact that of the claims revisions over the past 24 weeks, 23 were revised higher (more claims) the week after. We calculated that the odds of that happening randomly were one in 699,000. This week, claims from last were, surprisingly, revised higher by 4k bringing the running count to 24 upward revisions out of 25 instances. For those curious, the odds of 24 in 25 going higher are one in 1.34 million.






Our firm continues to expect a further economic slowdown relative to the first half of the year and into 2011 that will keep a lid on new hiring activity as management teams focus on cost control. We're seeing anecdotal signs of this in the Financials recently.


Yield Curve

The following chart shows 2-10 spread by quarter while the chart below that shows the sequential change. The 2-10 spread (a proxy for industry NIM) has been collapsing in the past two quarters.  Yesterday’s closing value of 206 bps is up from 201 bps last week.






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




Joshua Steiner, CFA


Allison Kaptur


The Macau Metro Monitor, October 14th 2010


S'pore's GDP contracted by 19.8% QoQ, missing estimates of -17.5%.  However, the Ministry of Trade and Industry (MTI) stated the S'pore economy remains on track to grow 13-15% YoY.  The decline was largely attributed to a 57% drop in the manufacturing sector.



In a surprise move, the Monetary Authority of Singapore said it will "increase slightly" the slope of its policy band for the Singapore dollar and also widen the band in which it allows the currency to trade against an undisclosed, trade-weighted basket of currencies.  It maintained the level at which the band is centered.  This move is an effort to combat the predicted 4% inflation by the end of the year.  MAS did not change its stance of "modest and gradual appreciation of the S'pore dollar".  The US Dollar dropped to a record-low of 1.2886 S$ shortly after the central bank move.



September new RMB loans increased RMB 50.3BN to RMB 595.5BN (US$89BN).  The strong lending market has forced China's four major banks to increase the deposit reserve ratio by 50 basis points.


VIP promoter Asia Entertainment & Resources (AERL) has acquired a 100% profit interest in King's Gaming Promotion, a VIP promoter that currently operates one room with five tables at The Venetian Macau.



Visitor arrivals in package tours increased by 23.1% YoY to 477,072 in August 2010.  Tour visitors from Mainland China, HK, Japan, and Korea increased by 28.4%, 8.3%, 3.9%, and 152.6% YoY respectively.  Taiwanese tour visitors decreased 16.5% YoY.




“As long as the music is playing, you’ve got to get up and dance.  We’re still dancing.”

-Charles O. Prince (Citigroup CEO) July 10th, 2007


If Chuck were in the game today he would be dancing as the S&P finished higher for the fourth straight day while the already-elevated quantitative easing expectations continue to weigh on the dollar (down 1% this morning and -8.5% in 3Q10) and put a bid under the riskiest assets.  It’s just a matter of time before the music stops playing and the consequences of a debased currency are brought to bear on this economy.


If you listen to our morning call, just about once a week Keith says “hope is not an investment process.”  Typically, this phrase is used in response to hopeful rhetoric surrounding the markets.  More and more people seem to disagree with Keith, turning to hope for more QE, more time, more bonuses… Hope is becoming part of some people’s process.


While I try to leave hope out of it, and remain as objective as possible, it is difficult to suppress the hope I have that the market does not step on one of the many landmines that are scattered from New York to Beijing and back again. 


One major landmine in DC is the lack of competence of the Federal Reserve Board and the Administration.  Hopefully Ben Bernanke knows what he is doing, but he is clearly not abiding by the dual mandate of the FED: full employment and price stability.  The unlimited supply of money created by the Fiat Fools can dwarf the limited supply of some commodities.  Thus, the FED policies are inciting increased speculative risk, thereby creating a commodity bubble.  This is what we are seeing occur real time:


(1)   Gold trading at a record high for the second straight day

(2)   Tin trading at a record high

(3)   Cotton at a record high

(4)   Copper at a 27-month high

(5)   Rubber at a 27-month high

(6)   Soybean, Corn and Wheat all approaching 2008 record highs


Inflation is becoming a problem across the globe, as the Serbian central bank is telling us this morning.  With India, Australia and Canada having raised rates this year, some voices in China are also calling for a move in rates to address inflation in their economy.  As one of our clients across the pond pointed out, what if the US and China struck a deal - the Chinese will let the YUAN appreciate in exchange for less QE?  That would certainly put a pin prick in the commodity bubble and the reflation trade!


