Posts Tagged 'SPX'

The European Spring: Why Caution is the Best Market Position

In typical Hollywood fashion, the producers of the successful Arab Spring

have announced the sequel,  The European Spring, starring the people of

France.  In fact, pre-filming has already begun for the 3rd installment in

the series, The US Spring which will be airing the first Tuesday in

November.

The French

The French hosting elections on a Sunday is itself an interesting issue; I

have to assume they value their days off during the work week too much to go

to the polls than they value their leisure time on Sundays.  Logistics

aside, the polls point to a victory by François Hollande and socialism again

taking front and center stage in the City of Lights.  (Why shouldn’t

Parisians leave the lights on – the government is footing the bill.)   Of

course, Sarkozy can pull it out in the final days if he is able to draw in

the fence sitters and Le Pen acolytes; this should not be completely

discounted.  But assuming Hollande wins, I have heard the argument that this

event is already priced into the market. So will the rhetoric about

endangering the EU fade as political campaign promises often do?  Not on

your life.  With legislative elections upcoming on June 10th and June 17th,

the rhetoric is just beginning.  Those arguing against France’s

participation in the bailout fund and austerity as the path to growth will

be emboldened to speak even louder.  That, after all, will be the proven

path to winning a seat in the National Assembly of the Fifth Republic.

The Greeks

The Greeks have their own election on Sunday.  With massive unemployment,

there is hardly a reason to hold their elections on the weekend. Don’t these

people need something to do during the week or is that when the beaches are

less crowded?  From all reports, it looks like the coalition will survive by

the slimmest of margins. The rhetoric here too will build as their exit from

the EU remains the likely end game.  But if the coalition falls apart,

either on Sunday or near term, then the collapse of the EU is an immediate

fait accompli.

The Rhetoric

So the chatter will increase as the citizens of France, the Netherlands,

Italy, etc., continue to question with increasing authority and anger, why

they should labor under austerity programs in order to support the

irresponsible governments of Spain and Greece.  This will continue to

pressure the indices particularly as Spain and Italy continue coming to the

market to roll over their debt. At present, there is no avenue to growth and

Draghi seems unwilling to inject anymore stimulus into the markets until

governments put forth growth initiatives (and maybe, actually do cut

spending).

The Sequel

So this is the sequel to the Arab Spring as the Europeans rise up and say no

mas.  It is a more civilized uprising, as they perhaps torch candles instead

of themselves, but an uprising nonetheless. And then, in November, it will

be our turn.

Add to this the slowing US economy – yes, slowing, not a pause, and the EU

and China continuing to slow, and you have a rather poor outlook for US

equities.  But Brazil is the bright spot, isn’t it?  Nope. China is the

economic delta for Brazil.  We had an earnings season that few had expected

in terms of growth and outlook but the skepticism about the future is what

preys most acutely on the market, and, the economy.  Sure there are bargains

to be had but like most retailers, there is never one clearance price.  And

yes, Treasuries are fully valued and arguably in a bubble, but that’s been

the story for a while too.  I don’t know who is good picking bottoms and

tops so I’m staying low beta and fairly neutral.  There is very little

chance that under this scenario, allocators have a call to arms for

equities.  That will happen but not now. Not perhaps unless there is a

Romney victory and Europe puts forth some plans for growth.  I would

actually support a position that puts Greece in default, cuts back on

austerity in favor of responsible spending for growth  but I’ll leave my

daydreaming for when I’m at the chick flicks my wife occasionally drags me

to.

I continue to be short global cyclical stocks such as materials.  I hate

beta, except perhaps on the short side and bunting instead of the long ball.

As my favorite metals and mining analyst, Pete Ward, said to me yesterday,

“steel has very high barriers of exit.”

During your market respite, you may want to read an excellent new book: The Big Win.

News Flash: Loch Ness Monster Ensnared In SEC Sting on Quarter End Mark Ups

The simple and stark truth is that the phenomenon of a quarter end mark up in equities is a myth.

