Hydra-Headed Fed

This note was originally published at 8am on September 12, 2014 for Hedgeye subscribers.

“A monster, a hydra-headed monster…”

-Andrew Jackson


That’s what President Andrew Jackson called the Bank of The United States as he took office in 1829 – a “hydra headed monster equipped with horns, hoofs, and a tail so dangerous that it impaired the morals of our people, corrupted our statesmen, and threatened our liberty.” (Hamilton’s Curse, pg 69)


And that’s what I am going to call Ben Bernanke’s legacy as of this morning – the Hydra-Headed Fed. After doing what he allegedly did at a super secret Morgan Stanley lunch yesterday, that is exactly what this man deserves – someone calling him out on a new and tangible market risk that he just created.


Hydra-Headed Fed - hydra bernanke


Again, allegedly (because I wasn’t there), Bernanke recklessly told a group of investors that US GDP growth was going to surprise to the upside (i.e. be better than 3% consensus) and that he could not believe the 10yr was still trading under 3%. In Fed whisper speak, that’s code for Janet is going to get more hawkish (look at the intraday chart, post lunch) … but is she?


Back to the Global Macro Grind


Notwithstanding the fact that Bernanke was getting paid bank to whisper these sweet nothings into the ears of those with a seat at the almighty’s table, is this what the “transparent” and “accountable” Fed wants? Is Bernanke on the same page as Janet? Or, fully loaded with Draghi talking up the drugs in Europe, is this hydra-headed-un-elected beast out of communication control?


If you don’t think this matters, think again. And think of it in risk terms (i.e. what happens if something like the opposite happens at the Fed meeting next week). What happens if and when Janet Yellen says, ‘hey, I want to be “data dependent” and the recent employment and housing data slowed’?


In real-time market risk management terms what Bernanke’s comment does is:


  1. Widens the immediate-term risk range of the 10yr to 2.33-2.58%
  2. Ups the probability of accelerating bond market volatility
  3. Confirms the recent breakout in foreign currency volatility


In other words, the Hydra-Headed Fed is going to perpetuate the one thing Bernanke trumpeted (both in 2007 and now) as his great success – eviscerating market volatilities.


If you don’t follow it as closely as some of us do, the context of this moment in US central planning history is as critical as it gets. You have to go all the way back to when the Jeffersonians crushed Hamiltonian big government guys (200 years ago) to get what I think The People are really going to get right if the Fed, ECB, and BOJ create the next crisis.


They are going to get that these Policies to Inflate didn’t work.


For the economy, that is…


Now if you ask some of the perma bull economists out there how the economy is doing, it’s just peachy. Yesterday, I think Nancy Lazar wrote that US “consumer confidence is breaking out to the upside.” Maybe Wall Street consumer confidence is… but, please, do not confuse that with the real America’s confidence in negative purchasing power and real wage growth.


By the Federal Reserve’s own admission (they published this research last week), 2/3 of Americans never left being in a recession. Median incomes declined -5% for the bottom 60% of Americans over the 2010-2013 period as the cost of living in the US has ripped to all-time highs.


Oh, but gas prices are going to fall (then rise)… right…


Again, this is where the Hydra-headed monster of market expectations really matters – it’s called correlation risk:


  1. When Fed heads use communication tools to talk up rate hikes (like Bernanke just did) USD and rates rise
  2. When USD and rates are rising, at the same time, commodities, oil, Gold, etc. go down
  3. The machines (quants) then chase macro correlations, and macro markets get overbought/oversold


After the biggest weekly rate of change move for the currency market since 1997 (not a good reference date for globally interconnected macro risks!), on a 6 week duration, here’s the macro market’s current correlation to USD:


  1. Euro vs USD = -0.99
  2. Silver vs USD = -0.93
  3. Gold vs USD = -0.90
  4. Brent Oil vs USD = -0.74
  5. SPX vs USD = +0.72


That’s why I use the word “recklessly” to describe what Bernanke did yesterday. If Yellen doesn’t talk up the US Dollar and Rates (which Americans should love by the way), the entire macro trade dominating markets right now can easily (and quickly) reverse.


