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The Fed's First Cousin

“Yeah, my wife is my cousin or whatever, but it’s not like what you think.”

-Donnie Azoff

 

In The Wolf of Wall Street, Donnie (whose real name is Danny) is a beauty of a storyteller. In real life, Danny was convicted of securities fraud and money laundering. And, yes, he married his cousin.

 

Jordan Belfort: “Is she like your first cousin?”

 

Donnie Azoff: “Her father is the brother of my mom… and she grew up hot.”

 

The Fed's First Cousin - don1

 

Back to the Global Macro Grind

 

Hot, as in inflation. Yep, but if you ask the sheep at the Fed, it’s not like what you think. Even though commodity inflation accelerated to fresh YTD highs yesterday (CRB 19 component Commodities Index = +11.4% YTD), it’s sort of like the cousin thing.

 

You see, as long as the Fed doesn’t call it what it is, you and I can keep making money buying it. In the meantime, just don’t tell 80% of Americans that they are getting it “jammed down their throat” (Jordan Belfort told his brokers to do that with Steve Madden’s stock):

 

  1. CRB Food Index up another +2.1% this week = +22.8% YTD
  2. Nickel +2.7% this week = +32.3% YTD
  3. Gold +3.1% this week = +9.1% YTD

 

I know. I know. You can’t eat Gold. But instead of whining about it on down days in 2014, you can certainly buy it!

 

Reality is that very few of the world’s savants made Gold one of their top Global Macro LONG positions in 2014. It’s still nowhere in the area code of consensus. And yesterday it broke out above @Hedgeye immediate-term TRADE resistance of $1285/oz.

 

How high can Gold go?

 

  1. If we’re right and the inflation-accelerating-slows US growth setup is similar to 2011, Gold can go a lot higher
  2. From an immediate-term TRADE perspective, the new risk range is $1/oz
  3. From an intermediate-term TREND standpoint, $1381 is resistance

 

Put another way:

 

  1. Gold has immediate-term upside of +2.1%
  2. Gold has intermediate-term upside to +14.9% YTD

 

That sure as heck beats being long something that is going to keep getting eaten by the Fed Policy To Inflate. US Consumer Discretionary stocks (XLY) are down -0.43% YTD. And, all things considered,  being levered long to the recent edition of the US #HousingSlowdown pretty much sucks wind right now too.

 

Where the real pin action has been since the Fed cut its US Growth estimates on Wednesday is in:

 

  1. INFLATION stocks like Energy (XLE) +13.43% YTD
  2. SLOW-GROWTH #YieldChasing stocks like Utilities (XLU) +16.13%

 

But, whatever you do… and no matter what you hear from Consensus Macro… don’t call any of these investment Style Factors inflation’s cousin.

 

Jordan Belfort: “I heard some stupid $h-t. I … I didn’t even want to bring it up. It’s just stupid.”

 

Donnie Azoff: “$h-t with me?”

 

Jordan Belfort: “You know, just… people say $h-t. I don’t even know. I don’t even listen to it…”

 

Donnie Azoff: “What do they say?”

 

When an un-elected-central-planner devalues the Dollar, it’s inflation, stupid.

 

Our immediate-term Global Macro Risk Ranges are now:

 

UST 10yr Yield 2.47-2.67%

SPX 1

RUT 1155-1189

USD 80.28-80.63

Brent 112.12-116.42

Gold 1

 

Best of luck out there today and have a great weekend,

KM

 

Keith R. McCullough
Chief Executive Officer

 

The Fed's First Cousin - Chart of the Day


THE HEDGEYE DAILY OUTLOOK

TODAY’S S&P 500 SET-UP – June 20, 2014


As we look at today's setup for the S&P 500, the range is 37 points or 1.66% downside to 1927 and 0.23% upside to 1964.                                                 

                                                                              

SECTOR PERFORMANCE

 

THE HEDGEYE DAILY OUTLOOK - 1

 

THE HEDGEYE DAILY OUTLOOK - 2

 

EQUITY SENTIMENT:

 

THE HEDGEYE DAILY OUTLOOK - 10

 

CREDIT/ECONOMIC MARKET LOOK:

  • YIELD CURVE: 2.19 from 2.17
  • VIX closed at 10.62 1 day percent change of 0.09%

 

MACRO DATA POINTS (Bloomberg Estimates):

               

• No major economic reports scheduled

• 1pm: Baker Hughes rig count

 

GOVERNMENT:

