This note was originally published
at 8am on July 11, 2011.
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“There are times when it’s important to invest cautiously, and there are times when it’s important to invest aggressively… A big part of the job is knowing where we are and choosing between those two.”
Howard Marks is one of the world’s top Risk Managers primarily because he doesn’t have an investment mandate that doesn’t allow him to change. If you can manifest the change you want to see in this industry into your risk management style, I think you can win.
The aforementioned quote is one of the many winner’s quotes you’ll find from Marks. It came at the end of an excellent Bloomberg article by Gillian Wee titled “Biggest Distressed Debt Investor Marks Europe After 22 years of 19% Return.”
Whether we like it or not (I personally love it), Timing Markets matters – big time. Whether it’s on the long or short side of what you think is a great research “idea”, try putting real risk capital on the line for a decade or more across cycles and you’ll quickly realize this lesson the hard way – there is a huge difference between great research and great risk managed research (timing).
Back to the Global Macro Grind…
After a massive 2-week melt-up across Global Equities, last week ended on a stinky note. By the time it was all said and done, commodity inflation was up a lot more than US stock market inflation last week; and with US style Jobless Stagflation compounding the stinky-ness of it all, the US Equity futures don’t like it this morning either.
Reviewing the week-over-week moves where it matters on this front, here’s what happened last week:
- US Dollar Index = UP +1.1% to $75.18
- Euro/USD = DOWN -2.1% to $1.42
- CRB Commodities Index = UP +2.1% to 343
- West Texas Crude Oil = UP +1.2% to $96.20
- Gold = UP +4.0% to $1541
- Copper = UP +2.6% to $4.41
- SP500 = UP +0.3% to 1343
- UST 2yr Yields = DOWN -17% to 0.39%
- UST 10yr Yields = DOWN -5% to 3.03%
- Yield Spread (10s minus 2s) = DOWN 7 basis points to +264bps wide
What’s a little squirrely about those 10 moves is that we saw Commodity Inflation in the face of a strong US Dollar. That’s a TRADE though and not the TREND. The intermediate-term TREND that we have been calling for since April has been a Deflating Of The Inflation (Q2 Hedgeye Macro Theme). That’s predominantly driven by a series of higher-lows in the US Dollar Index.
Whether it was the 2008 strengthening of the US Dollar or the May-July 2010 period, carry traders of the US Dollar inspired Inflation Trade don’t particularly like it when that happens. Why? Well that’s easy – Timing Markets gets a lot harder when you can’t bank on the Fed bailing you out with another Dollar Devaluation policy. Got an imminent catalyst for QG3?
In terms of the Debt Ceiling debate finding a July compromise and QG2 (Quantitative Guessing Part Deux) ending at the end of June, our call has been that for the first time in a long time both US monetary and fiscal policy have bullish US Dollar catalysts.
We’ll see if this holds, but the odds are that as Silvio Berlusconi shifts his focus from hot-tubbing to going after the “speculators” in Italy, the Euro should be under duress inasmuch as the US Dollar searches for Waldo. Remember, Timing Markets matters – and to get the US Dollar right, you need to get the Euro right.
If you change the duration of the thesis, I can give you a different “research” call for almost everything I am looking at right now. The tricky thing about markets is that they couldn’t care less about the duration of my thesis. I used to get upset about it – now I just deal with it.
In terms of positioning for the intermediate-term TREND, I think Deflating The Inflation and a Strong US Dollar is constructive for US, Chinese, and German equities, from a price.
Here’s how I am currently positioned from a Global Macro perspective in the Hedgeye Asset Allocation Model:
- Cash = 49% (down 3% week-over-week as I add exposure to Global Equities)
- International Equities = 21% (China, Germany, Sweden and S&P International Dividend ETF – CAF, EWG, EWD, and DWX)
- Fixed Income = 18% (US Treasury Flattener – FLAT)
- US Equities = 6% (Healthcare – XLV)
- International Currencies = 6% (Canadian Dollar – FXC)
- Commodities = 0%
From a timing perspective, I risk managed getting long both Chinese Equities (CAF) and the US Treasury Flattener (FLAT) well. Both of these positions are good examples of expressing a “research” view with solid risk management (timing).
As US growth slows, I wanted to express Growth Slowing by being long the compression of the US Treasury Yield Curve. As global growth slows, I wanted to buy the best major growth market in the world (China) while it’s on sale.
That’s not to say I haven’t made my fair share of timing mistakes. Two weeks ago I sold my Gold (GLD) position as I thought rising US Treasury Yields could deflate the gold price (historically, that’s when gold underperforms –when real-interest rates are negative). This morning, after the train wreck (9.2% US unemployment), US Treasury Yields are falling again, and Gold is rising (as it should).
No one said Timing Markets is easy. But “there are times when it’s important to invest cautiously, and there are times when it’s important to invest aggressively”, and I’ve made it my firm’s responsibility to be thought leaders on the front lines of these Global Macro debates.
My immediate-term support and resistance ranges for Gold, Oil, and the SP500 are now $1526-1547 (no position in GLD), $91.10-96.93 (we’re short OIL), and 1324-1363 (no position in SPY), respectively.
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer