Archive - Oct 25, 2012 - Story

Just over a month ago - before AAPL started to fall apart - we noted the extreme levels of complacency priced into AAPL options. Heading into tonight's earnings, it seems investors are as extremely concerned as they were complacent just a few weeks ago. AAPL option prices are implying investors expect significant downside possibilities - the most concerned they have been in 18 months. Whether this is ammunition for a squeeze higher or is just the over-crowded long hedgies covering into earnings on hope - looking to reduce into strength - we will see in a few hours (but for now - the constant fading of VWAP reversions suggests the latter).

Hugh Hendry: "I have resigned from the professional undertaking of coin flipping. I am not here to tell you where gold’s going to be. I have no idea. That’s my existentialism. I am a student of uncertainty, I have no idea where the stock market is going to be. So when I am creating trades in my portfolio for my clients, I am agnostic. I just want to enhance the probability that I make money come what may."

The increasingly short-termist attitudes of both policy-makers, analysts, and investors leaves market and economic indicators in the US and Europe all anticipating some magic in 2013. If only we can get through the elections, the fiscal cliff, a banking union, a Spanish bailout request, Greek extensions; not to mention another round of weak earnings and a sliding Chinese demand backdrop. As SocGen's FX and Rates desk notes, the battle against disinflation in Europe is not over and nominal GDP outlooks remain far too optimistic - only highlighted by the morning's weak lending data.  The moribund growth backdrop also begs the question what palpable difference any relief over Spain or Greece (if it comes) will do to the long end. The answer is probably not a whole lot.
The deleveraging has a long-way to go!

We know two things about the future: 1) Borrowing 35% of Federal expenditures every year is unsustainable; and 2) The Baby Boom generation of 75+ million may be working longer, but they are also retiring en masse, joining the ranks of Social Security and Medicare beneficiaries at the rate of 10,000 per day, a flood that will not ebb until the late 2020s. This raises the obvious question: if Federal spending must decline, then where is the money going to come from to fund 75 million retirees? Calling the Central Bank of Mars: Greetings, Martian friends.

As the saying goes, when China sneezes, the rest of the world catches the cold. So far, if one were to look at the macro-economic surprise indices for US, Europe, and China, it would appear that China's weakness was largely ignored by US and Europe which have notably 'outperformed' relative to expectations in the last two months. However, what is apparent is that this is a lead-lag relationship which the FT provides an excellent flow chart of how China's dominant ebbs and flows chain-react around the world's supply (and demand) chains. Furthermore, the successive peaks in economic cycles since 2009 have been lower and lower as even relatively minor shifts in China's domestic production, stockpiling, or spending can have big impacts on the other side of the world. As the IMF notes: "China can transmit real shocks widely, whether these originate domestically or elsewhere."

While John Travolta will always love 'Sandy', New York City (and for that matter much of the Atlantic Coast) may well want to forget the name after the weekend. Tropical Storm Sandy is destined to roll into the mid-Atlantic and New England from Friday but has some extra-special surprises possible with it. As Wunderground notes, if Sandy gets caught up with a trough approaching the Eastern US and then that combines with the fact that Monday is a full moon - meaning astronomical tides will be at their peak, increasing storm surge concerns, we could see a replay for the 1991 'Perfect Storm' that wreaked so much personal and property damage. We hear California is nice this time of year?

Before the campaign contributors lavished billions of dollars on their favorite candidate; and long after they toast their winner or drink to forget their loser, Wall Street was already primed to continue its reign over the economy. For, after three debates (well, four), when it comes to banking, finance, and the ongoing subsidization of Wall Street, both presidential candidates and their parties’ attitudes toward the banking sector is similar  – i.e. it must be preserved – as is – at all costs, rhetoric to the contrary, aside. Obama hasn’t brought ‘sweeping reform’ upon the Establishment Banks, nor does Romney need to exude deregulatory babble, because nothing structurally substantive has been done to harness the biggest banks of the financial sector, enabled, as they are, by entities from the SEC to the Fed to the Treasury Department to the White House.

Everyone's favorite outspoken critic of everything that is broken, Hugh Hendry, is currently speaking at The Economist's Buttonwood gathering. Watch him contemplate macro and micro issues live in the webcast below. And for desert, everyone's favorite poker player, David Einhorn will follow Hendry.

