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THE HEDGEYE MACRO PLAYBOOK

Takeaway: In today's edition of Macro Playbook, we revisit the #Quad4 vs. #Quad1 debate. #Quad4 is once again winning the fight and remains our view.

THEMATIC INVESTMENT CONCLUSIONS

Long Ideas/Overweight Recommendations

  1. Health Care Select Sector SPDR Fund (XLV)
  2. Consumer Staples Select Sector SPDR Fund (XLP)
  3. iShares National AMT-Free Muni Bond ETF (MUB)
  4. Vanguard Extended Duration Treasury ETF (EDV)
  5. iShares 20+ Year Treasury Bond ETF (TLT)

Short Ideas/Underweight Recommendations

  1. iShares TIPS Bond ETF (TIP)
  2. SPDR S&P Regional Banking ETF (KRE)
  3. SPDR S&P Oil & Gas Exploration & Production ETF (XOP)
  4. iShares MSCI European Monetary Union ETF (EZU)
  5. iShares MSCI France ETF (EWQ)

 

QUANT SIGNALS & RESEARCH CONTEXT

Revisiting the #Quad4 vs. #Quad1 Debate: For the past 3-4 weeks, we’ve been highlighting the U.S. equity market’s ongoing internal struggle between #Quad4 – an economic environment where both real GDP growth and reported inflation are slowing simultaneously – and #Quad1, which is an economic environment whereby disinflation is contributing to (or at least concomitant with) an acceleration in real GDP growth.

 

For equity investors – even the most ardent stock pickers that “don’t do macro” – understanding and, more importantly, navigating this transition will be the key to generating alpha – which is becoming increasingly scarce – in 1H15:

 

Consumer Cyclical or Consumer Non-Cyclical?

 

THE HEDGEYE MACRO PLAYBOOK - XLY GIP

 

THE HEDGEYE MACRO PLAYBOOK - XLP GIP

 

Financials or Healthcare?

 

THE HEDGEYE MACRO PLAYBOOK - XLF GIP

 

THE HEDGEYE MACRO PLAYBOOK - XLV GIP

 

Offensive Small-Caps or Defensive Utilities?

 

THE HEDGEYE MACRO PLAYBOOK - IWM GIP

 

THE HEDGEYE MACRO PLAYBOOK - XLU GIP

 

On that note, let’s revisit the debate from our usual quantitative perspective. There are two signals we are looking for to justify a transition from our long-held defensive sector and style factor recommendations to a more offensive/cyclical grouping:

 

  1. The outperformance of pro-#Quad1 sectors and style factors on a trending basis
  2. Pro-#Quad1 sectors and style factors consistently atop the leader board from the perspective of TACRM’s U.S. Equity Style Factor Volatility-Adjusted Multi-Duration Momentum Indicator Ranking System

 

As the following charts show, neither #1 nor #2 are occurring at the present moment. We’ve seen glimpses of both in recent weeks, but the fact remains neither are occurring on a trending/consistent basis.

 

THE HEDGEYE MACRO PLAYBOOK - XLY vs.

Source: Bloomberg L.P. 

 

THE HEDGEYE MACRO PLAYBOOK - XLF vs.

Source: Bloomberg L.P. 

 

THE HEDGEYE MACRO PLAYBOOK - IWM vs.

Source: Bloomberg L.P. 

 

Please note that of the top-10 VAMDMI readings, #Quad4 accounts for seven of the ETFs: VNQ, IBB, XLU, IHI, IHE, XLP and XLV, while #Quad1 accounts for only two: ITB and XRT; the former is in line with our team’s now-bullish bias on the domestic housing market and the latter is supported by the recent – and nascent – uptick in consumption data.

 

THE HEDGEYE MACRO PLAYBOOK - TACRM U.S. Equity Style Factors

 

All told, the most appropriate call we can make is to stick with our pro-#Quad4 sector and style factor recommendations for the time being (i.e. healthcare, staples, utilities and REITs).

 

***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.

 

Captain Obvious: December ISM (1/6)

 

#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.

 

Grexit? Not So Fast (1/6)

 

#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.

