This note was originally published at 8am on October 27, 2014 for Hedgeye subscribers.
“Don’t call it a beachhead…”
That’s what Hitler told his field marshals after the Allies took the beaches of Normandy in 1944. He called it the “last French soil held by the enemy… and that Cherbourg was to be held at all costs.” (The Guns At Last Light, pg 105)
Evidently, it was a beachhead.
Back to the Global Macro Grind…
A reporter from Marketwatch pinged me this morning asking what I thought the “biggest lie is that investors are telling themselves?” After reading a few consensus Bloomberg headlines that “deflation is good” my answer was simple:
The biggest lie US stock market centric investors are telling themselves right now is that the bond market has it wrong, and US growth isn’t half of what they thought it would be 10 months ago.
But , whatever you do, don’t call it bad. The same consensus that said the upside surprise in #InflationAccelerating from JAN-JUN was “good for stocks” are now saying that the #Quad4 deflation of that inflation is “good” too.
Like two bad golfers who are staring down breaking bogey puts from 9 feet in the rain and wind, it’s all “good, good.”
Back to reality…
Is 1 up week in the last 5 for the SP500 good? How about 2 in the last 8 weeks for the Russell 2000? What about both bond yields (10yr -25% YTD) and Oil prices crashing -25% since June? Oh, and 3 of the 4 BRICs falling like the real ones (Brazil, Russia, China) - all good?
You show me one of the many consensus economists, strategists, etc. whose 2014 call for - 3.25% on the 10yr; +10-15% on the Dow, SP500, Russell; and +3-4% GDP growth – was based on worldwide #deflation, and I’ll send them a Hedgeye hat.
Confirmation bias in being bullish on growth all of the time is what it is, but it’s not getting people paid this year. Looking at last week’s #Quad4 deflations (that continued, despite the Russell 2000 bouncing +3.4% to down -3.9% YTD):
And with Dilma Rousseff winning Brazil’s presidency this weekend (stock market indicated down another -5-6% pre-open), it appears that the anti-dog-eat-dog-socialist contract #deflation in that part of the global demand construct isn’t good either. It’s bad.
In Hedgeye #process speak:
That’s it. We’ve already constructed a framework to talk about these trivial matters so that the people I used to pay on the sell-side can be held to account. If both growth equity bulls and bears agree that inflation is deflating, the only debate left is on growth.
If you’re in the #Quad4 camp (and you have to buy stocks) there are only 3 S&P Sector allocations you’d be net long of right now:
And I’d weight them in that order. Since Healthcare stocks (XLV) led last week’s rally (+6.6% on the week to +17.6% YTD vs. something like the Dow which was only +2.6% on the week to +1.4% YTD), that was only confirmation that we are in #Quad4.
If we were in Quad 1 (and growth was accelerating again), early cycle stocks like housing and consumer discretionary would be leading to the upside (and big things like Retail Sales and New Homes wouldn’t be missing). Consumer Discretionary (XLY) lagged last week and is still down -0.7% YTD.
I’m not saying we’ll never be in Quad 1. That’s where markets went in the 1st half of 2009 and there were very few macro strategists who shifted from bearish on #deflation to bullish on consumption back then. Most were forced to call #Quad4 bad, after missing it the whole way down. Timing matters.
Our immediate-term Global Macro Risk Ranges are now:
UST 10yr Yield 2.12-2.31%
WTI Oil 80.05-83.78
Best of luck out there this week,
Keith R. McCullough
Chief Executive Officer
Takeaway: We agree that November won't be as bad as October but December may be
Fairly negative commentary overall but a ray of hope: "October was an anomaly"
Hedgeye CEO Keith McCullough handpicks the “best of the best” long and short ideas delivered to him by our team of over 30 research analysts across myriad sectors.
Takeaway: Current Investing Ideas: EDV, GLD, HCA, MUB, RH, TLT and XLP.
Below are Hedgeye analysts’ latest updates on our seven current high-conviction long investing ideas and CEO Keith McCullough’s updated levels for each.
*Please note we added HCA on Friday. We will be sending out a brief report outlining our bullish rationale in the upcoming week.
*We also feature two pieces of content from our research team at the bottom.
