THEMATIC INVESTMENT CONCLUSIONS
Long Ideas/Overweight Recommendations
- Health Care Select Sector SPDR Fund (XLV)
- Consumer Staples Select Sector SPDR Fund (XLP)
- iShares National AMT-Free Muni Bond ETF (MUB)
- iShares 20+ Year Treasury Bond ETF (TLT)
- Vanguard Extended Duration Treasury ETF (EDV)
Short Ideas/Underweight Recommendations
- iShares TIPS Bond ETF (TIP)
- SPDR S&P Regional Banking ETF (KRE)
- SPDR S&P Oil & Gas Exploration & Production ETF (XOP)
- iShares MSCI European Monetary Union ETF (EZU)
- iShares MSCI France ETF (EWQ)
***Please note that we have removed the iShares Russell 2000 ETF (IWM) from the short side of our thematic investment conclusions as of yesterday afternoon, opting to replace it with the iShares TIPS Bond ETF (TIP). Tune in to our Q1 Macro Themes conference call this Thursday at 1pm EST for an even broader update to our core long/short asset class recommendations. Email for dial-in details.***
QUANT SIGNALS & RESEARCH CONTEXT
Since our 9/23 bullish-to-bearish phase transition research note titled, “EMERGING MARKETS: THE EM RELIEF RALLY IS LIKELY OVER”, EM asset prices have fallen sharply:
- The MSCI Emerging Markets Equity Index is down -8.9%
- The JPMorgan Emerging Markets Currency Index is down -8.7%
- OAS on the Bloomberg USD Emerging Markets Corporate Bond Index has backed up +141bps to post-crisis wides of 437bps
Those returns compare to a +1.9% advance for the S&P 500 and a more modest widening of +104bps for U.S. HY OAS. Moreover, those returns don’t compare to the absolute bloodbath occurring at both the regional and country levels:
To review our bearish thesis, we see three key fundamental risks that threaten to take EM asset prices dramatically lower over the intermediate-to-long term:
- #StrongDollar translating to commodity price deflation and debt service inflation
- Market structure risks (i.e. illiquidity and crowding) perpetuating a broad de-risking of this asset class amid fund outflows
- Growth in Chinese demand slowing to levels that threaten the debt sustainability of commodity producing nations
To assess these risks in greater detail, please review our 12/16 presentation titled, “#EmergingOutflows Round II: This Time Is Actually Different”.
Ironically, hosting a conference call expanding upon our bearish thesis on emerging markets at the depths of the Russian ruble crisis on December 16th was either very fortuitous or unfortunate, depending on how one views it (i.e. generating interest via marketing vs. mark-to-market timing). Specifically, this low-volume bounce to lower-highs across the spectrum of EM asset prices has rendered our EM “short book” slightly more ineffective than we would’ve liked thus far:
Source: Bloomberg L.P.
That being said, the longs have held up quite nicely; Turkey (TUR) in particular has lead all of our ideas the bounce, suggesting we’ve likely made the correct call here. The jury is still out on whether or not Philippines (EPHE) will deliver positive absolute returns over the intermediate term (good for hedge funds) or merely outperform its peers (good for long-onlys).
All told, we think the U.S. dollar rally has legs as G-3 monetary policy is set to continue diverging over the intermediate term. That should continue to weigh on EM asset prices, at the margins, as well as deter capital flows into this asset class.
***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.
#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.
#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.