361 Capital Weekly Research Briefing
Timely perspectives from the 361 Capital
research & portfolio management team
July 23, 2012
Written by Blaine Rollins, CFA
On the surface the week didn’t look that bad, but lift the hood and it gets ugly...
Euro trades to a new 25 month low. Spanish yields rise to 7.2% on Friday. Italian yields go through 6% and Italian equities get just
blistered. U.S. Financials and Transportation stocks underperform. Big caps outperform Small caps and Growth outperforms Value.
U.S. and German yields trade to new lows and the LQD (High Grade Bond ETF) chart looks like Yahoo in 1999. If the world wasn’t so
risk averse right now, I would be bringing a hard hat to work this week. Keep an eye on U.S. Homebuilders, China, and Junk Bonds.
If they roll over, we will need more than hard hats.
Spanish Debt trades like the news flow sounds, terrible...
• The Budget Minister went on in Parliament this morning to proclaim, “There is no money to pay for public services,” which
is quite a statement to make after the Prime Minister had told everyone that Spain was fine and that only the banks were
having some issues.
• “It’s difficult to say to what extent the contagion comes or came from Greece, or from Portugal, or from Ireland, or from the
situation of the Spanish banks, or of the one apparently emerging from the streets and the squares of Madrid,” Mario Monti
told reporters. “Obviously, without the problems in those countries, Italy’s interest rates would be lower.” (Bloomberg)
Meanwhile, the Laffer Curve is being validated in France...
The latest estate agency figures have shown large numbers of France’s most well-heeled families selling up and moving to
neighboring countries. Many are fleeing a proposed new higher tax rate of 75% on all earnings over one million euros. (£780,000)
The previous top tax bracket of 41% on earnings over 72,000 euros is also set to increase to 45%. Sotheby’s Realty, the estate agent
arm of the British auction house, said its French offices sold more than 100 properties over 1.7 million euros between April and June
this year - a marked increase on the same period in 2011. Alexander Kraft, head of Sotheby’s Realty, France, said: “The result of the
presidential election has had a real impact on our sales.” Now a large number of wealthy French families are leaving the country as
a direct result of the proposals of the new government. (Telegraph)
And also in Italy...
Around 30,000 yachts have fled Italy this year, costing €200 million in lost revenue from mooring fees, port services, and fuel
sales, according to Assomarinas, the Italian Association of Marinas. “We’ve lost 10 to 15% of our regular customers,” said Roberto
Perocchio, the president of Assomarinas. “This is the worst crisis in Italian boating history. The authorities are using scare tactics and
creating a climate of fear.” ...Plans for a further 30,000 new berths have been put on hold. Business is down by more than a third in
many marinas, with some half empty compared to last summer. “We’ve lost 40 boats in the last few months, all between 20 and 25
meters long,” said Giovanni Sorci, director of a marina at Rimini, on the Adriatic coast. “Most went to Slovenia – in fact it is so popular
that there’s now barely a berth to be had there. ...At Porto Rotondo in Sardinia, Giacomo Pileri, the general manager of a 700-berth
marina, said at least 150 boats had fled to nearby Corsica. A steep new tax of up to €700 per day on the largest yachts mooring in
Italian ports, introduced by the Monti government in December, was watered down in March to exclude foreign-owned boats. But
it has further fuelled the exodus of Italian boats abroad. (Telegraph)
In Greece, the country can’t sell its own assets for fair value if it tried...
In 2010 a small German airline called Cirrus offered $23m each for them. But the Greeks rejected this because of a rule that state
assets could not be sold for less than 75% of their declared value. (Economist)
But the final blow for Greece may have come late Sunday night from Germany and the IMF...
“Germany and other important international creditors are not prepared to extend further loans to Greece beyond what has already
been agreed, German newspaper Süddeutsche Zeitung reported on Monday. In addition, SPIEGEL has learned that the International
Monetary Fund (IMF) too has signaled it won’t take part in any additional financing for Greece.” (Spiegel)
Another tough week of economic data. Too many negative surprises...
(Bespoke)
Gary Schilling speaks out on the recent numbers...
“You look at retail sales they were negative for three consecutive months, April, May, June. That’s happened only 27 times since
they were first reported in 1947 and in 25 of the 27 it was in a recession or within three months of a recession.” Gary Shilling on
(Bloomberg)
Citigroup penciling in a 2013 recession with or without the fiscal cliff...
(AEI/JamesPethokoukis)
Business leaders still trying to save Washington from itself...
