Is Draghi preparing to act against deflation? Or is deflation preparing to act against Draghi?
Hedgeye CEO Keith McCullough shares the top three things in his macro notebook this morning.
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On this morning’s institutional Macro Call, Hedgeye CEO Keith McCullough navigates through myriad growing market and economic risks around the world, highlights some of his favorite (and least favorite) ideas, and warns that if the ECB’s Mario Draghi disappoints investor expectations tomorrow, beware of market nastiness.
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Takeaway: We're inclined to expect a pullback in cross-asset beta on further consolidation in the USD/JPY cross amid a bullish TREND in volatility.
THEMATIC INVESTMENT CONCLUSIONS
Long Ideas/Overweight Recommendations
- iShares U.S. Home Construction ETF (ITB)
- Health Care Select Sector SPDR Fund (XLV)
- Consumer Staples Select Sector SPDR Fund (XLP)
- PowerShares DB U.S. Dollar Index Bullish Fund (UUP)
- iShares 20+ Year Treasury Bond ETF (TLT)
- LONG BENCH: Vanguard REIT ETF (VNQ), Utilities Select Sector SPDR Fund (XLU), Vanguard Extended Duration Treasury ETF (EDV)
Short Ideas/Underweight Recommendations
- iShares TIPS Bond ETF (TIP)
- iShares MSCI Emerging Markets ETF (EEM)
- Industrial Select Sector SPDR Fund (XLI)
- SPDR Barclays High Yield Bond ETF (JNK)
- CurrencyShares Japanese Yen Trust (FXY)
- SHORT BENCH: SPDR Oil & Gas Exploration & Production ETF (XOP), CurrencyShares Euro Trust (FXE), WisdomTree Emerging Currency Fund (CEW)
QUANT SIGNALS & RESEARCH CONTEXT
Barring a Positive ECB Surprise, Expect a Pickup in Cross-Asset Volatility Following Today’s Disappointing BoJ Announcement: Overnight, the Bank of Japan concluded its two-day monetary policy meeting. The takeaways were unspectacular – for Japanese yen bears, that is:
- No change to the existing QQE program, which targets an ¥80T annual increase in JGBs, a ¥3T annual increase in ETFs, a ¥90B annual increase in J-REITs, a ¥2.2T annual increase in commercial paper and a ¥3.2 annual increase in corporate bonds.
- Marginal adjustments to their Stimulating Bank Lending Facility (i.e. increasing individual allotments to ¥2T from ¥1T; increasing the total allotment to ¥10T from ¥7T) and their Growth-Supporting Funding Facility (i.e. expanding the base of institutions that can access the program). Both programs were extended by one year.
- The key incremental data point is the BoJ’s sharp revisions to its growth and inflation forecasts, which were set back in October. Like the FOMC, the BoJ updates its economic outlook 2x annually (in April and October) and revised them 2x annually as well (in January and July). The net result of today’s revisions is a dramatically lowered probability for QQE expansion in the near term (i.e. ~2-3 months).
- On Real GDP growth, the BoJ revised up its FY15 and FY16 forecasts by +60bps and +40bps, respectively, to +2.1% and +1.6%. The board cited a large tailwind from energy price deflation as the primary reason for the material shift higher. Clearly they are not paying attention to U.S. retail sales data…
- On Core CPI – which excludes both the prices of fresh food and the effects of the consumption tax hike – the BoJ revised down its FY15 forecast by -70bps to +1%. It nudged up its forecast for FY16 by +10bps to +2.2%, citing a reflationary tailwind of [assumed] higher wage growth on the strength of what they anticipate as the start of a self-perpetuating cycle of consumption and wage growth.
It’s worth noting that we [continue to] strongly disagree with just about every assumption they make in their economic forecasts.
On growth, the base effect alone will prevent Japan from even sniffing its GDP target for FY15. In our Bayesian prior/posterior forecasting process, a probable draw-down in 1Q15 GDP growth will likely set the Japanese economy back in a material way ahead of a likely 2H15 recovery:
On inflation, #StrongDollar commodity price deflation and a brutal demographic outlook continues to weigh on both reported CPI and structural inflation expectations in Japan:
Net-net, the BoJ will remain well shy of its “+5% Monetary Math” mandate over the intermediate term (i.e. the ~NTM):
So what happens next? We think the both the USD/JPY cross and the Japanese equity market are at risk of consolidating meaningfully over the next ~2-3 months as investors are forced to delay their expectations for QQE expansion – which we now see April as the most likely timeframe:
This is especially true in the context of the crowded net lean in the latter index throughout the buy-side; it won’t take much JPY appreciation to smoke the Nikkei down 5-10%:
All told, market participants – ourselves included – who are stuck on the wrong side of the Abenomics trade here should strongly consider hedging a probable pickup in volatility over the near-term. Our intermediate-to-long-term call for 135-147 on the USD/JPY cross and ~25k on the Nikkei remains intact, however.
Beyond that, the knock-on effects of a potential ~2-3 month consolidation phase on the USD/JPY cross would be many:
EM equities up?
EM FX and EM USD debt up? Or down if JPY appreciation perpetuates cross-asset volatility as it has been known to do (per the most immediate-term correlation):
Commodity prices up? Or down if JPY appreciation perpetuates cross-asset volatility as it has been known to do (per the most immediate-term correlation):
U.S. equities down?