 

#Bubbles: “Hedge Fund Hotel” Edition (Part II) (12/8)

 

Best of luck out there,

 

DD

 

Darius Dale

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.       


TODAY | Q1 2015 Macro Themes Conference Call (Video Link included)

We will be hosting our highly-anticipated Quarterly Macro Themes conference call today at 1:00pm EST. Led by CEO Keith McCullough, the presentation will detail the THREE MOST IMPORTANT MACRO TRENDS we have identified for the quarter and the associated investment implications.

 

 

CALL DETAILS


  • HedgeyeTV: Watch the live video stream above
  • Number:
  • Password: 13598477
  • Materials: CLICK HERE (slides will be available approximately one hour prior to the start of the call)

 

Q1 2015 MACRO THEMES OVERVIEW:

  • Global #Deflation: Amidst a backdrop of secular stagnation across developed economies, we continue to think cyclical forces (namely #StrongDollar driven commodity price deflation) will drag down reported inflation readings globally over the intermediate term. That is likely to weigh heavily upon long-term interest rates in the developed world, underpinning our bullish outlook for U.S. Treasury bonds (TLT, EDV, ZROZ, etc.)
  • #Quad414: After DEC and Q4 (2014) data slows, in Q1 of 2015 we think growth in the US is likely to accelerate from 4Q, aided by base effects and a broad-based pickup in real discretionary income. We do not, however, think such a pickup is sustainable, as we foresee another #Quad4 setup for the 2nd quarter. Risk managing these turns at the sector and style factor level will be the key to generating alpha in the U.S. equity market in 1H15.
  • Long #Housing?: The collective impact of rising rates, severe weather, waning investor interest, decelerating HPI, and tighter credit capsized housing in 2014.  2015 is setting up as the obverse with demand improving, the credit box opening and 2nd derivative price and volume trends beginning to inflect positively against progressively easier comps. We'll review the current dynamics and discuss whether the stage is set for a transition from under to outperformance for the complex. 

 

Contact for more information. A replay of the presentation will be distributed following the call.


Yen, Oil and S&P 500

Client Talking Points

YEN

Yen experienced textbook counter-TREND bounce on Monday (in Gold too) to lower-highs, so keep those Burning Yen shorts on as the Japanese prepare for CTRL+Print (again). There is no support to $121.27 vs. USD and we like the Weimar Nikkei long on that, +1.7% overnight after holding @Hedgeye 16,884 support.

 

OIL

Drowning out the knife catchers, call options buyers, etc. and trying to establish higher-lows in WTI’s immediate-term risk range all the while – that’s currently $47.22-52.63, so keep that in mind when you look at some of these counter-TREND bounces in Russian and Brazilian stocks (+3-5%).

 

S&P 500

Smoked some of the December 29th (SPX = 2090) momentum chasers (and call option buyers) out of their holes (95 handles lower), so we should see some follow through and a test of 2046; if it fails there and that jobs report isn’t pristine tomorrow, this gets more volatile, faster.

Asset Allocation

CASH 49% US EQUITIES 10%
INTL EQUITIES 4% COMMODITIES 0%
FIXED INCOME 27% INTL CURRENCIES 10%

Top Long Ideas

Company Ticker Sector Duration
EDV

The Vanguard Extended Duration Treasury (EDV) is an extended duration ETF (20-30yr). As our declining rates thesis proved out and picked up steam over the course of the year, we see this trend continuing into Q1.  Short of a Fed rate hike, there’s no force out there with the oomph to reverse this trend, particularly with global growth decelerating and disinflationary trends pushing capital flows into the one remaining unbreakable piggy bank, which is the U.S. Treasury debt market.

TLT

As growth and inflation expectations continue to slow, stay with low-volatility Long Bonds (TLT). We believe the TLT has plenty of room to run. We strongly believe the dynamics in the currency market are likely contribute to a “reflexive deflationary spiral” whereby continued global macro asset price deflation and reported disinflation both contribute to rising investor demand for long-term Treasuries, at the margins.

