Tag Archives: Macro

Market Front Row : Will They, Won’t They

Global Economy, On the cover, Sin categoría
This week we are starting to publish “Front Row”.

Front Row represents the personal view of Rodrigo Rodriguez, European Head of developed cash trading for Credit Suisse.

While controversial and sometimes politically incorrect , he presents an unbiased market view and while he uses both internal and external research at no point this should be consider Credit Suisse’s view.

It is a pleasure to get the market view from excellent professionals and market . It is intended to be a periodic (weekly, bi-weekly) view of markets from friends that might help get a better perspective. Here we go… Round one

front row 1

Front Row

In this note we have argued about a bad number being good for the market or just being bad…and I have always argued that a bad number is just that. Bad. And similarly, for a good one.

However when discussing this yesterday with the team the view was slightly different: “if the number is good it should be really good for the market and if it is bad you should not read too much into it and use it to buy the market” Chandan said..

Why? The Ben is there and the reason for QE3 was the unemployment and growth mandate the Fed has, if this round of QE does not work then he will do QE4 and he will not stop till he turns it around.

As Garthwaite told me yesterday, investors should start getting very used to exceptional low yields as they are here to stay “for 10-20 years” – clearly little Rod’s economic books will look a lot different from mine!

Will they won’t they? 
Last week I did talk about Catalonia and the Spanish bail out, I said that this government was not ready yet and today I am going to try to give some more colour on it.

So yesterday Luis de Guindos , Spanish Minister of the Economy and Competitiveness, at a conference at LSE mentioned that Spain did not beed a bail out …but did he really say that?…Luckily for me my friend Juan (Did not you miss him) was there (unfortunately a 5pm talk is too early for some hard-working Spaniards I know….) and to my question :”Has DeGuindos lost it ? “ Juan replied: “ Actually this interpretation by the press is misleading what De Guindos actually said was “ Spain does not need a bail out …we are talking about a financial assistance programme or a credit line”

In summary this government is as scared as the previous one, Zapatero would not mention the word “crisis” but downturn, slowdown etc the Conservative party will not talk about bail out but Financial assistance….no comment..

So everyone knows my view that Spain should have already asked for such help, but digging a little bit deeper my conversation with Juan got into an interesting area.

Basically Juan’s argument is that politicians (mainly from the core) need to clarify their position on the burden sharing of the recapitalization of the financial legacy positions.

Germany, Finland and Holland are now saying something completely different to what they said in July .

Clearly the Irish and Spanish thought that they had signed for a recapitalization of the banks that will be pooled by all the EU countries once the European Bank Supervisory would be created . However the core countries are saying that is not exactly what they signed or what they thought they had signed…therefore it is normal that Spain is quite sceptical about signing a new MOU.

Following his argument , which I must recognize is quite a valid one he added:

“Rod, Why should Spain ask for a bail out in a week that BBVA has issued €2B (trading 40bps tighter today) , Popular is near to raise €2.5B on a capital increase, Telefonica is raising today and the Treasury raised €4b?”

My answer was immediate: “ come on!!!! this money has been raised because the market discounts a bail out is practically imminent” Juan’s point was that is not related to the Spanish bail out but to the increased confidence on strength of the Euro .

I do not doubt he might be right but the performance of the recent performance of European Equities vs. US ones clearly does not show me such confidence.

One question is still unanswered, “ Why has Spain not used the existing, authorised loan to recapitalize Bankia?” That was the question my friend wanted to ask yesterday to Mr De Guindos, unfortunately some idiot with a “Spain for Sale “ placard managed to get all the attention….

Something has to give in. Are you sure the flows have not come?
I understand the S&P is near the highs and people are getting nervous

I have even mentioning that my big worry was which hands were holding this market, I had the impression that hedge funds were loaded on risk, banks back books were running as much risk as the whole year and long only money had already rotated their portfolio towards cyclicals, i.e. unless there was new money coming we were creating the perfect formula for disaster. However there have been a couple of articles this week that make me revaluate these assumptions.

