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WHERE WILL EQUITY ALPHA COME FROM IN 1H14?

Takeaway: Stay with what’s been working from a style factor perspective, but be mindful of likely leadership rotations at the industry level.

CONCLUSIONS: In the note below, we highlight the key takeaways from six different analyses that will help portfolio managers appropriately allocate capital over the intermediate term.

 

  1. Quantitative risk management levels;
  2. Style factors – narrow focus;
  3. Style factors – broad focus;
  4. Hedgeye Macro GIP Model historical backtest results;
  5. Industry and sub-industry momentum; and
  6. Relative valuation.

We consider our primary responsibility to be the consistent identification of the most important top-down trends that will have an outsized impact on your P&L – be it from a beta, alpha or draw-down risk perspective. The vast majority of the time our efforts are focused on getting the directional component of market beta right, as well as trying to front-run meaningful drawdown risk(s).

Often times, we tend to help our subscribers generate alpha by simply having the correct non-consensus call on beta (e.g. our 2013 US equity bull case) or by helping them avoid the stuff that is blowing up (e.g. our 2012-13 gold and commodity bear case). #Alpha via happenstance, if you will.

Today, however, we’re applying a more proactive approach to the search for alpha. Sourcing analyses from a host of proprietary quantitative tools, we think over at least the next 3-6M US equity market alpha will be found by employing the following strategies:

1) Stay long of market beta, fading the top end of Keith’s immediate-term risk range and Buying the Damn Bubble (#BTDB) at the low end of said range. CLICK HERE for our latest S&P 500 risk management levels note.

2) Continue to be overweight low dividend-yielding stocks and underweight high dividend-yielding stocks as long-term interest rates continue to make a series of higher-highs and higher-lows amid pervasive bond fund outflows.

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - MACRO Indicator

3) High growth stocks continue to outperform across all noteworthy durations, and investors would do best to position for a continued widening of the spread between high-growth stocks – on both LT EPS growth expectations and NTM sales growth expectations – and low-growth stocks, as well as for a continued widening of the spreads between high-rated stocks and low-rated stocks and low debt stocks and high debt stocks. The relative performance of the aforementioned style factors since the DEC 9th bottom in domestic inflation expectations (via 5Y breakevens) has generally confirmed prevailing trends. Lastly, the spread between high beta stocks and low beta stocks has actually been accelerating of late and we think investors should capitalize on this momentum accordingly.

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - S P 500 Style Factor Divergence Monitor

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - Taper  1

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - Taper  2

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - Beta

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - Consensus Rating

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - Debt

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - Dividend Yield

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - EPS

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - Insider Ownership

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - Market Cap

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - Sales Growth

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - Short Interest

4) Consider overweighting the Internet Retail, Semiconductor Oil & Gas Drilling and Biotech GICS Level 4 Industries and underweighting the Trucking, Tires & Rubber, Home Furnishings and Department Stores GICS Level 4 Industries as the US economy moves into a state of #InflationAccelerating (i.e. either Quad #2 or Quad #3 on our GIP model).

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - UNITED STATES   YoY

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - Quads  2 and  3

5) Those focused on long/short, absolute return strategies are likely to do well by pairing off the following GICS Level 4 Industries:

  • Long ideas (ranked according to highest-to-lowest VAMDMI score*):
    • Education Services
    • Electronic Equipment & Instruments
    • Health Care Equipment
    • Other Diversified Financial Services
    • Airlines
    • Casinos & Gaming
    • Life Sciences Tools
    • Regional Banks
    • Cable & Satellite
    • Aluminum
  • Short Ideas (ranked according to lowest-to-highest VAMDMI score*):
    • Food Retail
    • Tobacco
    • Trading Companies & Distributors
    • Electric Utilities
    • Computer & Electronics Retail
    • Personal Products
    • Household Products
    • Oil & Gas Equipment Services
    • Wireless Services
    • General Merchandise Stores

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - VAMDMI

6) From a valuation perspective, the Footwear, Retailing, Specialty Retail, Apparel Retail, Home Improvement Retail, Food Retail, Distillers & Vintners, Research & Consulting Services, Data Processing & Outsourced Services, Application Software and Gas Utilities industries and/or sub-industries are all grossly overvalued from a structural perspective (i.e. relative to their respective trailing 10Y average Price/NTM Earnings and EV/NTM EBITDA multiples).  

The market has been straight-up-and-to-the-right for over a year now, so there’s not a ton value out there for those looking to load up on “cheap” names. That said, however, we do flag the Oil & Gas Drilling, Oil & Gas Equipment Services, Technology Hardware & Equipment and Communications Equipment industries and/or sub-industries as being relatively undervalued from a structural perspective (i.e. relative to their respective trailing 10Y average Price/NTM Earnings and EV/NTM EBITDA multiples).  

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - IDM  1

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - IDM  2

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - IDM  3

WHERE WILL EQUITY ALPHA COME FROM IN 1H14? - IDM  4

Feel free to ping us with any follow-up questions or if you’d like a list(s) of the specific tickers comprising any of the aforementioned industries and/or sub-industries. As always, we’re here to help.

Have a great evening,

DD

Darius Dale

Associate: Macro Team

VAMDMI SCORE EXPLANATION

VAMDMI is short for “Volatility-Adjusted, Multi-Duration Momentum Indicator”. The VAMDMI score is derived by calculating three independent z-scores of closing price data on a weekly basis and then calculating the arithmetic mean of this sample.

  • Short-term z-score: 1-3M sample
  • Intermediate-term z-score: 3-6M sample
  • Long-term z-score: 6-12M sample

Each independent sample size is determined dynamically by prevailing trends in US equity market volatility. Specifically, if the VIX Index is making lower-lows on an intermediate-term basis, then each of the sample sizes are larger in duration; if the VIX Index is making higher-lows on an intermediate-term basis, then each of the sample sizes are smaller in duration.