“If money is your hope for independence you will never have it. The only real security that a man will have in this is a reserve of knowledge, experience, and ability.”
In Canada, today is more commonly known as Boxing Day. The origin of Boxing Day is believed to be in medieval England when servants, and those of lesser means, were given Christmas Boxes, which were filled with money and other small gifts. The boxes were given in appreciation for service throughout the year.
In much of the Commonwealth, Boxing Day is still a bank holiday even though the Commonwealth is largely independent of Great Britain. Across the current and former Commonwealth, the day has morphed from a day to recognize servants into becoming one of the most prominent shopping days of the year.
In addition, Boxing Day is another day to spend with one’s family and community. Personally, I am back in my small hometown of Bassano, Alberta, and have been enjoying every minute of it. In the Chart of the Day today, I’ve shown a picture of me with a few friends from our annual town hockey game with the growth in Canadian oil production over the last two decades graphed in the background.
Speaking of independence, as you can see from the chart, Canada has seen massive growth in its oil production over the last couple of decades. This growth has been primarily driven by accelerating production in non-conventional oil from Alberta’s oil sands. When combined with the fact that the United States is, as of last month, producing more oil than it imports, one can envision a future in which oil from the Middle East plays a much less significant role in Western economies.
Will there be a future of complete energy independence in the Western world? Certainly, the growing production in the U.S. and Canada is a hopeful sign. The other hopeful sign of course is the increasing efficiency of fuel consumption in motor vehicles (no irony that Henry Ford is in the opening quote). According to the Energy Information Administration in their most recent long term outlook:
“The decline in energy imports reflects increased domestic production of petroleum and natural gas, along with demand reductions resulting from rising energy prices and gradual improvement in vehicle efficiency. The net import share of total U.S. energy consumption is 4% in 2040, compared with 16% in 2012 and about 30% in 2005.”
Clearly, the path forward is one of increased energy independence in the United States and not less.
Back to the Global Macro Grind...
For those that measure annual performance, this year is all but in the bag with basically less than four trading days left in the U.S. stock markets. Either you made your bogey this year and beat your respective benchmark, or you didn’t. Regardless, the only move left this year is likely some tax loss selling.
In terms of global equity market performance, 2013 was certainly an interesting one. The top five performing global equity markets for the year were as follows:
- Venezuela +478%
- Dubai +102%
- Argentina +88%
- Abu Dhabi +58%
- Japan +56%
Now admittedly, playing some of the stock markets above are akin to going to our Gaming, Lodging and Leisure Sector Head Todd Jordan’s favorite American city, Las Vegas, and putting down your year-end bonus on the roulette table, but those are some juicy returns nonetheless.
On the flip side, of course, are the global equity market losers. Based on the markets we actively monitor, the top five worst performing equity markets in 2013 were the following:
- Peru -25%
- Ukraine -18%
- Brazil -16%
- Chile -15%
- Turkey -12%
The other story of haves versus have nots is the performance differential seen between hedge funds and traditional long only money managers. According to Absolute Return Magazine, the top performing hedge fund strategies from January through November of 2013 were distressed (up +13%), U.S. equity (up +13%), and event driven (up +12%). While positive, this performance certainly pales in comparison to the return of the SP500 500, which is already up 29% for the YTD and the MSCI world index up 23% for the YTD.
Domestically, sector allocation was likely one of the more significant drivers of outperformance. Of the nine major U.S. equity stock market sectors, the outperformance between the top performing sector of Consumer Staples and the worst performing Sector of Utilities was more than 2,000 basis points. Simply getting the allocation to those two sectors correctly weighted, would have made an equity manager’s year.
Speaking of style factors and hedge fund returns, one key reason for the relative underperformance of the hedge fund industry is the relative out performance of high short interest stocks. According to our U.S. Style Factor Performance Monitor, a report published by my colleague Darius Dale, high short interest stocks (so the 10% of U.S. stock with the highest short interest) are up almost +42% in 2013. Obviously, the short book going up more than long book is a tricky recipe for any long / short hedge fund.
