Daily Note – Messi’s magic slams vultures


Dubai: The Upper East or the Middle East?

Argentina: A huge opportunity building?

United Kingdom: Weakness beginning to creep in?

United States: Q1 GDP bombs out, but that was yesterday!

 Good morning

I’ve a busy update for you this morning as we have a number of balls up in the air, which is actually the way I like things. We are going to go from the Gulf to the Pampas and then back to New England to get a handle of the opportunities presenting themselves to all of us right now.

I’ve just got off the phone to both Abu Dhabi and Buenos Aries, where some dear friends are well placed to tell me about the current travails. In Argentina my old friend Martin Lousteau, the former Minister of Economy and now member of the Argentine parliament for the Radical Party, is giving me the low down on the latest between Argentina and its creditors. In the Gulf, a well placed source in Gulf banking has been filling me in on the fluid situation there.

In brief, it may be time to look at both markets. Argentina is going to get worse before it gets better, but it may take off like a rocket as it did in 2002-2008. Dubai’s property market although expensive may be an on-going beneficiary from the trouble in Iraq/Syria/Jordan, as Arab money heads to the relatively safe haven of brick and mortar on the Burj.

We’ll come back to these themes in a minute. Neither plays are for the feint-hearted, but who said it was going to be easy?

In the US yesterday, equities dipped sharply on the back of the weak headline durable goods and much worse-than-expected final Q1 GDP print (-2.9% for Q1 vs, consensus -1.8%). This was the worst quarterly q/q number outside of a recession since 1947. Have a look at it below.

Figure 1: Wow look at just how much the US wobbled in the snow!

1_Daily Note 26th June 2014 - Fig 5 US GDP

However, given the decent data since then, this Q1 slump means that the rebound will be stronger.

Treasuries were confused by the data yesterday. Initially, there was a sell off as the market digested just how weak the first part of the year had been, but then sense prevailed and people started to focus on the future.

We took a bit of stock yesterday and added back to our long China investment (having reduced it last week) after three days of weakness. We also added to our Euro short taking advantage of the USD weakness because the poor US GDP number.

Now lets go to the Gulf.

Dubai: Investors take profit

To get a handle on Dubai’s finance there are two things that a foreigner must appreciate. The first is the dysfunctional relationship between the conservative Abu Dhabi and its more delinquent, party-mad cousin Dubai.

Dubai is the playground, Abu Dhabi the office. When Dubai gets into trouble and is hauled before Abu Dhabi, the richer Emirate has a “prodigal son” choice. Does it take the prodigal son in and forgive it, or does it hang it out to dry? In the last case it forgave the delinquent. This time it will do the same I imagine.

The other idiosyncratic aspect of Dubai is the fact that it is a refugee camp for upper middle class Arabs fleeing the trouble in the region from Beirut to Baghdad.

During my last visit to Dubai, I had dinner at the house of some old Lebanese friends. I was the only non-Arab there and the only one not educated in a French speaking Catholic school. None of the Arabs were Christian. They were all, notionally at least, Muslims but they were members of the middle class who from Istanbul to Kuwait have been educated in the French Lycee system.

Over the years they have fled their home cities and increasing religious interference and settled in the only tolerant Arab city in the region, Dubai. These people see Dubai as the New York of the region, tolerant, rich and full of opportunity for themselves and their children.

When there is trouble in the regions people and money flow into Dubai. Bear that in mind.

Now on the ground, the Dubai financial market has been taking a beating in recent weeks. While shares rebounded yesterday, they are still down 25 percent from their May peak. (See chart below)

Figure 2: Dubai Stock Market

2_Daily Note 26th June 2014 - Fig 1 Dubai Stock Market

Look at the chart and ask yourself, are we at the end of a long bull market? Since June 2012, shares in the Emirate have climbed 250 percent.

The background to what’s going on will be familiar to anyone living in Ireland.

Dubai has been looking like a property bubble for a little while now. The Emirate has topped Knight Frank’s Global House Price Index for 12 months, and while growth has slowed in the past quarter, it still was up 27.7 percent for the year ended in March!

Digest that for a moment, nearly 30%!

Reuters also reported that volumes are going through the roof. Deals in Dubai “jumped 38 percent in the first quarter to some 61 billion dirhams ($16.6 billion).”

The symbol of the last boom, which ended brutally in 2008 and led to Abu Dhabi bailing out its delinquent brother Dubai, was a network of islands built out of dredged sand in the shape of a world map. This time around, maybe the moment that it all reached a bizarre climax was the plan, announced in 2012, to build a complex that includes the world’s largest mall, along with 100 hotels (especially since a different mall in Dubai already holds the title of world’s biggest).

The UAE government has taken steps to try to cool the market. It imposed a cap last Autumn on mortgages for second homes and investment properties at 60 percent of the purchase price. And yet Dubai’s Land Department has also insisted that the housing market is broadly healthy!

So how much should we read into the most recent selloff?