HOLX

Hologic (HOLX) is a name our Healthcare Sector Head Tom Tobin has been closing monitoring for awhile. In what Tom calls his 3D TOMO Tracker Update (Institutional Research product) of U.S. facilities currently offering 3D Tomosynthesis, month-to-date December placements signaled a break-out quarter after a sharp acceleration in October and slight correction to a still very high rate in November. We believe we are seeing a sustained acceleration in placements that will likely drive upside to Breast Health throughout FY2015. Tom’s estimates are materially ahead of the Street, but importantly this upward trend in Breast Health should lead not only to earnings upside, but also multiple expansion and a significant move in the stock price.

Three for the Road

TWEET OF THE DAY

McDonald’s cuts 63 jobs at headquarters http://nrn.com/mcdonalds/mcdonald-s-cuts-63-jobs-headquarters … via @NRNonline

@HedgeyeHWP

 

QUOTE OF THE DAY

Always do your best.  What you plant now, you will harvest later.

-Og Mandino

 

STAT OF THE DAY

In 2014, only 15.6% of the several hundred advisers monitored by the Hulbert Financial Digest outperformed the Wilshire 5000 Index. Five years ago, the proportion stood at 33.1%.


Daily Trading Ranges

20 Proprietary Risk Ranges

Daily Trading Ranges is designed to help you understand where you’re buying and selling within the risk range and help you make better sales at the top end of the range and purchases at the low end.

CHART OF THE DAY: Riding #Quad4 (Until the Data Changes)

CHART OF THE DAY: Riding #Quad4 (Until the Data Changes) - 01.08.15 chart

It’s been years since we’ve seen so many great long and short ideas across the Global Macro universe. At 1PM EST today, our macro team led by CEO Keith McCullough will review our Global Macro Themes for Q1 of 2015. Ping sales@Hedgeye.com if you’d like access. 


Nonrandom Patterns

“All fixed patterns are incapable of adaptability. The truth is outside of all fixed patterns.”

-Bruce Lee

 

For those of us who embrace the non-linearity and uncertainty of Global Macro markets, how good is that quote? I can’t believe it took me this long into my career to find it. The more I read, the less I realize I really know.

 

Non-fixed market patterns. They are dynamic and constantly testing consensus narratives. Some of the best Bayesians in our profession get this. While they aren’t in the business of providing us their #process, they do make a lot of money front-running market truths.

 

“In 1993, Renaissance Technologies hired away from IBM a Bayesian group of researchers… searching for nonrandom patterns that will help predict markets, RenTech gathers as much information as possible. It begins with prior knowledge about the history of prices and how they correlate with eachother…”The Theory That Would Not Die (pg 237)

Nonrandom Patterns - 99

 

Back to the Global Macro Grind

 

What an excellent start to 2015! It’s been years since I’ve seen so many great long and short ideas across the Global Macro universe. If your portfolio mandate is diversified and flexible (across asset classes), I think you can have a crusher of a year!

 

Pardon? Yep, those who have been chasing single-factor #MovingMonkey models aren’t quite down with my optimism. But hey, I’m an optimistic guy – I’ve always thought that those who evolve their #process and adapt the fastest will ultimately win.

 

At 1PM EST today I’ll review our Global Macro Themes for Q1 of 2015 (ping if you’d like access). In customary hash-tag style, our current themes are as follows:

  • Global #Deflation: Amidst a backdrop of secular stagnation across developed economies, we continue to think cyclical forces (namely #StrongDollar driven commodity price deflation) will drag down reported inflation readings globally over the intermediate term. That is likely to weigh heavily upon long-term interest rates in the developed world, underpinning our bullish outlook for U.S. Treasury bonds (TLT, EDV, ZROZ, etc.)
  • #Quad414: After DEC and Q4 (2014) data slows, in Q1 of 2015 we think growth in the US is likely to accelerate from 4Q, aided by base effects and a broad-based pickup in real discretionary income. We do not, however, think such a pickup is sustainable, as we foresee another #Quad4 setup for the 2nd quarter. Risk managing these turns at the sector and style factor level will be the key to generating alpha in the U.S. equity market in 1H15.
  • Long #Housing?: The collective impact of rising rates, severe weather, waning investor interest, decelerating HPI, and tighter credit capsized housing in 2014.  2015 is setting up as the obverse with demand improving, the credit box opening and 2nd derivative price and volume trends beginning to inflect positively against progressively easier comps. We'll review the current dynamics and discuss whether the stage is set for a transition from under to outperformance for the complex. 