FBI arrests police officer yesterday in conspiracy to kidnap, cook, and eat women. #nyc

— FBI New York (@NewYorkFBI) October 25, 2012

Europe is closing on a decidedly negative tone led by weakness in Spain specifically. EURUSD in 80 pips off its earlier highs (under 1.2950) as Spain's 10Y spreads rises once again (now up 33bps in thelast few days) and its stock index (IBEX) is down 4.25% since last Thursday (as is Italy's FTSEMIB). The front-end of the Spanish yield curve is also leaking higher in yield rather quickly as fast money exits. Credit markets tracked stocks but were less volatile on the day. Europe's VIX dropped modestly which combined with credit and equity weakness suggests perhaps hedges being lifted and real-money unwinds. The Draghi-rally trend is now over - as S&P futures test the Dream lows (with European stocks still outperforming US post-Draghi).

ConvergEx's Nick Colas dusts off a golden oldie of stock market valuation – the "Rule of 20." The basics of this heuristic are simple: the addition of the U.S. equity market’s price/earnings ratio and the current inflation rate as measured by the Consumer Price Index should trend around 20.  If the current inflation rate is 2%, for example, then stocks should trade to an 18x current multiple.  That may sound too simplistic, but since 1914 the average of this summation is 19.3 – pretty close to the catchier “20.” But, as Nick explains, what the “Rule of 20” handily captures is the essential relationship between corporate earnings (a.k.a. cash flows) and discount rates (primarily driven by marginal inflationary expectations.) Here is where the current “Rule of 20” math takes a surprising turn.  With CPI inflation at 2%, the market should be trading for 18x current earnings.  We, like Nick, see the reasons for this shortfall: either the market is worried that corporate earnings are about to tumble or inflation is much more of a threat than a Fed-supported yield curve currently indicates.  Or… gulp… both.

While there is little news aside from a modestly disappointing pending home sales print, risk assets in general are bleeding quite notably. USD is strengthening and Treasuries are rallying as commodities slide and stocks tumble. The chatter is a rumor that Fitch is about to downgrade the US below AAA. We find this highly suspect as there would be hell to pay for doing this two weeks before an election (and Fitch themselves have said that there would be no downgrade until 2013 at the earliest). Of course, this is merely the market gurus attempting to come up with a narrative to explain yet another intraday sell-off, which is now coming with dangerous regularity for the bulls.

Go to any university, any center of equities trade, any meeting place for financial academia, any fiscal think tank, and they will tell you without the slightest hint of doubt in their eyes that the U.S. economy is essential to the survival of the world.  To even broach the possibility that the U.S. could be dropped or replaced as the central pillar of trade on the planet is greeted with sneers and even anger.  But let’s set aside what we think (or what we assume) we know about the American financial juggernaut and consider the sordid history of the money powerhouse myth. China’s incredible gold buying extravaganzas over the past few years indicate that they are indeed hedging against what they obviously expect will be devaluation in the dollar or multiple currencies around the world including the dollar.

Whether it's deleveraging, spare capacity, dollar debasement, productivity gains, or just plain old obesity, in real purchasing power terms, an hour of your time has never been worth less. In the 40 years since Nixon's 1971 fiat-fiasco, the value of the average hourly earnings for US citizens has dropped 90% in terms of Gold. The last time that our labor's efforts garnered such a low value saw a twenty year credit-blown releveraging (from 1980 to 2001) to save-us-all; we suspect that debt saturation will limit the ability of any central bank to create such a 'recovery' in labor-value once again. Since the peak in 2001, 60 minutes of your valuable time has lost 81% of its purchasing power! Is this what globalization looks like?

The fast-approaching US presidential election is perhaps one of the most important in recent history, with Goldman noting that the fate of near-term US economic growth, medium-term US fiscal stability (and, with it, the US sovereign debt rating) and monetary policy hinging on the outcome. In an effort to provide as succinct a view of these potential events, we present a four-part series previewing the big day. Below, we lay out the key dates and likely paths to resolution of the "fiscal cliff"; the most important and most imminent challenge that the elected candidate will be forced to face just after the election.