My Crystal Ball

This note was originally published at 8am on January 06, 2015 for Hedgeye subscribers.

“It’s far better having an approximate answer to the right question, than an exact answer to the wrong question.”

-John Tukey

Tukey was one of the most important mathematicians of the 20^th century. The probability man died in 2000 and the only knock on him is that he went to Princeton. Yes, he was a Bayesian. He was also a Bell Labs guy. That’s where they asked the right questions.

The Global Macro question remains: will global #GrowthSlowing + #Deflation matter to both the US economy and its stock, bond, currency, and commodity markets? If you thought yes, then how so? Oh, and how did you position for that?

After rubbing it this morning, my crystal ball (my wife got me one for my birthday – no joke, a real one) says A) yes, it mattered and B) it translated into both crashing global long-term bond yields and commodity prices. “So”, let’s keep re-positioning…

Back to the Global Macro Grind…

Re-position? Yes, as in rotate. With the UST 10yr Yield tapping the 1%-handle this morning:

1. Book some gains in those Long Bond (TLT, EDV, BND, MUB, etc.) holdings
2. Re-position some of that capital into oversold US consumption equities
3. And send your Old Wall broker an email that says your crystal ball guy said to :)

In Hedgeye Asset Allocation terms (re-positioning = rotation of the allocation!), that means:

1. Taking net Fixed Income down from max allocation to an asset class (1/3 of my capital) to +28%
2. Taking net US Equity asset allocation up from +3% on December 29^th, 2014 to +10%
3. Do nothing in International Equities and/or Commodities

No, I don’t want to chase Gold up here. I haven’t told you to engage in amateur knife catching crude oil contests for the last 6 months either. My net asset allocation to #deflation (Commodities) = 0% because the answer to THE question mattered.

“Net” – what does that mean, net?

Net (and in rate of change terms) is how I think. Not because my crystal ball told me so (remember, I didn’t have one until today!), but because that’s how I learned, at a young age in the hedge fund business, to manage risk.

I know having longs and shorts isn’t for everyone. And it really shouldn’t be. On the short side in particular, at least 2/3 of hedge funds don’t do the hedging thing very well, don’t forget.

We are better than bad at that – and we also don’t tell our long only investors to chase tops. That’s why I referenced December 29^th, specifically. If you are in the business of compounding returns and dynamically allocating assets, that day mattered because:

1. The SP500 was 70 handles higher than yesterday’s 2020 close, at an all-time closing high of 2090
2. The yield on the 10yr US Treasury was 2.25%

If you are a portfolio manager of anything Fixed Income or US Equities, THE question that day was:

1. BUY
2. SELL
3. Or DO NOTHING?

As all of you veterans of the risk management gridiron know, sometimes doing nothing is the best answer. But, unless you are in the business of low-fee generating-passive-asset-management, sometimes you do need to BUY or SELL!

“So”, as the Old Wall analysts like to say, on December 29^th:

1. If you bought more Long Bond (TLT) exposure, the 10yr Yield just had a 12% move from there (1.98% last)
2. If you bought more SPY (there was a big fund flow into it that week), you just lost -3.3%

“So”, crystal ball says you wanted to have done 1. And not 2.

The other thing crystal ball is telling me this AM is don’t short the Russell 2000 today. #Pardon? Yes. You heard it from whatever this transparent ball is that I am rubbing this morning first! Do not short the IWM because:

1. After another swift -3.1% correction, the Russell 2000 is signaling immediate-term TRADE oversold
2. The inverse of that beta trade (VIX) is signaling immediate-term TRADE overbought at 20.59
3. Hedge Fund Consensus is short the Russell (IWM) vs long SPY

Back to the “net” concept. If you want to earn your keep in 2 and 20 land, it’s usually best to not be pressing the lows on the short side of your net exposure in a crowded macro short.

Rather than rant any further this morning, here’s a 2 minute video explaining why “I Would Not Do What Hedge Funds Are Doing” in what was one of our best Global Macro short ideas 1-year ago today: https://www.youtube.com/watch?v=hrl7J_HVKZw

Crystal Ball just told me to stop there. #Cool. I’m already starting to like this thing.

Our immediate-term Global Macro Risk Ranges are now:

UST 10yr Yield 1.97-2.16%

SPX 2017-2051

VIX 16.26-20.59
Oil (WTI) 48.45-54.15

Gold 1166-1217

Copper 2.73-2.84

Best of luck out there today,

KM

Keith R. McCullough
Chief Executive Officer