While commercializing my research and risk management process will continue to take time, after 7 years of doing this from an independent research provider perspective, I think we’ve made significant progress.

They key word in that statement is we.

 

Our Macro Team is not only up to 6 analysts at this point – they have matured into a very cohesive unit of selfless grinders who not only work very well together, but question one another’s premise, so that we keep finding ways to front-run consensus market truths.

 

As legendary Macro maven Ray Dalio likes to ask, “what is the truth?”

 

Well, on yesterday’s US stock market bounce:

 

  1. Healthcare (XLV) led the rally +2.4%
  2. Consumer Staples (XLP) wasn’t far behind at +1.7%
  3. And Energy Stocks (XLE) continue to suck wind (+0.2%)

 

And, if all you do is US Equities, that’s precisely the Macro Playbook (ask sales for our daily note on that with Top/Bottom 5 ETFS, long/short) we have for you while we are still in #Quad4 reporting season (December and Q4 GDP data all gets reported in January).

 

As we roll out of that into Q1, we think you should be tilting to early-cycle (LONG) and late-cycle (SHORT). I’ll explain both asset-class-rotation and catalysts/timing as best I can on our 1PM call today. We hope you can find the time to dial in.

 

If I’m wrong on the timing and patterns of behavior born out of my macro calendar catalysts, I’ll do the only thing a humble servant to Mr. Macro Market knows – adapt to the prior, so that I can best position for the next posterior.

 

Our immediate-term Global Macro Risk Ranges are now:

 

UST 10yr Yield 1.91-2.12%

SPX 1195-2046

Nikkei 168

YEN 118.11-121.27

Oil (WTI) 47.22-52.63

Gold 1195-1225

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Nonrandom Patterns - 01.08.15 chart


SBUX: Why We Think It's a Short

We first laid out our bearish thesis on a conference call back in September 2014.  Let us know if you’d like a copy of the slide deck.

 

This note is accompanied by an updated, condensed slide deck that visually runs through the bear case.  CLICK HERE for access.  We encourage you to read the note prior to running through the deck.

 

 

Point #1: ‘Big Bets’ Carry Risk

As we see it, the “biggest bet” the company is making is on its food strategy and the implications for overall performance of breakfast and lunch.  SBUX is investing a substantial amount of time and effort into building food sales, without the benefit of having equipment or a process that allows them to produce the food fresh.  Food is the biggest risk to the DNA of the company because, in our view, it will never be on-par with the quality of beverages consumers have come to expect from Starbucks.  Handcrafted beverages and food served wrapped in plastic are not complimentary.  It’s also difficult to imagine that other QSRs and fast casual restaurants will idly sit by and let SBUX scoop up incremental market share.

 

Point #2: Signs of Domestic Maturation

There’s no two ways about it.  The business is steadily decelerating in the U.S.  Two-year average same-store sales have decelerated 250 bps from the recent highs of 4Q11.  Even more concerning, two-year average traffic has decelerated 300 bps from the recent highs of 3Q13 and, last quarter, was up a measly +1%.  The recent composition of comps has been weak, yet the street expects the company to produce 5%+ comps throughout 2015.  If comps come in below cheery estimates, Starbucks will not hit its earnings numbers. 

 

SBUX: Why We Think It's a Short - sbux chart 1

 

Point #3: Menu Proliferation Rearing Its Ugly Head

Our short call argues that the proliferation of new menu items is in fact slowing service times and traffic trends.  Management was hard pressed on this issue on the 4Q14 earnings call and was in complete denial about the possibility of a throughput issue.  In fact, they attributed the entire slowdown to the macro environment and a shift in consumer shopping patterns.

 

SBUX: Why We Think It's a Short - chart2

 

Point #4: CAP & EMEA Are Irrelevant

We often hear pushback from bulls that Starbucks has an enormous growth opportunity in CAP and that EMEA has turned the corner.  Look, we get it – the company has plenty of international expansion ahead.  But, the fact of the matter is, this is irrelevant to the business today.  EMEA only contributed ~3% to operating profits in Fiscal 2014.  CAP, where same-store sales and traffic trends have been in freefall, only contributed ~10%.  This business, for now, is about the U.S. – a market which is undoubtedly showing signs of maturation.

