Smart Money Falling Off a Cliff?

Shobhana Chandra and Mike Dorning of Bloomberg report, Surprise Jack Welch Missed Shows Better U.S. Growth:
It isn’t only the federal government’s Bureau of Labor Statistics that is issuing surprisingly good news about the U.S. economy these days.

If former General Electric Co. Chief Executive Officer Jack Welch’s charges of a political fix to manipulate economic data ahead of the presidential election are true, there must be a vast econometric conspiracy embracing auto dealers, real estate agents, the Federal Reserve and corporate America’s 96-year-old Conference Board.

The economy is improving more than professional forecasters anticipated, particularly in data on employment and housing, according to the Bloomberg Economic Surprise Index, which compares 38 indicators with analysts’ predictions. The index, based on gauges compiled by private businesses and trade groups in addition to government, confirms U.S. growth is generating jobs in the face of a global slowdown and looming federal spending cuts and tax increases known as the fiscal cliff.

“The economy is improving, and the labor market is getting better,” said Robert Brusca, president of Fact & Opinion Economics and a former New York Fed economist. “These numbers are what they are, they’re not being slanted. On a scale of one to 10, the economy is at a fairly firm six and may be heading higher.”

President Barack Obama and Republican presidential candidate Mitt Romney are each trying to convince voters ahead of the Nov. 6 election that they are best equipped to spur growth and accelerate hiring. Nonpartisan forecasters who have developed models to predict the outcome of elections disagree on how the economy will shape the results this time.
Rate Fell

An Oct. 5 report from the BLS showed the jobless rate fell in September to 7.8 percent, the lowest since Obama took office in January 2009, from 8.1 percent in August. The rate was forecast to rise to 8.2 percent, according to the median estimate in a Bloomberg survey of 88 economists.

“Unbelievable jobs numbers. . . these Chicago guys will do anything. . . can’t debate so change numbers,” Welch wrote in a Twitter message immediately after the report. Obama’s campaign is based in Chicago.

The BLS data also showed that employers added 114,000 workers to payrolls last month after a revised 142,000 gain in August. The September figure was in line with economists’ estimates for an increase of 115,000.

Gallup’s daily tracking of likely voters conducted Oct. 4 through Oct. 10 shows Obama with 47 percent and Romney with 48 percent support. The tracking is a rolling average of seven days of surveys with a margin of error of 2 percentage points.
Growing Number

The Bloomberg Economic Surprise Index, which compares indicators with analysts’ predictions, shows a growing number of those measures are exceeding expectations. The index climbed to minus 0.06 yesterday from this year’s low of minus 0.42 at the end of July.

The Citigroup Economic Surprise Index shows a more pronounced improvement. It jumped to 49.4 yesterday from this year’s low of minus 65.3 on July 19. A positive reading suggests the economic releases have on balance been better than the Bloomberg consensus.

Among the indicators that have topped analysts’ forecasts: consumer confidence, car sales and purchases of existing homes.

Sales of previously owned houses, reported by the National Association of Realtors, rose 7.8 percent in August to a two- year high. Cars sold at a 14.9 million annual rate in September, the fastest pace since 2008, according to Ward’s Automotive Group.
‘Doing Better’

“The economy is doing better than people think,” said Chris Rupkey, chief financial economist at Bank of Tokyo- Mitsubishi UFJ Ltd. in New York. “Don’t count the consumer out yet.”

Among the headwinds to growth, Rupkey said, are the European debt crisis, a slowdown in China and the so-called fiscal cliff, more than $600 billion of tax increases and spending cuts that will take effect early next year unless Congress acts to forestall them.

Americans are hearing less negative news about the economy, according to a survey by the Washington-based Pew Research Center for the People & the Press conducted Oct. 4-7.

Of 1,006 adults surveyed, the share of people hearing mostly bad news fell to 28 percent this month from 35 percent in September. The percentage hearing mostly bad news about the labor market fell 10 points to 42 percent. Most of the interviews were conducted after the Oct. 5 jobs report.

Better-than-forecast economic news, along with stock-market gains, helps explain recent increases in consumer confidence.
Sentiment Index

The Thomson Reuters/University of Michigan preliminary index of consumer sentiment jumped in October to the highest level since September 2007, before the last recession began, a report yesterday showed. The index rose to 83.1 from 78.3 the prior month. The gauge was projected to fall to 78, according to the median forecast of 71 economists surveyed by Bloomberg News.