The Business Roundtable, which represents U.S. CEOs in Washington, on Tuesday called on Congress and the President to enact
a stopgap measure to avoid the “crisis” of a “fiscal cliff” of major tax hikes and spending cuts, saying the uncertainty was slowing
economic growth and job creation. In a letter, released and signed by its chairman, Boeing President and CEO W. James McNerney,
Jr., the group said “the current political paralysis (in the nation’s capital) has fueled needless economic uncertainty that impedes
a more robust economic recovery. Without effective action soon, this uncertainty will spawn a dangerous crisis, threatening our
economy, businesses and workers.” (Reuters)
Lloyd Blankfein’s recommendations for Washington...
The cyclical and structural challenges are considerable, and in some cases, even daunting. But when I meet with chief
executive officers and institutional investors and they ask me where to invest, my response is that the United States remains
as attractive as ever. And it would be even more attractive if it can make some short-term progress in a few key areas:
1. Make progress on the long-run fiscal situation
2. Make it easier for people to legally immigrate
3. Invest in infrastructure
4. Compromise for the sake of progress and stability
(Politico)
And more economist recommendations: Tax Policies Economists Love (And Politicians Hate)...
1: Eliminate the mortgage tax deduction
2: End the tax deduction companies get for providing health-care to employees
3: Eliminate the corporate income tax
4: Eliminate all income and payroll taxes (replace income with consumption tax)
5: Tax carbon emissions
(NPR)
This economist suggests that now that GDP is positive, it is time to peel back the incentives...
Nearly all studies of unemployment insurance find that increasing the duration of potential unemployment benefits increases the
length of time individuals are unemployed. The debate is only over the magnitude during past extensions of benefits. And while
the magnitude is also unknown for the current round of extended benefits (which could have lasted up to 99 weeks for some),
there is no reason to believe that basic human nature has changed since past recessions. People still respond to incentives.
(Yahoo Finance)
Investing thoughts from Hugh Hendry...
Mr. Hendry insists that his reputation as a “contrarian” investor is wrong, and that his approach is in fact to take advantage of the
prevailing momentum in markets. “Our ideas are harshly disciplined by market trends. You will never see us pursue a homegrown
idea when it is to the detriment of the prevailing trend.” For example, he reckons U.S. government bond yields, already at record
lows, will continue to fall. And, although he professes not to be a contrarian, he is more optimistic about the U.S. than many
investors and is “long the debt-saddled west and short the vastly over-vaunted and over-owned” BRIC quartet of Brazil, Russia, India
and China. He believes that financial markets are single-digit years away from a crash that will present investors with opportunities
of a lifetime. “Bad things are going to happen and I still think the closest analogy is the 1930s.” (CNBC)
Any insight from Stephanie Pomboy is always a must read...
Stephanie Pomboy, founder of MacroMavens, sees the world hurtling toward a day in which money will again be backed by gold
or other hard assets. Until then, she also sees plenty of trouble. (Barrons)
As for the markets this week, here were the most interesting movers:
• Natural Gas/UNG +7.4% (interesting chart T. Boone)
• Oil Services/OIH +5.2%
• Oil/USO +4.9%
• Australia/EWA +4.5% (go commodities)
• China/FXI +4.4%
• Energy/XLE +3.0%
• Agriculture/DBA +2.8% (as it remains HOT)
• Nasdaq100/QQQ +1.3% > Large Cap/SPY +0.5% > Small Cap/IWM -1.2%
• Gold/GLD -1.2%
• Euro Stoxx 50/FEZ -1.6%
• Financials/XLF -2.1%
• DJ Transports/IYT -2.5%
• Regional Banks/KRE -3.3%
• Italy/EWI -5.2% (Ugly in Italian = Brutto)
Next week 173 firms representing 37% of S&P 500 market cap will report results.
By sector: 69% of Energy, 47% of Industrials, and 40% of Health Care as measured by market cap will release results. Large caps
reporting include: AAPL, T, MRK, PEP, MCD, AMZN, UPS, MO, COP, OXY, UTX, TXN and FB’s 1st earnings report on Thursday night.
So far, U.S. Companies are making the bottom line, but missing the top line this Q2...