We are going to continue to hammer on the importance of getting style factors and sector allocations correct in 2014. As noted, simply avoiding the most underperforming sectors or style factors would have been a boon for anyone’s personal or professional portfolios in 2013.
As rates continue their upward climb, fixed income and bond portfolios should be the focus for any asset allocators. Historically, gentleman, and retirees have preferred bonds, but as the proverbial Queen Mary of global macro factors turns (interest rates), a factor to consider is underperformance in bond markets. Specifically, as The Wall Street Journal today notes, the Barclay’s muni-bond index is down -2.6% on the year. One thing I know for sure, bonds rarely trade independent of interest rates.
Our immediate-term Global Macro Risk Ranges are now:
UST 10yr Yield 2.90-2.99%
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research
TODAY’S S&P 500 SET-UP – December 26, 2013
As we look at today's setup for the S&P 500, the range is 43 points or 1.71% downside to 1802 and 0.64% upside to 1845.
CREDIT/ECONOMIC MARKET LOOK:
- YIELD CURVE: 2.58 from 2.58
- VIX closed at 12.48 1 day percent change of -4.29%
MACRO DATA POINTS (Bloomberg Estimates):
- 8:30am: Jobless Claims, Dec. 21 (prior 379k), est. 345k
- 9:45am: Bloomberg Consumer Comfort, Dec. 22 (prior -29.4)
- 10am: Freddie Mac mortgage rate survey
- Senate out of session until Jan. 6; House returns Jan. 7
- President Obama, First Family on vacation in Hawaii
WHAT TO WATCH:
- UPS misses some Christmas deliveries; AMZN offers refunds
- Turkey’s Erdogan overhauls cabinet amid graft probe
- Target seen losing customer loyalty after credit-card breach
- BlackBerry founder Lazaridis walks away from possible deal
- Volcker Rule challenged in U.S. court by bank industry group
- U.S. Postal Service wins temporary 6% rate increase request
- Apollo said to win approval to lift fund limit to $17.5b
- Alibaba unit wins license to compete in China wireless mkt
- Japan banking regulator seeks authority over Tibor rate
- Softbank to raise funds for T-Mobile deal in U.S.: Nikkei
- Abe draws China ire w/ visit to Japan’s Yasukuni war shrine
- Batista cedes control of OGX oil co. in $5.8b debt deal
- NOTE: Most European, Canada equities mkts closed today
- No earnings expected
COMMODITY/GROWTH EXPECTATION (HEADLINES FROM BLOOMBERG)
- Platinum Climbs to One-Week High as Gold Holds Above $1,200
- Copper Gains as Economic Growth May Lift Industrial Metal Demand
- Bug Bites Cut Florida Orange Crop to Two-Decade Low: Commodities
- China’s Soybean Demand May Rise Amid Scrutiny of DDGS Imports
- WTI Crude Little Changed Amid Low Volumes on U.K. Boxing Day
- Palm Oil Climbs to Two-Week High as Output May Drop in Malaysia
- Rebar in Shanghai Closes Near Five-Week Low as Inventory Climbs
- WTI-Brent Squeezed in December, Though Above 2013 Lows: BI Chart
- Red Kite Metals Fund Gains More Than 40%, Telegraph Reports
- Iraq Seeks to Buy 30,000 Metric Tons of Rice: Ministry
- BTG Grows in Commodities as Big Banks Retreat: Corporate Brazil
- Russia Seeks Belarusian Gasoline to Cover Peak Demand in 2014
- Batista Cedes Control of Oil Explorer in $5.8 Billion Debt Deal
- China Said to Increase Scrutiny of U.S. Imports for GMO Corn
The Hedgeye Macro Team
This note was originally published at 8am on December 12, 2013 for Hedgeye subscribers.
“I’d rather be dumb and antifragile than extremely smart and fragile”
The hyperbole of that quote is that Taleb thinks he’s extremely smart. I’m definitely dumber than he is. So I guess he’d agree that I should never hire him to do what I can do better myself – manage real-time market risk. It’s a great job for a dumb hockey player.
