Click Here for this Week's Full Letter - February 17, 2015

Greetings,

          If Xi Jingping walked into your local convenience store, would you recognize him? Xi, the President of China, is two years into possibly the greatest power-play of the 21^st century. China’s anti-corruption campaign has already disciplined 180,000 party officials, and targeted several high-level officials – many of whom are rivals to the President. Notable takedowns include former “security” czar Zhou Yongkang and Bo Xilai, an ex-Politburo member, now serving life in prison. Both were clear opponents to the Xi faction.

          A government job in China used to be a breeze: minimal hours, little oversight and the opportunity to make big bucks through corruption. Now, post-crackdown, these positions are suddenly less appealing. In 2014, the 1.4 million candidates who signed up to take China’s civil service exam marked a drop of more than 100,000 from the previous year.

          The campaign is also spurring a growing number of Chinese citizens and corporations to send their money abroad. Last October, Anbang Insurance bought the Waldorf Astoria in New York for $1.95 billion. Many mainland private bankers are pitching investments that come with a passport.

          To nobody’s surprise, the movement has hit luxury markets the hardest. Chinese gold demand fell 38% Y/Y in 2014. Small gold bars, typically used to grease wheels, saw the greatest decline. Macau, the world’s largest gambling center, saw gaming revenues decline for the first time in over a decade. Revenues in December were down more than -30% Y/Y.

          The growing number of wealthy Chinese hiding their money abroad is accelerating capital outflows at a time when concerns about weaker growth are also making the Chinese currency less attractive. China’s foreign exchange reserves fell by $100 billion in the third quarter, the largest drop ever, despite a trade surplus and foreign direct investment inflows. This is a dramatic reversal from the heydays of QE in the US, when inflows reached $1 trillion.

          A Chinese slowdown is bad for global financial assets no matter how you look at it. A slowing China where paranoid insiders are sending their capital abroad is downright alarming. Our financial fate may lie in the powerful hands of President Xi.

          The Cup & Handle Fund gained roughly 1% last week, up 11% since inception. US stocks are back at all-time highs, but what else is new? Ostensibly the rally was caused by two separate deals in Europe. The first was a cease fire between Ukraine and Russia, while the second was a tentative agreement to restructure Greek debt. There’s almost no reason to believe either of these deals will stick, but investors don’t seem to care. The bull market in complacency shows no sign of abating. I sent out my February investment letter yesterday, which discusses how I’m playing the rebound in oil – if you’d like to start receiving these letters click here.

Today’s letter will cover several topics, including:

• Racing to Zero
• Risky-Bank
• Tesla Teeters
• Chart of the Week

With that, I give you this week's letter:

February 17, 2015

As always, if you have any questions or comments or just want to vent, please send me an email at mike@cup-handle.com.

Until next time, tread lightly out there,

Michael Lingenheld

Managing Editor – Cup & Handle Macro