The Bloomberg Consumer Comfort Index registered minus 38.5 in the week ended Oct. 7, close to the prior week’s reading of minus 36.9, which was the highest in three months.

“Many of these other groups reporting the numbers aren’t necessarily in President Obama’s camp,” said Steve Jarding, a professor of public policy at Harvard University’s Kennedy School of Government in Cambridge, Massachusetts and a former Democratic consultant. “There’s no collusion out there. The realtors, the car dealers, their numbers aren’t trumped up.”

Welch, in a Wall Street Journal column this week, revisited his criticism of the jobs data.

“The coming election is too important to be decided on a number,” Welch wrote. “Especially when that number seems so wrong.”
Question Marks

“If I could write that tweet again, I would have added a few question marks at the end” in order to “make it clear I was raising a question,” he wrote. Still, he added, the dip in unemployment is “downright implausible.”

Since last September, the jobless rate has dropped 1.2 percentage points. The only election year in which unemployment fell more during the same period was Ronald Reagan’s 1984 re- election, according to the government’s records.

Election forecasters’ economic models differ on this year’s outcome. Moody’s Analytics says its model shows Obama winning with 303 electoral votes, while Ray Fair of Yale University in New Haven, Connecticut, says the race is simply “too close to call.”
Job Approval

At Emory University in Atlanta, Alan Abramowitz, a political science professor, has developed a model based on economic growth during the April-to-June quarter and presidential job approval in the Gallup Poll for the last three days of June. His model forecasts a 67 percent probability that Obama will be re-elected and projects a popular-vote victory margin of 1.2 percentage points.

Christopher Wlezien, a political science professor at Temple University in Philadelphia, said the direction of the economy is more important than any single number.

“This isn’t just one little piece of news, it’s a perception over time,” said Wlezien, co-author of the book “The Timeline of Presidential Elections.”

“This is a very close race,” he said. “We’re in a slightly good economy, so it’s a slight advantage for the president.”
It's a very tight race, no thanks to President Obama's poor showing during the first debate, but the truth is regardless of who wins, the US economic recovery is picking up steam, surprising the deepest skeptics.

I'm not surprised and think many investors reading bearish nonsense from blogs like Zero Edge, fearing the worst, were caught off guard. And it's not just retail investors falling dangerously behind. Hedge funds continue to lag the S&P in August, on track for yet another annus horribilis.

True, performance varies by strategy, and many fixed income hedge funds, especially structured credit funds, are performing fine, but the reality is that most hedge funds are not delivering anything close to what investors are expecting, charging hefty alpha fees for sub-beta performance.

But the gross underperformance of most hedge funds spells good news for equity investors. Why? Because they'll have to play catch-up, trying to avoid another calendar year of losses, which would mean they had lost money in three out of the past five years, according to HFR data. That's partly why US hedge funds are increasing their leverage, trying to make up some of the lag with passive indexes (not that it's helping; frustrated investors are cutting back on hedge funds).

The same goes for most active managers that are lagging their benchmark. They too need to crank up the risk or risk seeing redemptions from investors losing patience with underperforming funds. It has been my contention all along that investors overly concerned with developments in Europe, China and the US fiscal cliff, are neglecting the bigger picture picture, namely, global central banks will do whatever it takes to reliquify the financial system and reflate risk assets using any means necessary. 

Go back to read my comment on where top funds were investing in Q2. I told you that top funds were long financials, retail, and accumulating basic materials like copper, steel and coal. Never mind Friday's downgrade on US coal stocks, that's just more noise allowing top funds to load up some more (keep buying the dips on coal, copper, steel and mining shares).

Importantly, while most investors still have September 2008 etched in their mind, fearing another global meltdown, the real smart money has been scooping up distressed assets at bargain prices, including global real estate over the past few years.  

Ask yourself this, why are top fund managers ignoring the noise and delivering outstanding results? They're not using poor excuses on the 'uncertain macro environment' to explain away underperformance. They're focusing on the bigger picture, realizing what I've been warning of all along, that the real cliff lies with those worried of another global meltdown, failing to see the risks of another major melt-up.

Below, the Wall Street Journal’s Greg Zuckerman explains why hedge funds have become too big and too bearish. Mr. Zuckerman is too polite. If you ask me, I've never seen so many sheep in the investment management industry worried about career risk. It's going to be a bloodbath when all these sheep get slaughtered as this market continues to surprise everyone, climbing the wall of worry.