On one hand and I am sure you guys have seen this (Hedge Funds in Denial Betting on Stock Losses During 12% Rally 2012-10-05 00:03:35.274 GMT By Whitney Kisling and Nikolaj Gammeltoft):

“For the first time this year, hedge funds are turning away from a rally in the global stock market. The ratio of bullish to bearish bets among professional speculators fell last week and is below historical averages, according to a survey by International Strategy & Investment Group. The reduction came as the MSCI All-Country World Index extended its yearly advance to 12 percent and contrasts with January, when managers bought shares as they rose, data compiled by ISI and Bloomberg show. The unexposure from hedge funds, as well as fund managers is just spectacular. The ISI gauge of hedge-fund bullishness measuring the proportion of bets that shares will rise slipped to 46.5 last week from 48.1 in late August. The level is below the measure’s 10-year average of 50.2, the ISI data show “

If that is true then we all know where the pain trade is by looking at the chart below…..

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On the other hand we might not have felt that so much new money was put to work through our desks in Europe (cash, PT , D1) but clearly the following justifies why the S&P is so solid and that my perception was wrong: Please click here to view the report: Largest Inflows Since 2008:
  • The S&P 500 was up 2.5% in September, but more impressive was the fact that ETP net inflows in September climbed to $37.6bn – the largest inflows since December of 2008. All asset classes attracted new assets, but equities accounted for over $31bn (including $11.7bn in SPY).
  • There was over $31bn in equity ETP inflows in September.
  • Let the good times roll: The accommodative monetary policy helped fuel a healthy risk appetite with inflows across most regions (U.S., Emerging Markets, and Europe in particular).
  • Real estate, Mid cap, Materials activity rises: Overall, volumes were up compared to the last two months, but still below average compared to the year as a whole. Some exceptions which had higher trading activity were Real Estate, Mid Caps and Materials. On the other hand, the level of Financials trading was underwhelming.
  • U.S. inflows across all caps: Large inflows went all across the cap spectrum with SPY ($11.7bn, Large Cap), IWM ($2.8bn, Small Cap), and IJH ($1.7bn, Mid Cap) all popular.
  • Emerging Markets: Broad based EM exposure was high in demand for the 4th straight month, led by stalwarts VWO and EEM. From a single country perspective, EWZ was especially of interest with $1bn of net creations.

front row 3

Once again on my Multi Asset Risk meeting, the following was mentioned: “Great market for High yield origination” “Rates near historic lows” “ Funding is extremely quiet and unsecure funding is no problem” “largest quarter ever on global high yield, inflows continue while spreads keep tightening” ….. So there was only one more thing to check then , is the S&P expensive compare to other asset classes? I asked my friend Leonardo Grimaldi for some colour on Equity risk premium and these are his thoughts

“We at HOLT have just done an analysis of the US equity risk premium and estimated it at 7.5%. The last time it was this high was in the early 1970s, a period characterised by stagflation, high unemployment, and an oil shock. The equity risk premium is calculated as the difference between the real cost of equity and the real cost of debt. The real cost of debt now stands at a 40-year low, as a result of very loose monetary policy post Lehman and strong corporate balance sheets. We calculate the cost of equity by solving for the yield on equities given aggregate market capitalisation and forecasted consensus earnings. The question arises: can the equity risk premium stay this high? For it to go back down to long term median levels (c. 4%), either the cost of debt has to increase and/or the cost of equity has to decline. It follows that bond prices would decline and/or equities would continue to rally (assuming forecasted earnings, which are not terribly demanding at the moment, do not change materially). Given the clear stance by Fed to keep rates very low for the next two years, it is hard to see the cost of debt rising considerably, which leads us towards equities. At a factor level in this asset class, Value is starting to come back and correlations are declining, making the environment more conducive to stock picking as opposed to an allocation decision. However, given that the economy is in Contraction, the best stocks to choose at the moment are companies have been able to show high, stable returns over the cycles or those in the defensive sectors.”

front row 4

front row 5

In summary if you believe that Ben-Draghi has reintroduced the risk free rate you need to own the upside somehow or you cannot continue in Fixed income , as at some point rational money will be forced into equities (Vole is cheap if you are not brave enough to be naked, one thing I would like to point is that Mean reversion has started to work amazingly well this month…).