Is this normal? Is this acceptable? Was this the America we all like to think of as “free market capitalism”?


If there ever was a day to be scared of the monster of expectations that both the Fed and Old Wall has created, this is probably it.


Our immediate-term Global Macro Risk Ranges are now:


UST 10yr Yield 2.33-2.58%

SPX 1984-1999

RUT 1154-1181

USD 83.66-84.91

EUR/USD 1.28-1.30

WTIC Oil 91.64-95.36

Gold 1234-1281


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Hydra-Headed Fed - Chart of the Day

#Preppers Await!

“We are the ones that we have been waiting for.”

-Alice Walker


“So,” how is everyone feeling this morning? I’m feeling great.


Since I’m running out of fresh content on both shorting the Russell 2000 (IWM) and buying the Long Bond (TLT), today I decided to weave a little Alice Walker (she wrote The Color Purple in 1982) with some perma-bear prepping.


If you don’t know what a #prepper is, look it up. On Wiki you’ll be re-directed to “Survivalism” and on the Googler you’ll get everything from “How To Build Your Own Bunker” to “Getting Ready For Barackalypse.” There’s always a bear market somewhere!

#Preppers Await! - r5


Back to the Global Macro Grind…


When you see me going all bear-mauler in the introduction to a research note, you buy/cover.


Yep, that’s pretty much the call this morning. I call it fading myself. If you didn’t buy and/or cover the swan dive that the SP500 took into yesterday’s close, you aren’t a real bull anyway.


Oh, and don’t forget to sell the “GDP is back” bounce by noon. Damn day-traders.


Forget the traders, how about them damn moving monkeys? Huh? Did Mucker call me a monkey? No. No. I would never call anyone names. I’m referring to this billion dollar app thing that I built for my 6yr old son called Monkey In The Middle.


Here’s how it works:


  1. It has a 1yr chart
  2. It has a simple moving avg
  3. It has a ticker box


And voila! That’s it. So easy a kindergartner can do it. He can analyze any ticker in the world, across asset classes!


Other than this being the most myopic single-factor interpretation of risk since the caveman throwing grass into the wind, the problem I foresee with this billion dollar idea is what happens when my son starts doing wacky stuff like multiplication.


Or, what if he figures out that moving monkeys are different if he uses a simple vs. an exponential moving average? Then my app is dead. But, in the meantime, you never know, yo. There’s an app for that too btw (it’s called “yo” – you say yo to me, I say yo back).


Serious question though, what is the 50-day Moving Monkey?


  1. Is it 1978 (exponential moving avg) or 1976 (simple moving avg) for the SP500?
  2. Or, is it 1151 (exponential moving avg) or 1148 (simple moving avg) for the Russell 2000?


I am not messing around here guys. If I am going to start building my family a legitimate bunker, I need to know what the signal is! Will using the exponential one help me front-run the simple ones? In the bush (with bears), all I need to do is out-run the last guy.


In all seriousness, the entire linear concept of using the 50-day is as ridiculous as the ideology that the Federal Reserve, European Central Bank, and Bank of Japan, can collectively bend gravity.


Moving along…


Does your iPhone bend? The stock did yesterday. It moved 2x what the market did, signaling immediate-term TRADE oversold within its bullish intermediate-term TREND setup. “So” I signaled buy AAPL (Apple) yesterday.


If we get the Q2 “GDP is back” bounce (newsflash: next week it will be Q4), I want to own the real bubbly stuff. Remember when The Facebook (FB), Apple (AAPL), and BABA had a projected $1 TRILLION in combined cap? I do. That may have been the top.


Tops are processes, not points. And the thing about the real bubbly ones is that you can risk manage them for a little while with a bullish bias (commonly called buying the damn dip). But there will come a time when they pop. Try it at home – those don’t bounce.