Back to the Global Macro Grind…
The reason why I thought of Taleb this morning is that I was thinking about volatility. To his credit, he was one of the first to write about risk managing volatility from a market practitioner’s perspective. That doesn’t mean I agree with everything he wrote.
In terms of how we measure market entropy in real-time (multi-factor, multi-duration), yesterday was a one of the few critically bearish signal days for the US stock market.
To boil that down to 3 basic factors in our model (Price, Volume, and Volatility):
1. PRICE – SP500 A) failed to make a higher-high versus the 1808 all-time closing high and B) broke 1785 TRADE support
2. VOLUME – was +13% versus my immediate-term TRADE duration average (1st mini-volume spike on a down price move)
3. VOLATILITY – front-month VIX broke out above @Hedgeye intermediate-term TREND resistance of 14.91
This has never happened before (because the SP500 has never been at this all-time closing high before). But historically, countries, currencies, companies (anything with a ticker) do this frequently. And when they do, I respect Mr. Macro Market’s signal.
What is a bearish immediate-term signal @Hedgeye?
1. PRICE = down
2. VOLUME = up
3. VOLATILITY = up
1. PRICE = up
2. VOLUME = up
3. VOLATILITY = down
… is a bullish immediate-term signal @Hedgeye (especially when it’s happening within a bullish intermediate-term TREND).
Sure, I have been buying-the-damn-bubble #BTDB pretty much all year – but while I covered a couple of oversold shorts like CAT yesterday, I didn’t buyem on the long side. An intermediate-term TREND breakout in volatility is the #1 reason for that.
Are there tangible risk factors that could perpetuate an intermediate-term TREND move in US Equity Volatility back towards 20 on the VIX? Big time. Here are some behavioral ones that I discussed with clients in NYC yesterday:
1. VIX has been making a series of higher-lows since AUG as the Fed started to confuse with Taper-on/Taper-off in SEP
2. The average “net long” positioning of the hedge fund community is testing its all-time high zone of +60% again
3. The II Bull/Bear Spread just blew out to fresh 5 year highs of +4390 basis points to the BULL side
That last point is one of the more fascinating migrations I have seen in my career. To put a 44% spread between bulls and bears in context, that II Bull/Bear Spread was only +1710 basis points wide in the 1st week of September 2013.
Early September – that’s when people may have claimed to be “bullish” but they certainly weren’t positioned Bullish Enough. All this market needed to scare the hell out of the pretend bulls was a VIX rip to 17 in late August.
If the VIX goes to 17-18 tomorrow, people who are buying-the-damn-bubble #BTDB will get killed. So, if you have been in the habit of doing the buy on red, sell on green #GetActive thing, you want to be more careful buying now than you were last week.
How about fundamental research factors that could turn bearish in the next 1-3 months?
1. US Dollar being devalued and debauched (no-taper) towards its YTD lows
2. US GDP #GrowthSlowing from its cycle high of +3.6%
3. Down Dollar = Up Yen = Down Nikkei (another thing people didn’t enjoy in late AUG)
Rather than making up my own academic sounding word like antifragile, I’ll call managing real-time market risk this way what it is – being mentally flexible. If you can Embrace Uncertainty every market day, you might feel less dumb every once in a while too.
Our immediate-term Global Macro Risk Ranges are now:
UST 10yr yield 2.76-2.91%
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer
This note was originally published at 8am on December 11, 2013 for Hedgeye subscribers.
“Time destroys the speculation of men, but it confirms nature.”
Marcus Tullius Cicero was a Roman philosopher, politician, lawyer, orator, political theorist, and constitutionalist (no word on whether he played hockey). His impact on the Latin language was so deep that the history of prose in both Latin and European languages, up until the 19th century, is said to be either a reaction against or a return to his style. To use a sports analogy: he was an impact player.
Like many of you, I tend to tune out much of the main stream media, but I did catch myself watching a little bit of CNBC yesterday. Interestingly, it actually made me realize that the buy side, sell side, and media are arguing with many of the same platitudes on the topic of tapering. In short, no one has conviction or a strong insight. Or certainly, unlike Cicero, their views are not having an impact.
