Hedgeye CEO Keith McCullough shares the top three things in his macro notebook this morning.
Hedgeye CEO Keith McCullough shares the top three things in his macro notebook this morning.
Takeaway: In today's edition of the Macro Playbook, we contextualize the broad-based de-risking of the HY credit asset class.
Long Ideas/Overweight Recommendations
Short Ideas/Underweight Recommendations
QUANT SIGNALS & RESEARCH CONTEXT
Illiquidity Risk Remains in the Junk Bond Market: Consistent with our #Quad4 and #Bubbles themes – which calls for an allocation to relative safety over high yield/junk in the domestic fixed income market – spreads continue to widen in the corporate bond space.
On a WoW basis, OAS on HY USD bonds backed up +19bps yesterday and are now +80bps WoW and +150bps MoM to cycle-wides of 603bps. Obviously, as we have detailed extensively, the energy sector continues to lead declines in the HY USD bond market. Specifically, OAS in this space backed up +23bps yesterday and are now +155bps WoW and +397bps MoM.
Source: Bloomberg L.P.
Not surprisingly, given the dour state of secondary bond market liquidity, emerging market USD debt is selling off as well, with OAS having backed up +81bps WoW and +142bps MoM to cycle-wides of 483bps.
Source: Bloomberg L.P.
In the following two charts, which we have sourced from our presentation on Emerging Markets yesterday (email to obtain the replay), we detail the state of secondary bond market liquidity in the U.S. and specifically as it pertains to EM debt. Needless to say, there is a pervasive lack of liquidity in these asset classes and the crowded nature of these trades amid an era of ZIRP dramatically amplifies the risk of what we have seen thus far – i.e. reflexive selling.
All told, we continue to think this negative re-rating for HY and EM USD debt is likely to have a substantial impact on broader “risk assets” to the extent the broad-base de-risking of this asset class continues.
***CLICK HERE to download the full TACRM presentation.***
TRACKING OUR ACTIVE MACRO THEMES
#Quad4 (introduced 10/2/14): Our models are forecasting a continued slowing in the pace of domestic economic growth, as well as a further deceleration in inflation here in Q4. The confluence of these two events is likely to perpetuate a rise in volatility across asset classes as broad-based expectations for a robust economic recovery and tighter monetary policy are met with bearish data that is counter to the consensus narrative.
Early Look: Money Man (12/15)
#EuropeSlowing (introduced 10/2/14): Is ECB President Mario Draghi Europe's savior? Despite his ability to wield a QE fire hose, our view is that inflation via currency debasement does not produce sustainable economic growth. We believe select member states will struggle to implement appropriate structural reforms and fiscal management to induce real growth.
Moscow, We Have a Problem (12/16)
#Bubbles (introduced 10/2/14): The current economic cycle is cresting and the confluence of policy-induced yield-chasing and late-cycle speculation is inflating spread risk across asset classes. The clock is ticking on the value proposition of the latest policy to inflate as the prices many investors are paying for financial assets is significantly higher than the value they are receiving in return.
Best of luck out there,
Associate: Macro Team
About the Hedgeye Macro Playbook
The Hedgeye Macro Playbook aspires to present investors with the robust quantitative signals, well-researched investment themes and actionable ETF recommendations required to dynamically allocate assets and front-run regime changes across global financial markets.
The securities highlighted above represent our top ten investment recommendations based on our active macro themes, which themselves stem from our proprietary four-quadrant Growth/Inflation/Policy (GIP) framework. The securities are ranked according to our calculus of the immediate-term risk/reward of going long or short at the prior closing price, which itself is based on our proprietary analysis of price, volume and volatility trends.
Effectively, it is a dynamic ranking of the order in which we’d buy or sell the securities today – keeping in mind that we have equal conviction in each security from an intermediate-term absolute return perspective.
We re-entered the dark side with a SELL signal on green yesterday (see Real Time Alerts product) and, barring Janet going completely dovish today, we think there’s immediate-term downside (vs. USD) in Burning Yens to $121.78; that would be good for the Nikkei, which held @Hedgeye TREND support of 16,441 overnight.
Oil saw another bounce (yesterday)… and another selloff this morning (-1.8% WTI to 54.93 with no support to 52.83) – this is what we call pervasive #deflation expectations being baked into one of the most epic perpetual inflation expectations in world history. Respect its longer-term ramifications.
The UST 10YR Yield touched 2.03% yesterday, then bounced to 2.10% and that puts is right in the middle of our 2.03-2.19% immediate-term risk range ahead of the Fed. We have no idea what these people are going to do, but if they did remove “considerable time” and the Long Bond got hit on that, we would buy more of our best Macro Long Idea (TLT).
|FIXED INCOME||30%||INTL CURRENCIES||6%|
The Vanguard Extended Duration Treasury (EDV) is an extended duration ETF (20-30yr). U.S. real GDP growth is unlikely to come in anywhere in the area code of consensus projections of 3-plus percent. And it is becoming clear to us that market participants are interpreting the Fed’s dovish shift as signaling cause for concern with respect to the growth outlook. We remain on other side of Consensus Macro positions (bearish on Oil, bullish on Treasuries, bearish on SPX) and still have high conviction in our biggest macro call of 2014 - that U.S. growth would slow and bond yields fall in kind.
We continue to think long-term interest rates are headed in the direction of both reported growth and growth expectations – i.e. lower. In light of that, we encourage you to remain long of the long bond. The performance divergence between Treasuries, stocks and commodities should continue to widen over the next two to three months. As it’s done for multiple generations, the 10Y Treasury Yield continues to track the slope of domestic economic growth like a glove. We certainly hope you had the Long Bond (TLT) on versus the Russell 2000 (short side) as the performance divergence in being long #GrowthSlowing hit its widest for 2014 YTD (ex-reinvesting interest).