With the market trading at 12x NTM EPS, hopefully we can keep dancing and get it to 13x.  That would be another 5% from here – easy money which would be handy going into the holidays.  Wall Street and Main Street are not two streets on the same block anymore; they are on different planets.  A cursory glance at the headlines will spell out the increasing gulf between the Haves and the Have Nots in this High-Low Society.  Hoping to be eligible for the food stamps program is very different than hoping for a record bonus.


It is my view that a decoupling from reality has occurred in many areas of the American economy over the past twenty years.  Salaries paid to twenty-something’s to carve up mortgages and sell them were completely unrelated to the actual utility these workers were adding to the economy.  At some point, such disconnects are forced to come back to reality.


The “exorbitant privilege” the United States holds as the world reserve currency holder is clearly being challenged by China, Russia, Germany and most importantly, by the markets.  While it is ingrained in many people’s minds to take for granted that the dollar will always be king, I would much rather be cognizant of two facts.  Firstly, it has not always been the world reserve currency.  Secondly, economically buoyant rivals across the globe are calling for a new system.  Far from playing a hand in bringing us back to reality – the government is doing everything it can to keep the music going in the markets, only further irritating our Client and Chief Creditor and other trade partners.  If that sounds like a bad movie to anyone, you’re not alone.


The financial crisis has played out like a bad movie in many respects and nothing ruins a movie like cheesy quotes.  While this morning’s Early Look quote is about as cheesy as cheesy gets, Chuck certainly contributed his part to the Crisis in Leadership that persists today.  Our process at Hedgeye is not to listen to the self-proclaimed leaders, but rather, focus on what real-time market prices are telling us.  The bull-bear battlefield is becoming a minefield and lines are being drawn around the data points below.




1)      Stimulus tailwinds are now becoming headwinds

2)      Consumer deleveraging - a household sector that is fearful of taking on debt

3)      Declining home prices and the foreclosure fiasco (which got worse last night)

4)      Bankrupt states and dry pension funds - ongoing spending cutbacks at the state and local government levels; these are structural issues that the Fed is not equipped to deal with

5)      Currency wars

6)      Sovereign debt crisis

7)      Slowing earnings growth

8)      Commodity and Energy inflation

9)      No job growth and the employment-to-population ratio of 58.5% that remains stuck near 30-year lows. Over 40% of the unemployed have been so for over six months; 30% for at least a year

10)  Health care reform that has frozen small business hiring

11)  Cash hoarding by banks and corporations alike because of the lingering uncertainty over the economic outlook

12)  Consumer confidence vs. Y/Y PCE growth spread is unsustainable

13)  The yield curve is compressing





1)      The Republicans take over Washington - gridlock prevails

2)      Quantitative easing will be “better than expected.”  Ben does know what he is doing!

3)      Uncle Sam has plenty of crutches to keep propping up consumer spending

4)      Corporate America will print good earnings numbers

5)      M&A cycle reaching pre-crisis level

6)      Corporations are sitting on a $1.6 trillion stash of cash on their balance sheets

7)      There is $2.6 trillion of cash sitting in money market mutual funds

8)      Oh yeah; Dubai is “back”


Risk management is not about going with the crowd.  One thing we are accountable to here at Hedgeye is our process.  Doing something (dancing or making an investment decision) because everyone else is doing it is not our approach.  Bad music is as bad music does and we will continue to ignore the dancers until the DJ puts on our song.


Yesterday, Keith shorted the S&P 500 via the SPY.  As he said yesterday “We watched. We waited. We are now shorting the SP500.”


As the classic Don McLean song goes:


A long, long time ago...
I can still remember
How that music used to make me smile.
And I knew if I had my chance
That I could make those people dance
And, maybe, they’d be happy for a while.


You know the words!


Function in disaster; finish in style


Howard Penney



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Lecturing Myself On Shorting

This note was originally published at 8am this morning, October 13, 2010. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“Not realizing that giving someone no map is much, much better than giving him a wrong map.”

-Nassim Taleb



Lecturing Myself On Shorting - LEcturing on Flying Birds



I’m almost a third of the way through reviewing Pablo Triana’s “Lecturing Birds On Flying.” Published in 2009, this is a thinkers book. It made it to the top of my reading pile as I’m keen on reading anything that offers an alternative solution to the academic dogma that’s plaguing the American Economic System.


The aforementioned quote came from Nassim Taleb’s 7-page foreword. If you think what I write is aggressive, you need to read this book. Taleb’s foreword was easily the most aggressive I’ve ever read. His advice: “You need to shame members, humiliate them. Make fun of these charlatans.”