This is where I use my immediate-term Risk Range process (sorry Jack, our app doesn’t have real-world application!):


  1. SP500 signals immediate-term TRADE oversold at 1962, within a bullish intermediate-term TREND
  2. Russell 2000 signaled immediate-term TRADE oversold at 1104, within a bearish TREND
  3. Front-month VIX signals immediate-term TRADE overbought at 15.92, within a bullish TREND


In other words, both volatility and the SP500 are bullish on an intermediate-term duration and the Russell 2000 small-cap #bubble is bearish across all durations. “So” on the oversold signals, you keep your small cap shorts on and buy big cap liquidity (AAPL).


If you’re longer-term, and not into managing the immediate-term risk of the range… and are right freaked out about something like the #Quad4 (US growth and inflation slowing at the same time), #preppers have a ton of stuff to sell you. Someone should definitely IPO that!


Our immediate-term Global Macro Risk Ranges are now:


UST 10yr Yield 2.42-2.58%


RUT 1104-1138

VIX 13.48-15.92

USD 84.64-85.53
Gold 1


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


#Preppers Await! - 09.25.14 TLT vs. RTY

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TODAY’S S&P 500 SET-UP – September 26, 2014

As we look at today's setup for the S&P 500, the range is 26 points or 0.20% downside to 1962 and 1.12% upside to 1988.                                               













  • YIELD CURVE: 1.94 from 1.95
  • VIX closed at 15.64 1 day percent change of 17.86%


MACRO DATA POINTS (Bloomberg Estimates):

  • 8:30am: GDP Annualized q/q, 2Q final, est. 4.6% (prior 4.2%)
  • 9:55am: UofMich Confidence, Sept. final, est. 84.8 (pr 84.6)
  • 1pm: Baker Hughes rig count



    • Senate, House out of session
    • 10am: Indonesian President Yudhoyono delivers remarks at GWU
    • 1:15pm: TSA Administrator Pistole  at Aero Club of Washington
    • U.S. ELECTION WRAP: Keystone Hangs on Sen. Race; Debate Dates



  • Netflix, Charter Said to Get Data Demands in Comcast Probe
  • Deadline to Shut Down Sanctioned Oil Ops. w/ Russian Partners
  • Obama Delivers Remarks at Global Health Security Agenda Summit
  • Alibaba Bears Emerging to Short 8.9 Million Shares After IPO
  • Apple’s IPhone Software Snafu Has Links to Flawed Maps
  • Apple Releases iOS 8 Update to Fix iPhone 6, Plus Bugs
  • Symantec Appoints Interim Chief Michael Brown as Permanent CEO
  • GM CFO Says Ratings Upgrade Aids Loan Unit to Support Car Sales
  • Intel Spending $1.5b to Bolster China Phone Market Access
  • Chiquita Sweetens Fyffes Merger Terms After Rival Approach
  • New ABC App Lets Mulitasking Fans Post Clips Fast
  • Iraqi Leader Seeks Decisive Airstrikes to End Extremist Terror
  • U.K. May Start Iraq Strikes Within Days of Parliament Vote



    • BlackBerry (BB CN) 7am, ($0.16) - Preview
    • Finish Line (FINL) 7:05am, $0.60



  • Copper Rebounds From 14-Week Low Before Figures on U.S. Growth
  • Top Palm Oil Growers Scrap Export Tax Amid Battle for Buyers
  • Cheaper Energy to Grain Signals Tame U.S. Inflation: Commodities
  • Soybeans Extend Drop to Lowest Since 2010 on U.S. Crop Prospects
  • WTI Oil Set for Second Weekly Gain Before GDP Data; Brent Rises
  • Gold Falls Before GDP to Inflation Reports as Silver Holds Gains
  • Philippine Lawmaker Files Bill Aiming to Ban Ore Exports by 2021
  • Nuclear Plants Across Emerging World Defy Japan Concerns: Energy
  • Saudi Arabia Said to Plan Steady Oil Output for Rest of 2014
  • Europe Seen Sustaining Russian Gas Cut During Normal Winter
  • European Gold Sales Total 6.8 Tons in Final Year of Accord
  • Polar Ice Research for Climate Clues Means Having an Armed Guard
  • Soybean Traders Bearish for Seventh Week as Harvest Accelerates
  • Oil Curve Errs as U.S. Sales to Shrink Spread: Chart of the Day
  • Natural Gas Pricing Outlook Restrained in U.S. ’Shoulder’ Months


























The Hedgeye Macro Team

















September 26, 2014

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NKE - Could Gross Margin Hit 50%?

