September 20, 2012

By Derek On October 2, 2012 Under September 2012

The white race cannot survive without dairy products.” – Herbert Hoover


The last few days Mr. Bernanke has filled the headlines and rightly so with his surprisingly strong statements and policy moves last week. What struck me most, other than Mr. Bernanke’s growing resemblance to Lenin, was how different QE3 is from previous QE exercises; namely the open ended nature of this market moving announcement.

Ben is going to keep printing money until stocks go up and unemployment falls. I listened to his press conference, (transcript) where, when asked if the transmission mechanism in monetary policy was broken, he spoke clearly and in plain English (unlike his unintelligible predecessor). So said Ben:

“And if people feel that their financial situation is better because their 401(k) looks better for whatever reason, their house is worth more, they are more willing to go out and spend and that’s going to provide the demand that firms need in order to be willing to hire and to invest.”


Looking at the impact of previous FOMC action is pretty telling. Here is the S&P 500 from November, 2008 when QE1 was announced until last week:

Overall, the S&P is up 71% since Bernanke’s first QE announcement four years ago. The Fed is really working hard for my 401(k) (a US retirement account usually invested in stocks) and I appreciate that. I also realize this could just be a coincidence and correlation is not causation but holy smokes, it sure looks suspicious. What about the impact on Hong Kong stocks? See below:

The QE impact is less, at an increase of 59%.

And for Shanghai – even less apparent:

In fact, either China moves in its own orbit or the US printing money is bad news for Chinese stocks. Further evidence suggests China is falling due to internal structural weaknesses on top of a stuttering global economy. However, if you believe printing US dollars by the shedload is bad for China then China has a long way yet to fall as Ben put paid any doubting Thomas’s out there with this statement of the Fed’s determination:

“We will do enough to make sure that the economy gets on the right track.”
Interestingly, other emerging markets have soared since QE 1 hit the dance floor:

Considering capital outflows from China are accelerating, with the PBoC and commercial banks selling Rmb 17.4 bn in foreign exchange in August, vs. net sales of just Rmb 3.8 bn in July, QE3 may help arrest some of the leakage. Reportedly, China’s foreign exchange reserves fell by $11 bn in Q2 – the first decline in 12 years. Looking ahead to a weaker dollar and a strengthening Rmb, of course, isn’t what China wants but is what it needs to begin correcting gross imbalances in the domestic economy.


The Fed doesn’t want you holding cash in any form. The outlook for the dollar is clearly negative. The outlook for stocks, nearer term fundamentals aside, is positive. With the ECB riding to the rescue earlier this month and the Bank of Japan yesterday announcing it is expanding its asset purchase and loan program to US$1 tn, central bankers are painting cash-hoarding investors into a corner: invest it, spend it, or lose it. (Team EMI here in Seattle (me) has slashed our cash weighting significantly and gone even longer of equities upon Bernanke’s QE3 announcement).

Here in the US, the timing of Ben’s move has raised eyebrows as it is just seven weeks before the Presidential election and this clearly helps Obama at Romney’s expense. Given Mitt’s earlier statements that he would definitely not re-appoint the Fed Chairman, it is even more curious. Perhaps Bernanke shares my view – there is no way Romney will win so it just doesn’t matter.

Research: Shops to Ships

In research analyst Yumi Park initiates on the Korean retail sector with a Neutral rating in her work titled, “Sweet and Sour”. Within the sector, Yumi prefers the department stores for their unassailable lock on rising luxury consumption. She draws an interesting comparison with Japan’s retail experience where that country has experienced two “lost decades” yet luxury brand sales tripled from 1993 – 2006, even as GDP remained flat and income levels and overall consumption declined. The Japanese wanted to trade up and sacrificed other purchases to do so. 80% of luxury goods in Korea are sold through department stores (65% in Japan) giving them a full nelson chokehold over vendors. This is seen in the significantly higher average gross margins of 30% and up that Korean department stores enjoy vs. 15% in Japan.