I don’t like charlatans. I don’t like cowards. And I certainly don’t like taking people’s word for things unless I have a basis to trust their work. I’d be a hypocrite not to criticize myself inasmuch as I will Ben Bernanke or Pablo Triana. My goal in life isn’t to defend my answers. It’s to find the right ones.


Given that I’m still waiting on my entry point to re-short this SP500, this morning I am going to lecture myself on shorting. In Chapter 2, “The Financial Economics Fiefdom”, Triana sufficiently proves that some of the said economic savants who are lecturing our B-school students need a wake-up call of real-life experience. So, I’ll offer my own. If you want to hit competing strategies in the mouth, you have to be accountable to what’s coming out of your own.


To be clear, no one said being transparent and accountable in this business is easy. That said, unlike Taleb and Triana, I actually show the score associated with my implementation of risk management solutions each and every day. We need more practitioners to get in the game on this front. God knows we aren’t going to boil the ocean of academic dogma on our own.


So, back to lecturing myself on shorting, let’s start with some very basic modern day risk management questions. If you want to lecture people on managing “Black Swan” or “tail risk”, shouldn’t you know how to profitably short a country, currency, or commodity? How about shorting stocks, governments, or the professional politicians that back them?


I’ll humbly submit that if you could, you would. So let’s strap the accountability pants on and take a walk down that path. Other than an internet connection and an online brokerage account (or a hedge fund), what else do you need to get started?

  1. Money
  2. Macro
  3. Mucker

Ok. Ok. Now you’re either laughing or calling me names like the guys on the Princeton hockey team used to do. Either way, my teammates and I don’t really care what you call me. The Hedgeye Portfolio has an 83.6% winning percentage on the short side since inception (2008). Who Dat Hedgeye?


In all seriousness, in these globally interconnected times of government sponsored volatility, I don’t think you should be buying, selling, shorting, or covering anything unless you have a top-down global macro process combined with bottom-up research and risk management tools.


Ok. Now that I’ve laced up my skates with some Money, Macro, and Mucker, I’m ready to play God (Chapter 1 of Lecturing Birds On Flying is called “Playing God”). In terms of some pre-game prep, here are some highlights from Triana’s first chapter that any student of this game can appreciate:


1.  Citing Emanuel Derman (former Goldman exec and currently professor at Columbia who has his PhD in physics), Triana makes an invaluable point about discipline and hard work: “It’s not that physics is better, but rather that finance is harder. In physics you are playing against God and He doesn’t change His laws very often. In finance, you are playing against God’s creatures, agents who value assets based on their ephemeral opinions.”


2.  Again, borrowing another great quote from Derman, Triana hammers home a critical point about the behavioral side of this game that you need to internalize before you get out there on the proverbial ice: “When you take on other people, you are pretending you can comprehend other pretenders, a much more difficult task.”


3.  Finally, on page 22, Pablo brings some Harvard heat by using a solid quote about economic forecasting from John Kenneth Galbraith: “The only function of economic forecasting is to make astrology respectable.”


Now playing against the said gods of Perceived Wisdom is tough. My mother-in-law was the first to remind me and my newly found feathered-gray hockey hairs about that. But God Himself is tough. And if you want to play this game for real, you better be tough too - especially when both critics and consensus tell you that you can’t do something that they can’t do.



Lecturing Myself On Shorting - yale



After all, I believe it was Galbraith who also said that, “we have two classes of forecasters: those who don’t know – and those who don’t know what they don’t know.” Keep being your own harshest critic out there and you’ll be just fine. Read, write, and spend as much time with the people you love as you can. Short selling and managing risk is all about doing. As the game changes you need to change alongside it.  


I’ve been waiting and watching for my re-entry point on the short side of the SP500 since early September. My immediate term support and resistance levels for the SP500 are now 1155 and 1177, respectively. I answer to no man on when to pull the trigger. I’m accountable to the score. I have my own map.


Keith R. McCullough
Chief Executive Officer


Demographic Trends in the United States Mirror Japan

Conclusion: While the supporters of Krugman's Kryptonite suggest “QE will work in the U.S. because our demographics are not as bad as Japan’s”, we learn that reflexivity is pervasive in demographic and economic trends.  With the mean marriage age in the U.S. climbing, we would expect birth rates to decline going forward and, with it, the average age in the United States to increase.