The U.S. is in Quad #4 on our GIP (Growth/Inflation/Policy) model, which suggests that both economic growth and reported inflation are slowing domestically. As far as the eye can see in a falling interest rate environment, we think you should increase your exposure to slow-growth, yield-chasing trade and remain long of defensive assets like long-term treasuries and Consumer Staples (XLP) – which work decidedly better than Utilities in Quad #4. Consumer Staples is as good as any place to hide as the world clamors for low-beta-big-cap-liquidity.
RUSSIA: +5.3% on the "bounce" to -52.4% YTD (math: you'd have to be +108%, from here, to get back to breakeven) #crash
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The Russian Central bank has spent approximately $80-$100 Billion on FX interventions to strengthen the Ruble – but yet to no avail. The FX reserve is now at a 5 year low.
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This idea of "emerging economies" is a bit of a misnomer. According to our analysis, on a purchasing parity basis the so called emerging economies comprised 56% of global GDP share in 2013. Moreover, in the same year emerging economies comprised 73% of global growth. So as emerging markets go, so to goes global economic growth.
“Narrative is linear, but Action... having breadth and depth, as well as length - is solid.”
This morning, the investing world is waiting on a critical two-word pronouncement from the Fed. Sitting in my hotel room here in London, drinking a Red Bull (it’s 4:30am and the British don’t have any coffee ready!), it's difficult not to find the idea of many of us sitting and waiting on the edge of our seats for a small word change just a bit laughable.
According to Bloomberg:
“Sixty-eight percent of 56 economists surveyed by Bloomberg late last week said the Federal Open Market Committee will drop its pledge to keep interest rates near zero for a “considerable time” and instead adopt a word such as “patient” to describe its approach to policy. Only 23 percent said the committee will keep “considerable time.”
On on hand, given how bad most economists are at predicting actual economic figures, opining on language in central bank statements might actually be a better use of their time. But regardless there you go, if the Fed keeps “considerable time” in its policy statement, this will be perceived as dovish, and if it changes its language to “patient” this will be perceived as hawkish.
There is also a tail scenario where the Fed does something completely different, but far be it for any traditional economists to opine on something that doesn’t fit a linear narrative. Currently, the most popular narrative out there is that the U.S. is decoupling from the global economy. While that may be true now, and to a point, it has also become fairly consensus.
Back to the Global Macro Grind...
On the topic of the U.S. economy, it has been out-performing many major economies this year and at up +6.7% for the year-to-date the SP500 is in part reflecting this. In addition, if it weren’t for energy (the XLE is down over -16%) the SP500’s performance would be much stronger. That said, it is likely a narrative fallacy to believe that if the world catches an economic cold, the U.S. won’t at a minimum sneeze.
My colleague Darius Dale did a comprehensive presentation yesterday on emerging markets and his conclusion was somewhat dire. While he acknowledges that many emerging markets have underperformed year-to-date, he also uses history as a guide which suggests a scenario of increasing emerging market calamity due to strong U.S. dollar in combination with emerging market illiquidity (among other things).
Certainly, the case can be made, as we have, that a strong U.S. dollar is good for the U.S. economy, but the greater global risk is that it moves too far and too quickly, which puts the squeeze on emerging economies that issue debt in U.S. dollars and pay it off in local currency.
In fact, according to some estimates “international banks had loaned $3.1 trillion to emerging markets by the middle of this year, mainly in dollars. Such nations had also issued international debt securities totaling $2.6 trillion, of which three-quarters was in dollars.” That, my friends, is a lot of U.S. dollar denominated debt in the hands of some potentially very weak economic hands.
So, to the extent that emerging economies have less access to capital because of a strong dollar (the data is already showing they do) or in a more extreme scenario, have challenges paying back U.S. dollar debt, there will be increasing economic headwinds globally and we’d be naïve to think that won’t impact U.S. growth.
In fact, as we show in the Chart of the Day below, this idea of emerging economies is a bit of a misnomer. According to our analysis, on a purchasing parity basis the so called “emerging economies” comprised 56% of global GDP share in 2013. Moreover, in the same year emerging economies comprised 73% of global growth. So as emerging markets go, so to goes global economic growth.
Now to be fair to the bullish narrative on the U.S., in the last full year of 2013, only about 9.4% of U.S. GDP was from exports, so relative to many economies, the U.S. is much more self-sufficient. The obvious caveat is that from 2009 to 2013, exports also grew by about 49%, so the increase in exports has been a notable tailwind to U.S. GDP.
More critically, for those of us who are stock market operators at least, is the fact that almost a full 1/3 of SP500 corporate revenue comes from international sources. So even if the U.S. continues to hum along alone, if the global economy does decelerate, so too will U.S. corporate profits. And while the U.S. stock market could continue to move higher in that scenario, we’d probably be hedged.
Inasmuch as we are disbelievers in a complete decoupling scenario, there are certainly positives in the U.S.: a “tightish” labor market, meaningfully lower energy costs and a new one for our ledger... an improving housing market. Incidentally, we will be outlining our housing narrative (albeit a narrative with facts and analysis) at 1pm eastern today.
The key components of this new thesis are as follows:
Our immediate-term Global Macro Risk Ranges are now:
UST 10yr Yield 2.03-2.19%
Oil WTI 52.83-60.73
Keep your head up and stick to your narratives,
Daryl G. Jones
Director of Research