    • House in session; Senate schedule TBA
    • President Obama meets with New Zealand PM John Key
    • SEC Chairman Mary Jo White speaks at Economic Club of N.Y.
    • 9am: House Judiciary hearing on net neutrality/antitrust law, w/FTC Commissioner Joshua Wright
    • 9am: House Ways/Means Cmte hearing on IRS treatment of tax-exempt orgs.
    • 9am: House Maj. Whip Kevin McCarthy, Rep. Paul Ryan, N.J. Gov. Chris Christie speak at Faith and Freedom Coalition
    • 9:30am: House Nat. Resources panel  Nat. Gas Gathering Enhancement Act (H.R. 4293), Energy Infra. Improvement Act (H.R. 1587)
    • 9:30am: House Veterans’ Affairs Cmte hearing on Sr. Exec. Service performance subpoena

               

WHAT TO WATCH:

  • Shire rejects AbbVie’s $46.5b takeover bid as too low
  • Siemens lifts Alstom Energy bid to $19.9b, defying GE
  • Obama sending advisers to give Iraq time to form govt.
  • Energy Transfer “high level” talks to acquire Targa terminated
  • BofA must face U.S. suit claiming mortgage-securities fraud
  • Oracle sales, profit miss estimates amid transition to cloud
  • Icahn urges Family Dollar CEO to seek sale “immediately"
  • Revel casino files for bankruptcy, seeking savior at auction
  • U.K. May budget deficit little changed after 1-time 2013 boost
  • NYC Fifth Avenue tower sells to Thor-led group for $595m
  • Verizon said meeting with Dish on possible spectrum sale: NYPost
  • U.S. GDP, Housing Data, Nike, Wimbledon: Week Ahead June 21-28

 

EARNINGS:

    • CarMax (KMX) 7am, $0.67
    • Darden Restaurants (DRI) 7am, $0.94

 

COMMODITY/GROWTH EXPECTATION (HEADLINES FROM BLOOMBERG)

  • Gold Options Signal Sustained Rally as Yellen Shakes Out Boredom
  • Brent Heads for Second Weekly Gain on Iraq Violence; WTI Steady
  • China Miners’ Loss Is BHP Gain as Iron Slumps 44%: Commodities
  • LNG Rally Fading on New Supply as Nukes Set to Restart: Energy
  • Copper Gains Most in Three Weeks as Zinc Trades at 16-Month High
  • Gold Falls With Rally Seen Overdone as Investors Close Positions
  • Soybeans Slide on Expectation U.S. Farmers Expanded Planting
  • Asia’s WAF Purchases for July Stable; Nigerian Imports to Rise
  • Digital Shipping Platforms Cutting $684 Million Errors: Freight
  • Rising German Coal Use Imperils Emissions Deal: Carbon & Climate
  • Kansai Electric Said to Agree With Cheniere to Purchase U.S. LNG
  • RBI, Finance Ministry Said to Work on Iran Oil Payment Process
  • Energy Traders Pay More Than 100 Million Euros to Meet New Rules
  • China Metal Probe to Push Copper to LME Depots: Chart of the Day

 

THE HEDGEYE DAILY OUTLOOK - 5

 

CURRENCIES


THE HEDGEYE DAILY OUTLOOK - 6

 

GLOBAL PERFORMANCE

 

THE HEDGEYE DAILY OUTLOOK - 3

 

THE HEDGEYE DAILY OUTLOOK - 4

 

EUROPEAN MARKETS

 

THE HEDGEYE DAILY OUTLOOK - 7

 

ASIAN MARKETS

 

THE HEDGEYE DAILY OUTLOOK - 8

 

MIDDLE EAST

 

THE HEDGEYE DAILY OUTLOOK - 9

 

 

The Hedgeye Macro Team

 

 

 

 

 

 

 

 

 

 

 

 

 


ALL-TIME HIGHS: Can Livestock and Poultry Prices Go Higher?

We continue to field arguments against the inflationary read-through on the commodity squeeze. Sharp increases in livestock and poultry prices over the last ten years in the face of stagnant wage growth, a decline in savings rates, and a declining U.S. dollar illustrate this reality in staggering fashion.

 

If Janet Yellen’s commentary yesterday is any indication, the fed will continue to promote yield-chasing from financial intermediaries and those lucky enough to hold equities and fixed assets. The PCE survey from the BLS reports the top quintile of income earners takes 66% of the aggregate income in the basket from interest, dividends, and investment related income. Needless to say, a majority of Americans consume meat.