Top 10 Gene Simmons quotes

Global Economy, On the cover, Sin categoría,
Top 10 Gene Simmons quotes:
  1. Life is too short to have anything but delusional notions about yourself.
  2.  “Men want success and sex. Women want everything.”
  3. In America you are given the opportunity to be whatever you want to be. The rest is up to you.
  4. Walk amongst the natives by day, but in your heart be Superman.
  5. Whoever said `Money can`t buy you love or joy` obviously was not making enough money.
  6. My hero is me. Why? Because I was the kid who was told, `Hey stupid, can`t you speak English?` Now all those people work for me.
  7. You can’t argue with facts and figures. Either people want it, in which case they pay for it, or it`s two guys at the Plaza having a discussion, which means nothing.
  8. The root of all evil isn`t money; rather, it`s not having enough money.
  9. “When you walk through a bad neighbourhood, you don`t want a poodle by your side. You want a Rottweiler.” On why he voted for Bush
  10. Anyone who tells you they got into rock n` roll for reasons other than girls, fame and money is full of sh*t.

Market implications of a delayed bailout

Global Economy, On the cover, Sin categoría

This article was published in El Confidencial on Sept 24, 2012

“Spain’s meltdown is so huge that Al Gore would make a documentary about it”

Last week, I was fortunate to meet with many Spanish companies. Their transparency and prudence is what helps us to improve the country’s image with investors despite the erosion of results from tax greed, political noise and anti-foreign harangues.For investors, it is not easy to position themselves ahead of the last quarter. On one hand, we see the stock market go up and the Spanish risk premium holding the 400 basis point level, even if it is at levels that were considered intolerable a year ago. And Spanish companies have taken advantage of a window of credit that opened in September to go to markets and refinance part of their debt.

In fact the week from 10 to 17 September, according to Goldman Sachs, was the busiest week of corporate bond issuances since 2009, at almost €21bn. But unfortunately this is not enough, and companies have issued bonds for one third of their needs for the next twelve months.

What does the debt market tell us? Public or private debt?

The good news is that Spanish companies can access capital market and are doing it at spreads that are not very different from what we saw in 2008-2009, about 300 basis points above the benchmark (midswaps), with demand exceeding supply by four times.

What the bond market tells us is that there is appetite for debt of companies as long as it’s well secured by assets. That appetite should be exploited.

It also tells us that the debt market has no appetite for sovereign debt. When the government published the July budget execution, most economists had already written off the deficit target of 6.3 percent in 2012. In June, the deficit of public administrations was 8.56 percent. Regardless of all the taxes and cuts that they want to announce, it is virtually impossible to reach the budget target, which has already been revised upwards three times, as shown in this chart of JB Capital.

Thursday’s auction was extremely revealing. Weak foreign demand is concentrated in the short term -three years- which is where the European Central Bank would supposedly buy and therefore only a few hedge funds are betting on an imminent intervention. The long-term tranche -10 years- was disappointing, only €901m, showing the lack of international demand.

This is one of the most important things that I always explain to my readers when I read that Spain “has no public debt problem” but a private debt problem. Yeah right … Spain doesn’t have a problem because there is no demand. No demand, no problem. With public debt at historic highs, €804.4bn and 75.9 percent of gross domestic product, which is in reality 110 percent of GDP if we include all the concepts, we’re headed to have one Exxon plus one Apple in debt. There is no bigger problem than to have financing needs of tens of billions annually and have no institutional demand. Just like a store without customers.

a) Private debt, no matter how weak companies are, is secured by assets that can be sold more or less expensive, but are sellable. Public debt is just spending, it disappears, it generates no return and is used to maintain duplicate administrations, loss making public enterprises like Omnium orInvercaria, and to bail out the public saving banks… Yes, all public. To all those that demand a nationalized banking system, congratulations, this is the result.

b) Private companies can raise capital and sell assets. The state either curtails spending or raises taxes and cuts services.

c) Private debt default risk is almost 40 percent lower than that of public debt because confidence in managers is significantly higher than in politicians.

d) Half of Spain’s private debt is concentrated in 30 companies. Not one of them has losses and negative free cash flow that match the disaster of our public accounts. The state loses €45.2bn in six months. The state spends nearly double its income. Find me a single large company or SME that spends twice its revenues. Not remotely. And do not tell me stories that the state has a social duty. The first social duty is not to spend money they do not have, and not to sink future generations speculating that everything will go up.