(Bespoke)
Some earnings comments last week:
• Cintas (uniform builder) - “We enter fiscal 2013 in a U.S. economy without momentum. The U.S. job growth has significantly
slowed to the point of only adding 225,000 jobs in the past three months. Many forecasts indicate U.S. GDP growth during
our fiscal year 2013 to be less than 2%. Because of these factors, combined with the uncertainty of potential changes in tax
law for 2013, we view fiscal year 2013 with caution.” (Cintas CEO)
• NVR (homebuilder) - Orders increased just 6% yr/yr, well below our +36% est. and we think consensus expectations as well
(looking for growth in mid-20%), with sales per community up just 1% yr/yr to 6.5 homes/qtr, below our 8.5 est. and the
8.2 homes/qtr. in 1Q. Weakness relative to expectations was most pronounced in the Mid-Atlantic. This is in contrast to the
better trends from other builders recently, and also surprising given NVR’s focus on volume. Sales were light across regions,
with the largest downside in the Mid Atlantic (+8% vs. our +45% est.; 51% of total orders). (CS)
• Chipotle (burrito builder) - Traffic trends meaningfully slowed to 3.4% in the quarter from a 6%-8% run rate over the prior
year. This is the slowest rate of growth since the financial crisis, and it is unclear whether the cause is entirely macro induced
or somewhat CMG-specific. Management attributed slowdown in traffic to “sluggishness of the overall economy” as well as
tough 2-year comparisons.
• Harry Winston Diamond Corp. is grappling with rising diamond inventories and falling prices as the slack global economy
prolongs a year-long slump. (The Globe & Mail)
• BlackRock on Q2 earnings conference call: Larry Fink says they witnessed ‘a softening’ in business starting in March and
extending through Q2; says continued to be fueled by uncertain economic situation including Europe and China.
One big area of support for equities is likely the disinterest in owning them...
(DisciplinedInvesting)
Where have equity investors gone?
• Stock exchange volume last week was just 9.8b versus its average over the past 7 years of 13.1b, and lower than even its
2008 average of 10.1b.
• Through the first half of July, investors are on track to pull another -$5b out of equity funds for the month, bringing the YTD
to -$37b, the second biggest outflow next to 2008. (ISI Group)
And it’s not just stocks. If you like to buy individual corporate bonds, better plan on holding them to maturity...
U.S. dealers are continuing to reduce inventories of corporate bonds in anticipation of the Dodd-Frank regulation. The inventories
are now at the lowest level in a decade. (SoberLook)
The new Pimco ETF is mopping the floor with the same named Mutual Fund...
One year from today, what will be the total assets in BOND (currently $2 billion) and in PTTAX ($263 billion for all classes)? If you
know, go place a guess on the website... (ResearchPuzzler)
Americans are not saving enough for retirement...
75% of Americans nearing retirement age in 2010 had less than $30,000 in their retirement accounts. The specter of downward
mobility in retirement is a looming reality for both middle- and higher-income workers. Almost half of middle-class workers, 49%,
will be poor or near poor in retirement, living on a food budget of about $5 a day... To maintain living standards into old age we
need roughly 20 times our annual income in financial wealth. If you earn $100,000 at retirement, you need about $2 million beyond
what you will receive from Social Security. If you have an income-producing partner and a paid-off house, you need less. This
number is startling in light of the stone-cold fact that most people aged 50 to 64 have nothing or next to nothing in retirement
accounts and thus will rely solely on Social Security. (NYTimes)
The Canadians now have retirement bragging rights...
Currently, the average Canadian household is more than $40,000 richer than the average American household. (According to the
latest Environics Analytics WealthScapes data, the average household net worth in Canada was $363,202 in 2011; in the U.S. it was
$319,970.) And these are not 60-cent dollars, but Canadian dollars more or less at par with the U.S. greenback. Furthermore, these
figures ignore public-sector (government) debt that presumably people on both sides of the border or their children will someday
have to pay. Such debt is higher in the U.S. as a percentage of GDP than it is in Canada. (TheGlobeandMail)
Jamie Dimon decided to save more for retirement into his own JPMorgan stock this week...
According to an SEC filing Friday, Dimon bought 500,000 shares of common stock at between $34.01 and $34.46 Thursday and
Friday. (Forbes)
Compton trying to become the 4th stop on California’s high speed bankruptcy bullet train...
Compton, Calif. could be the fourth city in the Golden State to seek bankruptcy protection. At a city council meeting Tuesday,
officials announced that Compton is set to run out of funds by Sept. 1. Compton, which has only 93,000 residents, faces a
deficit of $43 million after having depleted a $22 million reserve, reports Reuters. “I have $3 million in the bank and $5 million
in warrants due in the next 10 to 12 days,” said city treasurer Doug Sanders during the live-streamed city council meeting. “By
then, the council will have a decision to make: don’t pay the bonds, default on them, or have a serious talk about bankruptcy.”
(MishsGlobalEconomicTrendAnalysis)
Hopefully the Nation’s other cities were much more prudent than Stockton...
• “The city’s fiscal history has eerie similarities to a Ponzi scheme,” says Bob Deis, the city manager Stockton hired in 2010.
Over the years, the city promised employees huge—and unfunded—salaries and benefits...”