 

2013 Meat Consumption Per Capita (KG/Person):

  • United States: 106.9
  • China: 53.5
  • World Average: 34.9

The average consumer we have continuously highlighted is reaching insolvency. Median net income margins have consistently compressed over the last five years to about 1.38% with savings rates decreasing over the same period.

 

Last Ten Years:

  • USD Index: -9.8%
  • Trailing 1-year U.S. Personal Savings Rate: -9%
  •  S&P GSCI Livestock Index: +69%
  • U.S. Private Sector Avg. Hourly Earnings (Real): -43% 

 

ALL-TIME HIGHS: Can Livestock and Poultry Prices Go Higher? - 10 year chart usd vs. gsci vs. savings rate

 

A survey from both the USDA and the University of Oklahoma’s Department of Agricultural Economics this week provide evidence that people are eating the higher price tags (adding to the pain, they drove to the store --> WTI and Brent hovering at 9-month highs).

  • “This month’s survey shows consumers are willing to pay 11-35% more for steak, pork chops, and chicken wings"

-       Food Demand Survey from the University of Oklahoma’s Department of Agricultural Economics

 

  • The USDA’s Weekly Retail Beef Feature Activity Report highlighted a sharp decline in the number of food retail outlets featuring beef

 

ALL-TIME HIGHS: Can Livestock and Poultry Prices Go Higher? - 10 yr. price chart

 

Last Ten Years:

  • Live Cattle: +71%
  • Lean Hogs: +65%
  • Chicken Breast: +40%

 

 ALL-TIME HIGHS: Can Livestock and Poultry Prices Go Higher? - 06.19.14 Performance Table

 

Disease or not contributing to the advances YTD, this kind of headline inflation is tangibly relevant on the wallet. Unfortunately most people were not granted the opportunity to add to their inflation hedges out of the FOMC statement yesterday where the Fed provided a downward revision to its 2014 GDP estimate for the SEVENTH year in a row:

  • Headline CPI printed at +0.4% Tuesday vs. +0.2% expected (Inflation surprises)
  • Full-year growth estimates cut to 2.1-2.3% from 3% at the Fed (coincident response as growth misses)
  • 16 of 19 commodities in the CRB in positive territory on the year (prospect for future dollar devaluation increases; dollar down, cost of living up)

 ALL-TIME HIGHS: Can Livestock and Poultry Prices Go Higher? - 05.27.14 Median Consumer Overview  2

 

 

Ben Ryan

Analyst


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Poll of the Day Recap: 75% Are Feeling The ‘Pinch’ of Higher Prices

Takeaway: 75% voted YES; 25% voted NO

Keep doing the same thing we have been saying all year, buy #InflationAccelerating and slow-growth #YieldChasing assets.

 

Everywhere you look these days, prices are going up. Meats, poultry, eggs and fish prices just hit an all-time high. U.S. rents are at an all-time high. Gas prices are soaring again. Etcetera, etcetera. 

 

We wanted to know if your wallet was feeling it too: Are you personally feeling the ‘pinch’ of higher prices?

 

Poll of the Day Recap: 75% Are Feeling The ‘Pinch’ of Higher Prices - pinch 

 

At the time of this post, 75% voted YES; 25% voted NO.

 

Those who voted YES had this to say:

  • Yes, most definitely.  Ironically, I was at Sam's Club yesterday and picked up a few items.  I would have liked to purchase a few steaks as I've done in the past.  I didn't purchase any steak as it's a bit of a luxury item and I need to be even more frugal than I typically am with three teenagers at home.  Now, I try to make bulk purchases of hamburger when it's on sale (about $3.50 a pound) along with other grocery items.
  • I'm noticing but I'm fortunate that its not changing my life now. I worry about small business people from landscapers to limo drivers to food trucks whose inputs are spiking. They are suffering and sooner or later we will all start to pay as they have no choice but to raise prices.
  • Commodity prices are inflating, driving energy and food prices up, due to a weak dollar and higher percentage of disposable income (due to low wages) spent on them (higher demand).
  • I increased the rent 30% on an apartment and I found a new tenant before even advertising it.