VIP customers spending and loyalty is also crucial. VIP customers belong to loyalty programs where they enjoy discounts, swag and invitations to events, such as underwater fashion shows. In Korea, this confers social status so well-heeled consumers are keen to maintain the minimum required annual purchasing amounts to “keep up with the Kims.”

MSCI Korea Retailing 12M Forward P/E

Recent dour performance of the sector is due to a weak domestic housing market and global macro uncertainties which have brought valuations down to near trough valuations. Shinsegae (004170 KS, Buy) is trading at a 12-month forward PE of just 6.4x, while industry leader Hyundai Department Store (069960 KS, Buy) is trading at a 12-month forward PE of 8x. Yumi forecasts earnings CAGR of 12% for these guys over the next three years. Compare this to Macy’s in the US which trades at a forward PE of 10.4X with similar earnings growth. The Korean unemployment rate is 3%. That of the US: 8%. We see the low unemployment rate in Korea continuing and a modest recovery in consumption going forward.

While August SSSG disappointed at -6.9%, Yumi says this is due to the Korean Thanksgiving holiday base effect and she forecasts 3Q growth of -1% with the turnaround happening in Q4. Speaking with the company a couple of days ago, HDS confirms they are looking for September SSSG to rebound to 4%.

While Shinsegae and HDS are the top picks, I think HDS is more attractive for the boring reason of greater operational efficiency. Management has seen margins improve due to a laser-like focus on cost control; especially concerning the labor input (wouldn’t want to work there). This factor was apparent when I visited the company’s HQ in Seoul a couple of months ago. They are located in an old building on the 5th floor – and there are no elevators. You have to climb 5 flights of stairs to meet senior management. After that I was a little surprised to find they actually cut loose and had chairs for the meeting room but did notice everyone across the table from me looked pretty fit.

Finally, operating margins of 11% at HDS are more than double that of Shinsegae. And operational floor space for HDS is forecast to grow 10% a year through 2015 which will lead to continued sales growth.

Another sector initiation in Korea takes a look at the shipbuilding sector titled, “Not Yet,” which analyst Woochang Chung, rates as Neutral due to continuing weakness in the global commercial vessel market. However, Samsung Heavy (010140 KS, Buy) is the best of the bunch and is the first to see improving prospects for the following reasons:

1) Higher exposure to booming offshore facilities market (deep water drilling ships) at 81% of new orders vs. peer average of 44%
2) Higher ROE outlook of 15.8% vs. peer average of 10%
3) Margin expansion of 30 bps forecast FY13 due to change in sales mix as the company focuses on the deep water drilling ship market


The case of the missing Xi Jinping appears to have been solved. CCTV (news you can trust) showed Xi meeting excited students at the China Agricultural University in Beijing, Sept. 15th.

Every Little Thing Xi Does is Magic…

My view: His absence from the world stage and lack of any explanation whatsoever shows this leadership transition is NOT going smoothly and helps explain why Beijing’s eye seems to be off the ball regarding the worsening domestic economic situation. Mr. Xi looks pretty tired and unfortunately probably suffered a sudden medical “issue.” This does not dovetail with the official image of an emerging and powerful China the Party wants to project and is probably why they haven’t come up with any plausible story explaining his absence yet. Expect more twists and surprises in this transition drama which will keep a lid on A-share performance. However, once China has its Peking ducks in a row, as I
said before, the market will anticipate strong pro-market policy announcements and begin to move. This will be even more likely if global markets have already moved upward on QE 3, as I expect they will.

Further evidence that a strong rebound is in the offing comes from a chart a client just sent me showing that on a PER basis, China is the cheapest it has been in 10 years compared to the US:

(Editorial note: I also received a bottle of champagne in the mail last week. Charts are good, champagne is better).

On the Bookshelf:

The Last Page:

From a funerary inscription in Isernia in central Italy, 2,000 years old:

Innkeeper, the bill please!”

“You had a pint of wine, one ass (a currency unit) of bread and three asses of food.”


“You had a girl for eight asses.”

“That’s right.”

“And two asses of hay for your mule.”

“That damn animal is going to ruin me!”

Derek Hillen, CAIA

Mirae Asset Securities


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