Editor's note: What follows below is a brief complimentary excerpt from Hedgeye's "Morning Newsletter" which is sent out weekday mornings before 9:00am. While Hedgeye CEO Keith McCullough typically writes these newsletters, periodically another member of our team jumps in and offers up our latest thoughts. This morning's note was written by Daryl Jones, Director of Research. To learn how you can subscribe please click here.)
Former Harvard President Larry Summers made a big decision late Sunday to withdraw his name from consideration to replace current Federal Reserve Chairman Ben Bernanke. Now technically speaking, the fact that five Democrats intended to vote against him in committee kind of forced his hand, but nonetheless a decision was made.
In the short run, Mr. Market viewed this development as somewhat positive as stocks were up broadly with the SP500 up 0.57%. (Strangely, the bell weather master limited partnership, Kinder Morgan Partner (KMP), underperformed and was down -1.50%.) President Obama then chose to come out and spoil the Wall Street party as Obama indicated he will not negotiate an extension of the U.S. debt ceiling as part of the budget fight.
Slight digression, yes the debt ceiling debate is looming again. As Yogi Berra said, this is déjà vu all over again. You may recall, in 2011 Congress raised the debt ceiling to $16.7 trillion, an increase of over $2 trillion. Currently, based on projections from the Treasury department, the federal government could hit the debt ceiling as soon as mid-October.
In the chart of the day, we highlight a chart from the Bipartisan Policy Center that shows that the debt ceiling is likely to be breached to between October 18th to November 5th. Technically speaking, the United States hit its debt limit on May 19th, but as my colleague Christian Drake has written about, via a number of extraordinary measures, the ceiling has been extended, but these measures will run out at some point in the time frame noted above at which point the federal government will only have enough tax revenue to cover about 68% of its bills.
Incidentally, and for those that don’t have their calendars in front of them, the “X-date” is just over a month away. And just think, most investors are worried about who is going to be the next Chairman / Chairperson of the Federal Reserve! Given the uncertainty around the direction of policy, a looming fiscal crisis, and the fact that U.S. equities have performed quite well in the year-to-date, it should be no surprise that some savvy investors like Stan Druckenmiller are indicating they are largely underinvested.
We certainly get the risks, but one point that has and will continue to benefit equities, is bond outflows. Since May we have seen $116 billion fixed income fund outflows, which is the largest absolute bond outflow in history.
Interestingly though, as our Financials team pointed out yesterday, as a percentage of beginning fixed income assets-under-management, the current 2013 draw down is the smallest in history on a percentage basis. The 2013 running outflow has been just 2.9% of outstanding bond funds, well below the past outflows in 2003-2004 where 5.0% of outstanding bond funds were redeemed and the 14% of bond funds that were drawn down in the 1994-1995 outflow. So while there are certainly risks looking for equities, the continuation of bond outflows will be a meaningful tailwind.