• “Perched precariously atop this mountain of obligations are retiree health benefits. Stockton officials awarded these to
city employees in a series of votes in the 1990s but made no effort to fund them, intending simply to pay costs out of their
budget as workers retired...Stockton Mayor Ann Johnston voted for these expensive measures when she served on the
city council. ‘We didn’t have projections into the future what the costs might be...I learned that you don’t make decisions
without looking into the future’... ‘Nobody gave thought to how it was eventually going to be paid for,’ says Mr. Deis, the city
manager.”
• “The big question is whether Stockton is only the tip of an iceberg. The 50 states alone have promised their employees
retirement health-care benefits amounting to a $627 billion future liability—and funded only 4% of that cost, according to
a recent accounting by Bloomberg Data. Unfunded state and municipal pension liabilities range up to $4 trillion, depending
on what future investment assumptions you make.” (Berding-Weil)
Yes, it remains too hot outside...
(@si_vault)
As the drought worsens, U.S. crop yields plummet...
And grain prices move to all-time highs...
Important trend: Today’s youth have much less interest in driving...
(TheAtlantic)
Quotes of the week:
• Fed Chairman Ben Bernanke: “At this point we do not see a double dip recession, we see moderate growth”.
• Bernanke: U.S. needs longer-term fiscal plan now when it can borrow at low rates. Many other countries don’t have that
luxury.
• JPM’s Mary Callahan Erdoes: Buy and hold is absolutely dead.
• Bob Rubin says post fiscal cliff crisis would be much worse than 2008.
• Hank Paulson regarding the fiscal cliff: If we don’t act, there will 100% be a “very messy” crisis.
• “Your physical wallet is going to be an arcane notion in 3 yrs ...just like your physical newspaper.” EBAY CEO
• “It just seems like the whole system is corrupt. And so that has to have an effect on confidence,” he concludes. “I think this
is a real problem and it’s going to linger for a while.” Byron Wien (WSJ)
Tweets of the week:
• @PIMCO: Gross: U.S. economy approaching recession when measured by employment, retail sales, investment, and
corporate profits. (the bond guy)
• @Convertbond: Spain’s 2 Year Bond Yield 5.76% vs France 0.10% #Unsustainable
• @Bill_Gross (the tech guy): “Google has $30,000,000,000 in cash & has NO idea how to invest it effectively, prefers getting
0% interest from Bernanke” Peter Thiel
• @ErinBurnett: The math: @mittromney paid 31% in charity and taxes in ‘10 and ‘11. More than @BarackObama proposes as
a minimum for the wealthy.
• @mmckinnon: I’m more confident than I’ve been in five years in the senate that we will solve our fiscal issues in the next
year. Sen Corker #NoLabels
• @SHAQ: Did dream team 1 thru 3 ever get behind in an exhibition or Olympic game. I can’t remember I’m too old
Front page of the Houston Rockets Chinese website.
(Did the N.Y. Knicks ever have a Chinese website?)
Meanwhile, back in politics, ‘Who built it?’
via Fiction...
“He didn’t invent iron ore and blast furnaces, did he?”
“Who?”
“Rearden. He didn’t invent smelting and chemistry and air compression. He couldn’t have invented his Metal but for thousands and
thousands of other people. His Metal! Why does he think it’s his? Why does he think it’s his invention? Everybody uses the work of
everybody else. Nobody ever invents anything.”
She said, puzzled, “But the iron ore and all those other things were there all the time. Why didn’t anybody else make that Metal, but
Mr. Rearden did?” (Atlas Shrugged, P1C9)
via Twitter...
@CoryBooker: “Life isn’t about finding yourself. Life is about creating yourself” George Bernard Shaw
via Non-Fiction...
“The world runs on individuals pursuing their separate interests. The great achievements of civilization have not come from
government bureaus. Einstein didn’t construct his theory under order from a bureaucrat. Henry Ford didn’t revolutionize the
automobile industry that way. In the only cases in which the masses have escaped from the kind of grinding poverty you’re talking
about, the only cases in recorded history are where they have had capitalism and largely free trade...
If you want to know where the masses are worst off, it’s exactly in the kinds of societies that depart from that. So that the record of
history is absolutely crystal clear, that there is no alternative way so far discovered of improving the lot of the ordinary people that
can hold a candle to the productive activities that are unleashed by the free-enterprise system.” (Milton Friedman, 1979) (MJPerry)
And congrats to our own Matt Florence and the U.S. Men’s Lacrosse U-19 team for their Gold medal win over Canada
in Finland on Saturday. (BaltimoreSun)
Our thoughts and prayers go out to those in our community affected by the tragedy in Aurora.
(JasonHirschhorn)
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