First the statistical evidence.  I reviewed the last eight quarter endings, taking note of the closing prices of the SPY’s  on the two days prior to month end, the preceding pattern and the first two days of the new quarter as well as the ensuing days of activity.  It would be reasonable to expect that the market would sell off on the first couple of trading days of the new quarter if it were being marked up at prior month end window dress a portfolio but that occurred in only 2 out of the last 8 quarters, one of those events being immaterial and the other a move from 113.15 to 109.93; this occurred in 3Q 2011.  The next trading, 10/4, saw almost a full recovery to month ending levels.  Furthermore, in 7 of the 8 periods, the uptrend of the first 2 trading days of the new quarter continued over the next week or so.

Now, the empirical evidence.   Long only funds generally run with low cash levels as mandated either by asset allocators or charter.  Hedge funds, that is the good funds, the professional funds, could care less about supposed month end markups, preferring to stay disciplined and loyal to their strategies.  After all, that is how they became successful.  In fact, I can’t say I know of any investors, big or small, that is willing to make an investment decision based upon what they believe a bunch of insignificant players may or may not do into month or quarter end.  That would essentially be ceding the management of their funds to those individuals and that is not about to happen.  Furthermore, transparency has increased dramatically with most funds.  I know how I would feel as an investor if the fund I was invested in told me they were 40% net long on the 25th of the month because of their assessment of the market and opportunities and then were all of a sudden 60% net long – or higher – as the month drew to a close when the investment case was unlikely to justify such an increase in exposure.   I don’t invest with managers who play those games because they are too hard to play.

Of course, there is the possibility that specific, illiquid issues could be manipulated higher into quarter end – I’m not naïve – but I do believe that this activity is insignificant and in a more highly regulated industry, where penalties have actually become very harsh for doing so and the reward paling in comparison to the risk, is much less common than it was years ago.  But we need not debate the quarter end mark up issue since the facts make a compelling case that it doesn’t happen.  Sure, conspiracy theories are fun to talk about and a convenient excuse as to why a fund manager is under invested but until they actually find the loch ness monster, I’m not a believer.  I’ll just chalk it up to people trying to sound smart.

Oh, and this is a helluva a mark up the last two days.  Nuff said.

Europe: The Lehman Moment Is Fast Approaching

I was bearish before; I’m even more bearish now. European sovereigns are evidencing a lack of confidence in their own bailout plan and the Lehman moment is fast approaching.  Have to be crazy to have much, if any exposure, to this market.  We will hit new lows.  How’s that for dire?

Building the bailout fund is incredibly similar to building a book on an IPO or secondary, something I have done hundreds of times. I can tell a bad deal from a mile away. This deal is bad.  With a hot deal, everyone wants in regardless of their fundamental view.  Funds will even play in an “okay” deal if they are confident the syndicate bid will support the selling pressure.  Sometimes, a fund is even willing to take a small  hit in the interest in maintaining a good dialogue with the Lead Managers.  But no one willingly goes into any deal if they expect to lose substantial funds.  Insiders – in this case, the EU countries with the most to lose if the deal falls apart – often add to their holdings on the offering, justifying it as a capital infusion or a necessary sacrifice.  If the UK were convinced the current plan to stave off European default would solve the crisis and substantial principal wasn’t at risk, they would gladly contribute rather than being labeled the “bad guy” by sitting out the deal.   The UK, however, recognizes that this transaction will break syndicate bid before the shares are delivered and that they have to keep their powder dry for when contagion hits their shores in a much bigger way.  Once it becomes clear to a book running manager that the deal is being given the cold shoulder by the conventional buyer, they then approach others, such as sovereign wealth funds.  In this case, that would be China but they have said no as well.

Coming up 50 billion short on a 200 billion euro book is a huge miss.   Unlike a lot of IPO’s and secondaries, the EU bailout can’t be downsized to get it to the market in an effective manner.  And by the way, a lot of downsized deals often fail because the market regards them as troubled.

Ultimately, the markets shun the underwriters with poor performance by getting their borrows lined up even before pricing.  Given the track record of the EU and IMF, the UK and US have already decided the ESFS is a short.

_ _ _ _ _ _ _ _ _

Europe Falls Short Again: What’s Next for Commodities and Stocks

“I could not have been more clear, I specifically asked for a bazooka and all I got was this little long range pea shooter,” said Mr. Market, clearly dejected.

Europe has done it again, taken the markets to the brink of despair, then sweet talked investors off the edge.  Frau Merkel has proven herself to be as alluring as the mythological Greek Sirens, her sweet songs of a stronger European Union with tighter budgetary controls enticing enough to convince unsuspecting traders to increase their risk.  But like a pimply faced teenager stuck at first base, they too will feel unsatisfied and longing for more.

At least they got smart about one thing, or so they believe, extending the deadline for the seminal announcement until March.  After the last two short window lead ins, they realized it takes months, or more, to craft a plan rather than a fortnight.  They will still come up short as each country realizes what Britain did which is they have no interest in being governed by the same country they had major problems with, well actually not exactly problems, more like out and out war.  However, even if reasonable  minds say that was then and this is now, the cultural divide between each country will prey upon this agreement.  But even if it does pass – it has not been officially ratified – and the countries needing approval from their broader government secures their assent, the very core of the agreement is flawed.  Let me see if I get this right: a country fails to either establish or enforce a budget in line with the requirements of the EU so the EU will then assess heavy sanctions upon the profligate nation.  Yup, that will work.

Candidly, as to my kids, I was not much of a disciplinarian. “If you do that again…,” I would say, both they and I knowing they would do it again and I would say that again.  Thankfully they turned out great.  Not so with Greece.  Without moral hazard, countries will continue to do what is in their politicians’ best interests.  Greece lied their way into the EU and the EU is responding with bailout after bailout.  I still believe allowing them to fail would be the best result.

This is the fifth bite of the apple for Europe and they continue to come up short, lagging a step behind.  Still no ring-fence, still no plan to save the banks, still nothing of substance; just words.  They are behind in everything, even video games.  The Mario Brothers went out of style a long time ago and the Italian version – Monti and Draghi – are not showing themselves to be Super Marios at all.  Draghi can get there if he opens the purse strings with a massive liquidity push, buying even more bonds than the ECB has in the past,  but despite two easings, he is still prone to alligator arms like the clients I used to wine and dine from my perch at Lehman;  his hands don’t reach the bottom of his pockets.   And with the most recent cut in rates being the result of a divided vote, it may get tougher for him to cut further given the European single mandate.  However, as the global economy slows and the USD strengthens, inflationary pressures will ease providing cover more rate cuts.

The banks still need $153 billion in new capital which I don’t see how they can raise without nationalizing some of the banks. But Santander does have a solution: they will just lower the risk level on their assets. Yup, that worked for Lehman.  So much for paying heed to the EU.  And should there ever be  a default and the CDS insurance kicks in, the global financial system will see a bigger meltdown than a forty-year old Japanese reactor.

The AAA ratings in Europe will be a relic of the past, no question as they are in virtually everyone’s mind, the only unknown is whether this will mark a near term bottom.  These ratings agencies continue to be an embarrassment, always multiple steps  behind.  Rumor has it that S&P management is urging their employees to contribute to the Herman Cain campaign for President.

Meanwhile, China continues to be slowing and I believe there is little they can do, or want to do, about the real estate bubble popping.  This bodes poorly for commodities.  With construction slowing, China has enough stockpiles of needed commodities to wait for a further decline in prices.  This is what they have always done when able and this is what makes them great traders.  They are like a private company, not worried about quarter to quarter earnings, taking a long-term view.  They were Warren Buffett before Warren Buffett became Warren Buffett, buying when others are fearful.  But with their primary end market, Europe,  going into a recession, possibly depression, the Chinese are limited in terms of what they can do to drive growth.  They would rather look for defaults and then step in and buy Greece or maybe even Hungary – its time to move on now that Taiwan seems under control.  India, though, not so much. The slowing in their economy, while not a complete surprise, is not welcome nonetheless.

This slowing will also hurt crude.  If Iran were not in the mix, we would already be trading in the 80’s to low 90’s.  Inventory figures have not been very good.

Euro short/ dollar long continues to be my favorite position.  As to stocks: I remain very light in exposure and tilted toward defensive.  Commodities look cheap but they always look cheap on the way to the bottom. I can be patient.  There has been too much beta chasing recently, in stocks such as X, that has to unwind.

The strengthening of the dollar will be as much a result of the strengthening US economy as well as the crumbling European economy.

So where can I go wrong?  The only way out of this is for massive stimulus by the ECB.   IMF rescues haven’t necessarily helped in the past. I am again inserting these charts I borrowed from JP Morgan:

IMF


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