The key takeaway from our 4Q10 Key Macro Theme Krugman’s Kryptonite is that quantitative easing in the U.S. won’t end well. We show that using the data form historical case studies, including the U.S. in the 1970’s and early 2000’s, and everyone’s favorite punching bag, Japan (email if you’d like a copy of the presentation).


Regarding Japan specifically, the main pushback we get regarding Japan’s failed monetary policy is that demographic headwinds have been a key cause of slow growth there and that the U.S. is in much better shape demographically. While certainly true to a large extent, we offer the following charts as a preview of where the U.S. could be headed given the outlook for slow growth due to consumer deleveraging and burgeoning public debt past the Rubicon of 90% Debt/GDP. The key takeaway here is that confidence, much more so than cheap money brought on by QE, breeds investment and consumer spending.


As we see from the chart below, the economic malaise associated with Japan over the previous two decades has contributed to a material ramp in the mean age of first marriage and mean age in first childbirth. While we are not saying that slow growth is the only driver of Japan’s reluctance to get married, have kids, etc., we are keen to highlight it as a contributing factor in such large decisions. Do consumers lever up to buy houses or get married without a sense of financial stability? Yes, but certainly not at the rate they would otherwise. Akin to financial markets, reflexivity is pervasive in demographic and economic trends. Confidence and financial stability are key contributors to demographics and growth and vice versa.


Demographic Trends in the United States Mirror Japan - 1



Along these same lines, a domestic demographic trend we spotted recently is the age at which young people are getting married has trending upward over the last decade. As the chart below shows, never-married singles in the 25-34 demographic now outnumber married persons by a margin of 46% to 45%. The percentage of never married individuals within the U.S. population has grown over 1,000bps in less than ten years!


Demographic Trends in the United States Mirror Japan - 2


Currently in the United States, unemployment rates for younger adults are well below the rest of the population as well.  As of the September 2010 employment report, unemployment for those 20 - 24 years of age was 14.6% and unemployment for those 25 - 29 years of age was 10.6%.  Both of these are above the national unemployment rate of 9.5%, by 11.6% and 53.7% respectively.  Since employment and financial stability are key to consumer and personal confidence, these statistics suggest to us that mean age of marriage may not be declining anytime soon.


As Josh Steiner (our Managing Director of Financials) has show in his previous work, household formation domestically has gone negative for the first time in history, which can be interpreted in one of two ways: 1) a mere coincidence or 2) people are getting married at older ages, so household formation growth is slowing. For the sake of not jumping to conclusions, we submit the answer is somewhere in between.


Demographic Trends in the United States Mirror Japan - 3 


Of course this is one demographic trend in a slew of many that can be interpreted in a variety of ways. What we are attempting to do here, however, is offer an admittedly crude rebuttal to the consensus belief that “QE will work in the U.S. because our demographics are not as bad as Japan’s”. While we aren’t’ being contrarian here for the sake of being contrarian, we are very much happy to take the other side of this overcrowded trade.


Just like in Japan, QE in the United States won’t end well without true, underlying consumer demand – which cheap money and government stimulus are no substitute for (see chart below). It’s not at all ironic that mortgage rates are at/near all-time lows domestically, yet MBA Mortgage Purchase Applications are at low levels not seen since 1996. Someone once referred to this as “pushing on a string”…


Darius Dale



Demographic Trends in the United States Mirror Japan - 4


We continue to see some pretty spectacular moves in agricultural commodities, which have been triggered by adverse weather events around the world that have caused production shortfalls.  At the same time the free monies policies of the Federal Reserve are leading to increased speculation in commodity markets.  This is similar to the scenario that unfolded in 2007 when the Federal Reserve began to cut rates and flood the system with liquidity in response to the subprime crisis.


The unlimited supply of money (including derivatives) created by the Fiat Fools can dwarf the limited supply of hard commodities.  We are seeing that occur right now with the price of food stuffs, as represented by the CRB Foodstuffs Index, reaching new highs in terms of year-over-year growth. 


How is this consistent with the Federal Reserve dual mandate of full employment and price stability?


The unintended consequence here is that the restaurant industry is going to feel margin pressure in the not-too-distant future.  The last time corn was at $6, Casual Dining margins were over 200 basis points lower than they were in 2Q10!  Additionally, news that the EPA is expected to sign off on higher concentrations of ethanol in gasoline for newer vehicles, raising the maximum blend from 10% to 15%, is further supportive of corn prices.


Consumers on Main Street might get the complexities of derivative markets, but they do understand the ramifications of paying higher prices food and gas.




Howard Penney

Managing Director





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