In the land of bonds, of course, Bill Gross from PIMCO is widely considered to be the impact player. And rightfully so, as PIMCO manages over $2 trillion in assets and is the world’s largest bond investor. Even if we don’t agree with PIMCO’s research or views, there can be no debate that the firm has the ability to impact asset prices in a meaningful reallocation.
So, what is the latest from the big bond boys on the taper? Well, this is what Gross wrote in his most recent monthly letter (which is usually a fun read by the way!):
“The taper will lead to the elimination of QE at some point in 2014, but the 25 basis point policy rate will continue until 6.5% unemployment and 2.0% inflation at a minimum have been achieved. If so, front-end Treasury, corporate and mortgage positions should provide low but attractively defensive returns.
We have positioned our bond wars portfolio – heavily front-end maturity loaded along with credit, volatility and curve steepening positions, with the aim of outperforming Vanguard as well as many other active managers.”
In part, especially given PIMCO’s sizeable position, Gross’s job is to influence and ensure the bond market doesn’t shake, rattle, or roll in any direction that isn’t beneficial to PIMCO. If you are Gross, you certainly want the incremental buyer to be focused on mortgage backed securities.
Currently, $40 billion of the Fed’s monthly purchases are in the MBS market. In aggregate, this is more than half a trillion in annual purchases of mortgage backed securities. The impact of multiple rounds of QE has been that the premium of Agency MBS over Treasuries has narrowed by some ~50 basis points from pre-QE to post-QE.
Given that 34% of PIMCO’s Total Return Fund are in agency MBS, there is some serious interest rate risk in that position. By our estimation, a 50 basis point move in the spread of Agency MBS has the potential to lead to 5% downside in price. To the extent that 34% of PIMCO’s “book” has the potential to be marked down 5%, that is a big deal for PIMCO and the associated market.
Reflexively, if PIMCO were to underperform, they would then be forced to liquidate MBS positions as investors exited their funds. In turn, this would amplify any move in price. A mass exit of PIMCO would be an “Aye Carumba” moment in the MBS market to be sure.
Back to the Global Macro Grind…
On the longer end of the curve, specifically 10-year yields, tapering is getting somewhat priced in. In the Chart of the Day, we show this graphically by comparing 10-year yields, to the Fed Funds rate, to the Federal Reserve balance sheet. As the chart below shows, 10-year yields are now back at a level not seen since early 2011, which pre-dated QE Infinity (i.e. the open ended purchases that began in September 2012).
In the hypothetical world where 10-year rates actually get priced based on economic fundamentals, the current spread of 2.6% between the 10-year yield and the Fed’s discount rate may not be far off reality. For context, the average spread between the two over the last decade was about 1.7% and since 1954 0.54%. Certainly, the 100 basis points widening of this spread over the last year is indicative of some level of tapering being priced in.
This all leads to an interesting question: will tapering be a ‘sell the news’ moment for 10-year yields? That’s a question I’ll leave to the speculators and those that need to protect their book to answer...
One point that many pundits don’t seem to be talking about is that a decline in tapering will be positive for the U.S. dollar. This is further supported by a point we have been highlighting consistently, which is that the Federal deficit has been narrowing. In the fiscal year ending 2013, the federal deficit was below $1 trillion for the first time since 2008.
This improvement continued into this fiscal year as the deficit in October was -$91.6 billion, an improvement of 24% year-over-year. The Treasury will release November’s budget numbers at 2pm and we would expect similar improvement. In addition to this budget improvement, the fact that Congress seems to actually be functioning should also bode well for the U.S. dollar.
In fact, last night the House and Senate announced a two year budget deal. Even if the deal isn’t ideal, thankfully our elected officials are at least getting out of the way and signaling to the world that they can functionally manage the country. From a deficit perspective, there will be $63 billion in increased spending (sequester relief) over the next two years, but that shouldn’t impact the continued narrowing of federal budgets. It’s amazing what our elected officials can accomplish when they get out of the way.
Just imagine what would happen if the un-elected officials at the Fed got out of the way, the strong dollar American growth story would be fully in play!
Our immediate-term Risk Ranges are now:
UST 10yr Yield 2.75-2.82%
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research
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