Therefore, we have a budget implementation which does not induce optimism.

– Very few investors believe that tax revenues will grow by 17.9 percent between 2011 and 2014, because we are living the Laffer curve in all its glory. More taxes, less income. And in this item rests nothing less than 28 percent of the estimated improvement of national public accounts.

– Very few investors believe Spain will reduce spending watching the evolution of expenditures so far. In fact, many investors believe €20-30bn more will be needed to cover the hole of the savings banks in 2013, and many fear that the government’s objective is to maintain GDP at all costs, even keeping unproductive expenditures.

Investors resoundingly favour corporate bonds and continue to avoid a sovereign bond that is only discounting the option of a bailout. Government debt held by foreign investors has continued to fall while Spanish banks have offset this decline.

What if the bailout is delayed?
The delay makes sense, but the bailout is inevitable:

– As I mentioned in this column, once the bailout is requested, the country runs the risk of being labelled as junk status. While a rating agency says it is not going to do it, the market will likely do it. It is of paramount importance to give companies the ability to finance all they can and to raise capital before Spain is treated as junk bond.

– The conditions can be very aggressive and with the liquidity and solvency indicators of European Union countries worsening, Spain runs the risk of making a bad deal. Spain will have to make huge cuts anyway, and everyone wants to give the impression of calm and prudence.

– Perceived political problems. Elections are close and no one dares to appear in front of voters saying “ladies and gentlemen, what we have to do is to apply the red pencil.” I’m surprised, because people know and all they ask is that someday the red pencil is applied to official cars or the hundreds of politicians paid by taxpayers’ money.

What we do with the IBEX at 8230?

“Bull markets are born on pessimism, grown on skepticism, mature on optimism and die on euphoria” Sir John Templeton

We have gone from the “worst is over” to “the best is yet to come” and the risks of complacency abound.

We will end September and Spain is the only European country that bans short positions. And now the government calls for a tax on short term gains. Against speculators, they say. Of course, to them selling a stock is speculating, but building statues and unnecessary airports is “investing.”

McCoy in El Confidencial wrote an article mentioning that the IBEX could be a great investment opportunity based on CAPE (cycle adjusted price to earnings). However, I have doubts. How can we value today’s companies using the last cycle when the past meant massive debt, huge subsidies and real estate bubble growth?

My opinion is:- The IBEX is not cheap. The consensus expects earnings growth in 2013 of… 52 percent. I swear. Normalizing these estimates, the Ibex at 12xPE and 3.8 percent yield is not cheap, except for three sectors, industrial, and electrical consumption. Look at this chart by Mirabaud.

– Once we establish that the IBEX cannot give big surprises in its expected profits, the surprise can only come from the average weighted cost of capital (WACC). It has improved thanks to the cost of debt, but the cost of equity is rising and the impact on stocks ​​will be dictated by their ability to continue refinancing themselves cheaply … and by country risk. If the market puts Spain in junk bond, the brutal positive impact generated in August can be reversed.

– The IBEX remains the most indebted index in Europe, which is why it goes higher when liquidity injections are discounted and falls more when financing is a risk. The refinancing needs of companies can lead to a situation that we call “cannibalism,” that is, the bond supply offsets the interest in shares when marginal investor appetite focuses exclusively on corporate bonds, not stocks, as we saw in 2008.

Spain will have to make real cuts, not tax increases. We cannot see the bailout as a solution and forget the risks for companies. I hope our dear politicians, who complain so much about speculators, will stop speculating with the money of others betting that in two years all will go up, because they are turning Spain into the worst hedge fund in the world.