Takeaway: Revenue engine revving hotter than people expect, and it will last far longer as well. But whether GM% could approach 50% is key = $8 EPS.

Every once in a while Nike comes along and reminds the Street of one thing…that once its revenue engine gets turned on, it revs hotter than most people think possible, and sustains that heat far beyond a time frame that most people in the investment community would consider reasonable – or even possible. This quarter was definitely one of those events. We were expecting a blowout – with an estimate of $0.97 vs the Street at $0.88. But Nike beat even our estimate and came in at $1.04 (GAAP was $1.09 including a tax benefit). Futures looked outstanding at 11%, with a 400bp sequential turn higher in North America to +15%, at a time when it should probably have otherwise have dipped into the single digits. We’re taking up our estimate to $3.83 for the year – above Nike’s guidance (and presumably the consensus) of $3.58. At the current multiple of 21x our ’15 estimate, this company absolutely has to beat numbers. We think that’s the case this year, and to an even greater degree in FY(May)16.


The growth here is staggering. We should be looking at the law of large numbers, but we’re not. Growth is accelerating, and when all is said and done at the end of this year, Nike will have added enough revenue to equal the size of two Lululemons or 1½ UnderArmours.  Nike’s success is a huge factor threatening job security for Adidas’ Herbert Hainer, who is looking on as Nike extends its lead in a seemingly unwinnable race.


But we think that there’s a bigger question to consider. Nike is tracking to put up a 46% Gross Margin this year. With increased growth in higher-margin e-commerce, which was up 70% this quarter (on an admittedly minute base of 4% of sales), growth in Nike retail (it has about 875 stores versus Adidas at 2,800), and manufacturing technology like FlyKnit that lowers manufacturing and excess materials costs, it is absolutely not unreasonable to ask the question as to when (not if) Nike’s Gross Margin will hit 50%.  Keep in mind one thing…Nike accounts for warehousing and logistics costs in COGS, while most other brands book this in SG&A. This is a 5-point margin shift from SG&A to COGS. That means that on an apples to apples basis, Nike should put up a 51% gross margin this year – impressive by any stretch. That’s getting closer to ‘luxury’ than ‘athletic’.


All in, a 50% margin for Nike on $45bn in revenue -- where it is likely to be after the 5-years it would take to get there – gets to $8 in earnings power. Could there be added SG&A against that earnings number? Yes, you could never rule that out with Nike.  But what kind of multiple is a 25% earnings CAGR and $8 in earnings worth for a blue chip name that is the dominant player in a global duopoly with 30% return on invested capital and a pristine balance sheet that could buy back $4bn in stock annually? It had a 24x p/e recently on financial characteristics that weren’t even close to what a 50% GM would bring. 25x? 30x? That’s $200-$240. Clearly, this is something of a ‘what if’ scenario, and it’s one that we would not see for another 4-5 years. That’s an eternity in this market. But we think that anyone seriously looking to invest in Nike today needs to be asking this question.  


There are definitely risks here.

Nike itself is its own biggest obstacle. Every single time – without fail – that Nike has stumbled in the past, it’s been due to its own complacency. The organization does not seem complacent today. Quite the opposite, actually. But we keep this one on our front burner.


Another risk would be if Don Blair (CFO) were to step down. We have no reason to think that is on the near horizon, but Blair has been at Nike for about 15 years as CFO. We think that people underestimate how important he is inside the company, and how involved his organization is in the day-to-day operation of Nike. With the exception of certain talent in the design side of the organization, Blair may be the only person that is simply not replaceable. 


NKE - Could Gross Margin Hit 50%? - nketable

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