 

Those who voted NO reasoned:

  • It's a matter of adjusting family spending accordingly.  Prices are higher, but, just like another comment, good home budgeting matters.  People are generally wasteful and buy unnecessary things to "keep up with Jones'” -- so if they're feeling it and "can't" manage it, it's no surprise.
  • Prices are definitely higher, but not feeling it yet... good home budgeting, good cash flow management, and earning a good job trump poor monetary policy... my next move is a new car with better gas mileage.
  • Prices are noticeably higher, but I'm not feeling the pinch. This question could have rephrased to focus more on the economic impact of higher prices on people and the markets.
  • "Pinch"?  What "pinch"?  The Fed says there's no inflation. I mean, if we can't trust our own government...

 


Would Controversial American Apparel CEO Dov Charney Have Been Ousted If Stock Was $100?

Takeaway: If this was a $100 stock (or even a $10 stock) the Board would tolerate a lot more than if it were trading at $0.64.

Editor's note: This is an excerpt from retail sector head Brian McGough's morning research. Click here for more information on options available to Hedgeye subscribers.

 

APP - American Apparel Board Suspends Dov Charney as CEO and Declares Intent to Terminate Him for Cause; Names John Luttrell as Interim CEO

 

Would Controversial American Apparel CEO Dov Charney Have Been Ousted If Stock Was $100? - dov

  • "The Board of Directors of American Apparel, Inc. today voted to replace Dov Charney as Chairman and notified him of its intent to terminate his employment as President and CEO for cause. It is expected that the termination will be effective following a 30-day cure period required under the terms of Mr. Charney's employment agreement."
  • "'We take no joy in this, but the Board felt it was the right thing to do,' Mr. Mayer said. 'Dov Charney created American Apparel, but the Company has grown much larger than any one individual and we are confident that its greatest days are still ahead.'"

 

Key Takeaway: While it comes as no surprise that Charney was pushed out due to issues with his personal conduct and poor judgment, we find it hard to believe that this had absolutely nothing to do with the company’s performance.

 

If this was a $100 stock, or even a $10 stock (and probably even a $5 stock) the Board would tolerate a lot more than if it were trading at $0.64.

 

The key takeaway from where we sit is that Charney owns 27% of this company and the board, acting in the best interest of its shareholders, made the decision to disconnect the founder from the company. One other situation comes to mind. Chip Wilson at LULU who also owns 27%.

 


THE WEALTH EFFECT: UPDATING THE NUMBERS

Takeaway: The $4T increase in TTM equity + housing wealth could translate into ~100bps of wealth effect spending - with the risk to the downside.

UPDATING THE IMPACT:  Post-recession monetary policy has explicitly targeted asset re-flation in hopes of the ultimate trickle down & around effect as the beneficiaries of that policy jumpstart aggregate demand via rising consumption and investment spending. 

 

With the incremental tapering announced yesterday and as the committee moves towards a complete cessation of wealth effect policy targeting, we thought it worthwhile to highlight the magnitude of housing and financial asset price inflation over the TTM and the implied wealth effect impact.   

 

Below we reprise a note we published last year, updating the numbers for the latest, 1Q14 household sector housing and equity asset values from the Feds Flow of Funds report.   We largely focus the discussion around housing wealth due to the broader set of considerations, but the same conceptual framework holds for financial assets.   

 

 

WEALTH EFFECT - WHAT IS IT:  When home prices rise at a premium to inflation, real housing wealth increases.  The wealth effect ‘theory’ posits that when real housing wealth increases, consumer spending permanently increases by some fraction of that wealth increase in every subsequent year - the same idea applies to financial assets.  It’s the “some fraction” part of the theory that sits at the center of ongoing research and debate.  

 

Consumers, on balance, don’t immediately convert 100% of a wealth increase into current consumption.  Instead, in annuity like fashion, they tend to spread that ability for increased consumption out over their lifetime

 

Economists attempt to quantify this phenomenon - how consumption changes following changes in housing wealth  - by measuring “Marginal Propensity to Consume” – the term used to describe how much consumer spending increases for each additional dollar of housing/financial asset wealth.  In general, studies examining the marginal propensity to consume show that consumer spending increases between 2 and 7 cents for each dollar of housing wealth increase.   

 

Actual increases in housing wealth as well as expectations around future price appreciation are thought to be the lead factors driving consumption and spending decisions.   The important, if obvious point, here is that even if home price appreciation is positive, if it’s less than what consumer were expecting (& basing spending decisions on) then the impact to go-forward consumption would be negative, and vice versa.  Households would increase/decrease their savings rate to close the delta between expected and actual housing wealth changes.     

 

 

KEY CONDITIONS It makes intuitive sense that an increase in real wealth, be it from housing or financial asset appreciation, lends itself to increased consumption.  However, a number of key, practical conditions must be satisfied for increased housing wealth to translate into higher consumer spending on non-housing related goods and services.    