 

SBUX: Why We Think It's a Short - chart 3

 

Point #5: Japan Acquisition Reeked Of Desperation

Shortly following our bearish conference call back in September 2014, Starbucks announced its intentions to acquire the remaining 60.5% share of Starbucks Japan in a two-step tender offer process that should be fully completed in the first half of this year.  To be frank, this acquisition makes strategic sense over the long-term as it will allow the company to capture the significant growth opportunity left in that region.  It’s a large market for Starbucks ($1.2 billion in revenues), boasts high store-level profit margins (20-25%), and should be immediately accretive to EPS. 

 

The timing of the deal, however, is what really raised some eyebrows.  In our view, this transaction was completed, at this specific point in time, in attempt to mask a slowing core business.  The company could've done this deal at any time in the past three years, but did not need to given strong sales trends and a significant commodity tailwind.  With these trends reversing, expectations for 17% EPS growth in FY15 still look aggressive, despite the transaction.

 

Point #6: DNKN Debacle & Parallels

Mid-December, Dunkin’ guided to disappointing full-year 2014 comps of +1.4%, below the +1.8% consensus estimate.  The read-through was quite discouraging, as it implied 4Q comps in the range of +0.5-0.8%, well below the +2.2% consensus estimate.  The company also guided down full-year 2015 EPS by $0.11-0.14 to $1.88-1.91.  This made us consider whether or not Starbucks is seeing similar pressure in their business.

 

While it pains many people to compare Starbucks to Dunkin’ Donuts, the reality is that the correlation between the two company’s same-store sales is an alarming 0.75 since the beginning of calendar 2011.  It’s difficult for us to sit here and pretend Starbucks is fully immune to the softness Dunkin’ is facing.

 

SBUX: Why We Think It's a Short - 4

 

Point #7: Hyped Up Holiday Season

Let’s face it – Starbucks 4Q14 print was not a pretty one, resulting in multiple downward revisions in 2015 EPS estimates.  Despite this, it’s been clear to us that the street has given management “a pass,” for now, opting instead to wager that holiday promotions and “Starbucks for Life” will drive accelerated traffic in 1Q15.  If there’s one thing we’ve learned over the years, it’s that the holiday season is almost always overhyped – and, this year, we’re not buying it.

 

Point #8: Operating Leverage Is Gone

The core of our thesis is playing out exactly as expected.  This is a business model that is completely lacking incremental leverage.  If sales and traffic continue to surprise to the downside, Starbucks will continue to miss its numbers.  Management is currently struggling to find additional leverage in the model in order to offset a reversing sales trends and a commodity headwind.  Efforts to pull labor from stores come with the massive risk of exacerbating recent comp and traffic deceleration.  With the cadence of comps already weak (fueled by unsustainable average check growth), management has suddenly found itself between a rock and a hard place.

 

SBUX: Why We Think It's a Short - 5

SBUX: Why We Think It's a Short - 6

 

Point #9: Sentiment Is Shifting

We’ve been the lone bear on Starbucks since our initial call back in September.  Even with the overwhelmingly majority of the street bullish (80.6% Buys; 1.62% Short Interest), we feel the tide is slowly turning.  In fact, last week a competitor downgraded the stock to Neutral in a note which cited multiple factors, including concerns about near-term comp trends.  Analysts are hesitant to take on an unfavorable view of the restaurant industry’s darling, and we get that, but the good news is sentiment can only get worse from here.

 

Point #10: Fundamental Disconnect

While our thesis is playing out to a tee, the stock has yet to move in our favor.  Consider this:  since the end of October, FY15 EPS estimates have been revised down by $0.04 while the stock has traded up nearly 7% to $81.18 per share.  While these aren’t substantial moves on either account, they are notable – and they certainly shouldn’t be ignored.  If comps come in below the street’s estimates at all in 2015, there will almost certainly be another leg down in the red line below.

 

SBUX: Why We Think It's a Short - 7 


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