Paradoxically, the instability elsewhere in the Arab world is driving growth and rising real estate prices in Dubai. My dinner-party friends are voting with their feet.   There aren’t many stable places for Arab investors to put their money. Compared with civil war and marauding jihadis, a potentially overheated property market seems pretty unthreatening.

Therefore, the Dubai housing market could well keep going up. Its dynamics are more Upper East Side than Middle East.

Now, let’s go from a place with lots and lots of money to a place with none. Let’s go to the Pampas.

Argentina: High stakes poker.

Messi’s magic has re-ignited interest in all things Argentinean. As someone who has a small business in Mendoza in the very far west of this brilliant but infuriating country, the recent travails of Argentina versus the US vulture funds has a familiar ring to it.

The economy is smack in the middle of a stagflationary slump where prices are rising rapidly but the economy is shuddering to a halt. This will lead to an internal default problem as the next government tries to rein in inflation by raising real interest rates rapidly. The Peso will fall further and unemployment will rise. This is what always happens. The crisis, which can’t be more than a year off, will lead to some wonderful investing opportunities, but just not yet. Now is time to learn about Argentina, invest later.

 Table 1 26 June

Argentina is on the verge of another default, but this doesn’t matter because it has been bullied by US vulture funds that need to be faced down for the good of all of us. This week a US court declared that Argentina should pay US vulture funds – so-called “holdouts” at par for distressed defaulted debts picked up by these creeps for a song.

This is a ludicrous decision. Bankruptcy is part of capitalism. So countries go bust as well as companies. In America, companies go bust and creditors get nothing. Why not countries?

If Argentina is forced to pay these guys at par, poor Argentineans will end up paying the 1% of the 1% making them richer in an extortion scam sanctioned by the US Department of Justice. With this sort of global financial injustice are you surprised that Tomas Piketty’s book has sold out?

On the ground, recent Argentinean economic data screams stagflation with GDP showing a surprise contraction for Q1 as the current account worsens (see chart below).

Figure 3: Argentina Current Account vs GDP

3_Daily Note 26th June 2014 - Fig 2 Argentina CA + GDP

The deterioration of the external accounts come from the fall in commodity prices, affecting its terms of trade and the traditional flood of Argentinean money trying to get out of Pesos.

However, the real issue for Argentina now is to deal with its creditors. At this point Argentina only has one path: Negotiate with its remaining creditors, including several American hedge funds.

“I am told the plan is set for next week to negotiate with holdouts to resolve this situation,” said Argentina’s Attorney Carmine Boccuzzi to state-run news agency Telam. Argentine officials are expected in New York next week to begin the deliberations.

The country’s stock market has rebounded some this week and was only 4% down for the week on Wednesday, but its bonds have not been so lucky. Both yields and the cost to insure Argentinian debt have spiked in the wake of the ruling. Yields rise when bond prices fall.

Earlier in the week, Argentine President Cristina Fernández de Kirchner expressed severe dissatisfaction with the US ruling.

“I think we should distinguish between what is a negotiation from what is an extortion,”

Argentinean stocks have done very well this year with the main market up over 40% so far this year. (See chart below). This is because Argentineans want to get their money into anything as long as it isn’t a local bank account, because inflation is destroying wealth. Better to be in stocks than anything fixed income or deposits. Also, as the currency controls for locals are extremely onerous, local stocks aren’t a bad place to try to ride this out.

Figure 4: Argentina Stock Market Return (Domestic investors)

 4_Daily Note 26th June 2014 - Fig 3 Argentina Stock Market

For foreign investors the return was a much less impressive 20%, a reflection of the devaluation of the Peso this year. This return however is still well ahead of developed markets.

I believe that Argentina will provide a one-off, mega long trade idea once this crisis passes. But that’s not right now. So sit back and enjoy the football.

United Kingdom: Weakness beginning to creep in

Table 2 26 June

 Across the water, survey data indicated that sales are falling for a second consecutive month.

Figure 5: UK CBI Report Sales

5_Daily Note 26th June 2014 - Fig 4 UK Reported Sales

At the margin, I am getting somewhat more concerned about the UK economy. I have to watch this closely as I may change my opinion of sterling, particularly as we are now at 80 pence to the Euro.

United States: Q1 GDP bombs out but we have hope

Table 3 26 June

We noted the dreadful Q1 US figure earlier. But that was yesterday, what about tomorrow?

Leading indicators are pointing the other way.

Markit services PMI rose to 61.2 in the June preliminary estimate (vs. consensus 58.0). This is the highest level since the start of the survey in 2009 (see chart below) and it follows a solid service sector report from the New York Fed released last week and decent Richmond Fed service sector survey released yesterday.

Figure 6:United States Core Durable Goods vs Composite PMI

6_Daily Note 26th June 2014 - Fig 6 US Durrable Goods + PMI

Finally, although yesterday headline durable goods orders fell 1.0% in May (vs. consensus flat), I am confident that the US is on a strong upward trajectory and the risk of bond vigilantes re-emerging from the shadows is high.

Table 4 26 June

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