With the VIX smack dab in the middle of our 16.66 to 23.06 immediate-term risk range, it’s tough to have a concrete call on the spillover effects today. That being said, however, we’re definitely inclined to expect a pullback in cross-asset beta on further consolidation in the USD/JPY cross as the TREND in volatility remains bullish:
***CLICK HERE to download the full TACRM presentation.***
TRACKING OUR ACTIVE MACRO THEMES
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.
#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.
The Hedgeye Macro Playbook (1/16)
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.
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.
Takeaway: E-comm biggest movers in 2014. Pos: NKE, ZU. Neg: Toys, LB, JCP, Zappos, SHLD. Easy comps and gas prices haven't flowed through ICSC #'s.
Takeaway: A slight acceleration on both the 1 and 2yr trend lines, but January numbers aren't exactly blowing the roof off through the first 3-weeks of Jan. Comps are easy because of last year’s polar vortex, the average price of a gallon of gas is 40% below LY, but we still haven't seen that translate into $$$ at the retail cash register, or at least not the retailers that ICSC tracks.
NKE, LB, AMZN - Who were America’s biggest Web traffic winners and losers in 2014?
Takeaway: We track visitation stats through half a dozen sources for 250 sites across retail. But this is an interesting snapshot of the biggest winners and losers across the whole e-comm spectrum. Notable callouts on the negative side: Toys R Us, LB, JCP, AMZN (zappos.com), SHLD. On the positive side: NKE, ZU, AMZN (6pm.com). The two names that surprised on the negative side were LB and zappos. The first makes sense given the brand discontinued its direct apparel business in 2014. Zappos on the other hand made us pause, until we ran the numbers and found that while Zappos online market share in apparel and footwear has held flat in the 4.7% range for the past 4 years, AMZN has increased its penetration by 420bps to 14.7%. The more interesting thing to us is Nike on the positive side, which is the only Brand or Brick and Mortar retailer to land in the top 35. As we outlined in our Athletic Black book in December, 46% of consumers would prefer to visit nike.com first when shopping Nike footwear or apparel online. That coupled with the company's more vocal stance on its desire to grow its own DTC business = a significant headwind for traditional wholesale accounts.
RL, NKE - Converse, Ralph Lauren Enter Trademark Settlement Agreement
SHLD, TGT - Sears Canada Offers Criticism Of Target Canada, Discount And Jobs To Workers
SPLS, ODP - Starboard Releases Letter to Staples CEO and Board of Directors
U.S. Supreme Court Declines Challenge to Debit Card Rules
WMT - Walmart Launches First-of-its-Kind Cash Pickup Option for Tax Refunds
DECK - Deckers Brands Appoints David Lafitte To Chief Operating Officer
Sports Direct Shares Tumble as Founder Ashley Sells Shares
PVH - Hilfiger Takes Showroom Digital
Hedgeye’s Macro and Energy teams will host a guest speaker call TODAY at 1:00pm EST to discuss current trends in and implications of the commodity hedging practices of US E&Ps, natural gas processors, and various industrial commodity consumers.
The call will feature Wayne Penello and Andy Furman of Risked Revenue Energy Associates (“R^2”). R^2 is an independent hedge advisor serving E&P companies, midstream service providers, and large consumers. Wayne Penello is the President and Founder of R^2, and has 30 years of experience in commodity options trading, market-making, and asset management. Andy Furman has 25 years of experience in energy trading and is an expert at valuing and trading options.
Participant Dialing Instructions
Toll Free Number:
Direct Dial Number:
Conference Code: 962793#
Materials: CLICK HERE
Topics for Discussion
- Overview of R^2’s services, clients, and proprietary risk management systems;
- The mechanics of entering into a commodity hedge;
- Assessment of current industry hedge positions;
- R^2’s commodity price outlook for crude oil, natural gas, and NGLs;
- Client psychology – what E&Ps are currently thinking and doing in the oil, gas, and NGL markets;
- Likely result of borrowing-base determinations from financial institutions;
- The challenge and opportunity in hedging NGLs;
- And more…
About Risked Revenue Energy Associates:
R^2 is a consultant and market agent in the energy space serving upstream, midstream, and end users of energy-related commodities (including private equity interests). R^2 brings over 150 years of experience including but not limited to market-making, trading, asset management, and industry expertise. The firm utilizes a patented risk management strategy to help implement and stress test a company’s hedge book, leverage, and cash flows, among a long list of other metrics under various scenarios. R^2 suggests the most relevant hedging strategies and negotiates/executes on behalf of their clients on a daily basis.
Wayne Penello is the President and Founder of R^2. He has 30 years of market-making, option trading and asset management experience in the energy industry. Mr. Penello began his career on the New York Mercantile Exchange, where he was a market maker and served as Ring Chairman of options trading. Subsequently, he held positions managing globally distributed energy assets for Vitol S.A., Vitol U.S.A., Tenneco Gas Marketing and Torch Energy. Mr. Penello was formerly a research scientist. He holds a Masters degree in Marine Sciences from Stony Brook University and an undergraduate degree in Marine Biology from Southampton College.
Andy Furman was co-founder and CEO of Atlantic Capital Consultants, an options market-making firm on the NYMEX from 1987 – 2001. After leaving the NYMEX trading floor in 2001, Mr. Furman traded for hedge funds. Most recently he held the position of Managing Director for Hudson Capital Group, LLC where as Manager and Trader for Energy Futures and Options he used spread arbitrage and option strategies to achieve consistent profitability. Mr. Furman holds a Bachelor of Science degree in Chemical Engineering from MIT.
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