Trade :: Trend :: Tail Process - These are three durations over which we analyze investment ideas and themes. Hedgeye has created a process as a way of characterizing our investment ideas and their risk profiles, to fit the investing strategies and preferences of our subscribers.
This central planning currency burning party is going to get really ugly.
Bonds Finish a Tough Week Like Champs
Thank goodness the midterm election came and went; fortuitously for bond investors, this allowed the government to finally stop fudging the growth data. Today was the most important day in that regard, with the OCT Jobs Report being the key economic release:
As it relates to the timing of an interest rate hike out of the FOMC – which we all know may never actually occur – the only thing that spooks the Fed into pushing out its “dots” more quickly than a -10% draw-down in the SPY is a deteriorating labor market. It’s important to contextualize the labor market properly in this regard (per Christian Drake, our senior U.S. economist):
Conclusion: The labor market, which is the most lagging of all economic indicators is pretty darn strong.
If for no other reason than the combination of duration (65 months into expansion) and slowing consumption growth, our work says we’re nearing the peak of the economic cycle and the Fed Funds Rate could be stuck at ZERO percent by the time the next recession rolls around.
So what do you do with that?
You buy bonds (TLT, EDV, MUB) and stocks that resemble bonds (XLP). All year, the bond market has sniffed this out and today was a continuation of that trend – after a difficult week performance-wise, nonetheless:
And, oh yeah, crashing oil prices aren’t exactly helping the Fed achieve its +2% “price stability” mandate either:
The follow-through from Friday’s jobs report is evidence of the market’s expectation with each growth slowing data point (Bad # = Bullish because there may be more monetary "cowbell." Everybody is doing it.)
Real-time prices moved in a short-sighted manner with one data point moving prices in QUAD#3 fashion (GROWTH SLOWING, INFLATION ACCELERATING) manner like the first half of 2014.
As Hedgeye's U.S. macro analyst Christian Drake pointed out in his note post-report, one data point does not make a trend, and we are still positioned in a #QUAD4 deflationary set-up despite the pop in yield chasing asset classes on Friday (bonds, energy, gold):
“Does a sequential slowdown in NFP signal a negative inflection in the domestic labor market – particularly given a negative birth-death drag, squirrely seasonals, a hard comp, declining slack and improving household survey metrics?
I don’t know, but that feels like a stretched read-through on a single month of data.”
With the labor market showing continued signs of modest improvement as a whole, we expect a continuation in similar trends to support the Fed’s current policy path.
We look at activity in every market over multiple durations, and Gold is no different. The intermediate-term deflationary environment domestically is certainly bad for commodities and bullish for the U.S. dollar, but we have no question monetary policy could turn right back down devaluation road over the intermediate and long-term if it was data-supported.
From a quantitative perspective gold looks exhausted to the downside and found support at the low-end of the risk range Friday. We’ll watch the follow-through into next week.
Restoration Hardware is on track to open the first Full Line Design Gallery in Atlanta on November 21st. At 45,000 selling sq. ft. (with an additional 20,000 sq. ft.) of outdoor selling space, it will be the biggest RH store to date. The new 6 story store will have an increased SKU count across it’s traditional categories and two dedicated floors, one to Small Spaces and the other to Baby and Child.
Product diversification is key to the RH story, as new categories generally experience a 50%-150% lift in sales across channels (both in stores and online) when displayed within a company’s retail locations.
But this isn’t just about the top line. One of the key components of the real estate transformation is the occupancy leverage the company realizes as it moves into spaces 6x-8x the size of its legacy stores at rent terms just 25% of the current rate per square foot. This is the big driver behind the Gross Margin expansion we should see over the next 5 years.
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ADDITIONAL RESEARCH CONTENT BELOW
"There are more than five reasons (on Caterpillar)," writes Hedgeye Industrials analyst Jay Van Sciver. "But we will start with these."
Our Macro Team hosted a special “Behind the Curtain” conference call with Michael McFaul, one of the world’s foremost experts on Russia and Vladimir Putin. Until earlier this year, McFaul was the U.S. Ambassador to Russia and held closed-door meetings with Putin and his top lieutenants before finally stepping down out of concern for his family and his own safety.
Hosted by Hedgeye CEO Keith McCullough at 9:00am ET, this special online broadcast offers smart investors and traders of all stripes the sharpest insights and clearest market analysis available on Wall Street.