Credit Market Overview
June 1, 2010
With the VIX closing at 40.10 on May 21st and correlation across almost every single asset class locked at 1.0 it would appear that investors are battening down the hatches early for what the National Oceanic and Atmospheric Administration (NOAA) says could be the busiest hurricane season since 2005. The federal weatherman (imagine the chance of being right when you put those two together!) believes there is a 70% chance of 14-23 named storms of which 8-14 could grow into full fledged hurricanes. “If this outlook holds true, this season could be one of the more active on record”, said Jane Lubchenco a NOAA administrator.
The forecast of storms ahead seems like little else but more of the same as Fitch arrived late to the downgrade party on Friday knocking a notch off of Spain’s debt putting it at AA+. If the CajaSol conundrum turns out to be more than an isolated incident Fitch’s forecast will look timid at best with NOAA having a higher probability of being correct.
The move in the S&P 500 from the intraday high of 1219.80 on 4/26 to the 1040.78 intraday low on 5/25 came to 14.68% which is a healthy number for a correction but no so robust that crossed over the technical definition of a bear market which wakes from its hibernation at 20%.
Whether we get there or not is still for the future to decide but strategists at HSBC found that the timing of this correction is in line with others they looked at going back to the 1940’s and averaged around 12% which is the number for this one if you look at closing levels. Additionally, the Bespoke Investment Group found that a drop similar to May’s produces double digit gains in the following three months.
The American Association of Individual Investors (AAII) weekly poll showed 51% of its respondents to be bearish last week while 30% still had their horns on. This number is used by some as a contrarian indicator and to the extent that it is true it supports the move in the Bloomberg Financial Conditions Index which closed last week at -1.027 after hitting a low of -1.530 on 5/20.
Morgan Stanley’s global strategist, Gerard Minack, thinks, “there is a risk the growth slowdown is more pronounced in 2011, but we doubt investors will see enough news to price in such a risk in, say, the next one or two quarters”.
Thomas J. Lee, J.P. Morgan’s head of U.S. Equity Strategy also thinks we’ve seen the worst of the correction citing “analysis paralysis” by investors, the AAII Diffusion Index’s move to negative territory (-21%) and the amount of time since the “Flash Crash” as reasons for his upward bias.
For all of the worries about Greece, Nicolas Bornozis, President of Capital Link, published a 12 page advertisement in Barron’s this weekend with a number of charts included. Among them was a depiction of the Baltic Dry Index from 2001 to the present which showed renewed upward movement, once again nearing highs seen in 2009 along with a bar chart of Chinese iron ore imports estimated to reach close to 700MM tonnes topping last year’s number. World oil demand was also shown to be over 87.25MM bbls/day, very close to the high of 87.50MM bbls/day seen in January of 2008.
Vito Racanelli used the recent sell-off in Europe to highlight 10 stocks he thinks are worth owning among which are BMW and LVMH. The basis for his rationale was companies that have a majority of their costs in Euro’s but get a majority of their revenue from outside the Eurozone. Andrew Garthwaite, an equity strategist with Credit Suisse is in Vito’s camp as he notes that “47% of the market cap of the Euro Stoxx 50 offer a dividend yield higher than their respective government bond yields.” “88% of the time the Euro weakens, Europe outperforms in local-currency terms”, he says.
Paul Hickey, founder of Bespoke Investment Group, was siding with Vito saying the that the recent correction was “the baby getting thrown out with the bath water” for emerging markets and came up with his own 10 names of companies that have ADR’s listed here in the States including Companhia de Bebidas das Americas (ABV), Baidu (BIDU) and Credicorp (BAP)
While maybe not one of Vito’s 10 picks but definitely within the realm of luxury, Daimler AG CEO, Dieter Zetsche, was ebullient when describing his outlook for the company’s Mercedes-Benz Cars unit after announcing a 12% increase in sales for the brand. “From today’s perspective, assuming there is no further downturn of the world economy, we expect Mercedes-Benz Cars to achieve its targeted return on sales of 10% in the second half of 2012 and to maintain it as of full year 2013”. The engine for this growth? “China is increasingly becoming the center of gravity of the automotive industry”.
The revival of luxury brands is not just a Euro thing as Tiffany & Co recently announced that its fiscal first quarter earnings more than doubled. “Our business performed exceptionally well in the first quarter, continuing the broad-based improvement we began to experience in the second half of 2009”, CEO Michael Kowalski said.
It would also appear that the recovery is not just at the top as George Pipas, sales analyst for Ford Motor Co (F) said “the U.S. auto industry will continue its current pace and finish May on track for an annual sales rate of slightly more than 11MM new cars and trucks”.
Speaking of driving another part of the silver lining to come from the recent correction was an average price for a gallon of gasoline of $2.827 according to AAA. “We expect retail gasoline prices to fall even as Memorial Day approaches”, said Tancred Lidderdale, a senior economist at the federal Energy Information Administration. Given that the average household spends about 4%-5% of it’s budget on gasoline Goldman Sachs found recently that a $10-per-barrel drop in crude oil prices could result in saving households about $20BN a year in energy costs. If 70% of those savings were spent elsewhere Goldman notes, it would boost GDP by about 0.1%.
Other signs that the rebound continues can be found in the technology sector where “the days of I’ll take what I can get are over”, according to Mark McClain, CEO of SailPoint Technologies Inc, referring to the company’s ability to attract talent. “As hiring improves in the Valley, I’d expect that we might have to start looking at bonuses, salaries, or options again as ways to attract people. We feel some of that tightness coming back”, he said.
And for those who think “all work and no play makes Jack a dull boy”, Polaris Industries Inc. (PII) maker of ATV’s and snowmobiles is finding it a challenge to keep its dealers with enough inventory. Having cut back during the downturn Scott W. Wine, the recreational vehicle maker’s CEO says that cutting inventory might crimp 2010 revenue growth. Brunswick Corp (BC) cut boat shipments to its dealers by 54% in 2009 but the company is now finding “sales this year are better than we expected for all products” said Bruce Byots, a BC VP, said.
One of the keys to sales is advertising and Jon Swallen, Kantar Media’s VP of research says, “Ad spending has started to improve, and TV is at the forefront of the pickup”. Jon noted that spending on TV rose 10.5% in 1Q10 and that “the indications are that it’s continuing into the second quarter”. One network executive thought that overall upfront commitments could be 15% above last year. “Once it starts to move I think it’ll move pretty quickly”, he said.
It would be naïve to ignore the risks that exist at the moment but equally innocent to ignore all the progress that is being made.
Enjoy the week.