  1. Non-housing Assets:  Rising home values don’t serve as direct means for increased consumption.   Housing wealth increases need to displace other savings and investment for it free up cash flow to drive higher discretionary consumption.  Put differently, an increase in housing wealth only drives increased consumption if households hold fewer non-housing assets than they would otherwise have held.  Historically, real increases in housing wealth have been associated with a decrease in the personal savings rate.  In effect, individuals let their home do their saving for them while diverting  would-be savings into greater current consumption.
  2. Equity Extraction:  Home price appreciation can help drive non-housing related consumption if it causes households to extract equity via increased borrowing, generally via cash-out refinancing’s (the technical term for this is Net Mortgage Equity Withdrawal, or MEW).  Additionally, households can extract equity by simply moving to a cheaper residence with the dollar delta between the two homes representing the increased capacity for non-housing related consumption.         

In short, if real housing wealth increases but households don’t decrease savings/other investment, increase home equity backed borrowing, or downsize to a cheaper residence, then that wealth increase will be largely ineffectual in driving higher consumption growth.   

  

Net-Net, What Kind of Impact Will Increased Housing and Financial Wealth have on Consumer Spending and Consumption Growth? 

 

The idea of the Wealth effect remains a working theory with the net impact to GDP beholden to a host of situational specific and idiosyncratic economic and behavioral/psychological factors. 

 

Despite the inherent uncertainty, applying a few simplifying assumptions allows for a reasonable estimation of the net impact to consumption stemming from a real housing and equity wealth increase.

 

In the scenario analysis below we applied the range of historical estimates for Individual’s Marginal Propensity to Consume (MPC) against the actual increase in aggregate, gross housing market and corporate equity values from 2013 to 2014 (Fed Flow of Funds Data). 

 

Across the range of MPC’s, on a nominal GDP base of $17.1T, the realized $2.3T increase in gross housing market value translates to 41-97 bps points of incremental growth while the $2.0T rise in equity values translates to 36-84 bps of incremental growth.   

 

On the housing side, against the estimate of gross wealth effect impact, we applied a series of discounts to arrive at a net impact:

  1. Negative Equity discount:  Is a rising home price really going to drive incremental spending for an individual going from very negative equity to less negative equity – particularly with wealth losses concentrated in the lower tiers where MPC’s are highest?  As of year-end 2013, approximately 13% of all homes were underwater – implying that 87% of homeowner are subject to the wealth effect.  We applied a 15% discount to the Gross Wealth Effect impact to account for negative housing equity in the analysis below.
  2. MEW Discount:  Net Mortgage Equity Withdrawal peaked at ~$140B during the housing bubble and subsequently went negative into and after the great recession.   Here, we take a conservative view and side with the preponderance of data that says the consumer still isn’t in a mood or position to re-lever.  We applied a 10% discount for MEW with the expectation for a depressed impact versus historical precedent.   
  3. Confidence/Psychological Discount:  Expectations around wealth increases play an important part in marginal spending decisions.   Similar behavioral dynamics tend to characterize positive and negative price/wealth inflections, but they tend to play out in converse – a phenomenon which is largely tied to expectations.  Individual expectations around future price changes are generally biased by ‘State Dependence’ (ie. how you feel now) whereby recent price trends color expectations around future price changes.   Applied to housing,  as home prices rise/accelerate, consumers generally extrapolate forward similar levels of price appreciation. Conversely, coming out of a period of declining prices, expectations around future price changes are probably conservative with consumer needing to see sustained stability/appreciation to drive incremental spending.  We applied a 5% discount for this dynamic in the scenario analysis below.     

IMPLIED NET IMPACT:  A quasi-conservative approach at quantifying the flow through impact from increased housing and equity wealth to consumer spending suggests we see a collective 80-130bps of incremental consumption growth over the NTM. 

 

Its worth noting that the marginal propensity to consumer for wealthy households (ie. the one’s who own financial assets) is typically lower than that of middle and low income households. 

 

Further, the distribution of still under water homeowners is concentrated in the lower price tiers – again, in the group where MPC’s are highest.  Given these two realities, actual wealth effect spending is more likely than not to be below both historical precedent and the implied impact in the scenario analysis below.    

 

THE WEALTH EFFECT: UPDATING THE NUMBERS - Wealth Effect Table

 

 

Christian B. Drake

@HedgeyeUSA

 


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