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Keith's Macro Notebook 1/29: Commodities | UST 10YR | S&P500

 

Hedgeye CEO Keith McCullough shares the top three things in his macro notebook this morning.


Earnings Season: Not Good

Client Talking Points

COMMODITIES

Commodities are down another -1.3% yesterday to 215 is a fresh new multi-year closing low for the 19 component CRB Index. Oil is already -16.5% year-to-date and Copper (down another -1.6% this morning) isn’t far behind at -13.4% - this has been a clean cut phase transition to #deflation expectations that will be very difficult for any central planner to reverse.

UST 10YR

But don’t confuse Draghi’s move with results where it matters; inflation expectations are falling faster now (Down Euro = Up Dollar à #Deflation Risk) with the CRB Index dropping -1.3% yesterday to multi-year lows. Copper is getting smoked to -10.2% year-to-date this morning, and Oil signaling a lower-low of support down at $44.82.

S&P 500

The SPY broke our intermediate-term TREND line of 2022 again yesterday. This is the 3rd time it has snapped that line since the mid-DEC lows. With massive Euro QE old news now… and no more year-end markups, what is the catalyst to get this puppy back to those nosebleed DEC 29th all-time closing highs of 2090? It’s definitely not earnings.

Asset Allocation

CASH 52% US EQUITIES 4%
INTL EQUITIES 3% COMMODITIES 2%
FIXED INCOME 32% INTL CURRENCIES 7%

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

Memo to $MCD CEO Mr Easterbrook: Your turnaround plans should resemble a store remodel, but this is one is a major "scrap and rebuild"

@HedgeyeHWP

QUOTE OF THE DAY

The quality of an individual is reflected in the standards they set for themselves.

-Ray Kroc

STAT OF THE DAY

Apple has now sold over a billion iOS devices, ringing in 74.5 million iPhone sales in its most recent quarter.


January 29, 2015

January 29, 2015 - Slide1

 

BULLISH TRENDS

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January 29, 2015 - Slide5

 

 

BEARISH TRENDS

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January 29, 2015 - Slide13


investing ideas

Risk Managed Long Term Investing for Pros

Hedgeye CEO Keith McCullough handpicks the “best of the best” long and short ideas delivered to him by our team of over 30 research analysts across myriad sectors.

CHART OF THE DAY: The Hedgeye “Avoid, Sell, Short” List

CHART OF THE DAY: The Hedgeye “Avoid, Sell, Short” List  - 01.29.15 Chart

 

Editor's note: This is a brief excerpt from today's Morning Newsletter by CEO Keith McCullough. 

 

  1. Energy Stocks (XLE) got smoked for another -3.9% down day yesterday as Oil/Nat Gas continue to crash
  2. Financials (XLF) underperformed a -1.3% SPY, closing -1.8% on the day at -6.2% YTD
  3. Industrials (XLI) “outperformed” at -0.9% on the day but are down the same as SPY YTD at -3.1%

 

Since all 3 of these S&P Sectors remain on our “avoid, sell, short, etc.” list (they are both late-cycle and carry explicit Global #Deflation risks), I’ll just reiterate that call this morning – because it’s easy to.



Lots of Questions

“The best way to get a good idea is to have a lot of ideas.”

-Linus Pauling

 

Linus Pauling was one of the most influential American scientists of the 20th century. He locked down his officialdom prize (Nobel) in chemistry in 1954 and is widely considered the forefather of molecular biology and quantum chemistry.

 

I love his creativity quote. I found it in a chapter of The Medici Effect (page 103) titled “How To Capture The Explosion – MacGyver and Boiling Potatoes.” I highly recommend you take the time to read that book.

 

I’d also suggest you take Pauling’s independent research advice one step further and apply it to your risk management #process. The best way to manage the risk in your portfolio of ideas is to ask yourself lots of macro questions.

 

Lots of Questions - Linus Pauling

 

Back to the Global Macro Grind

 

With the SP500 down for 3 of the last 4 trading days and down -2.7% for the YTD (vs. the total YTD return of our TLT up over +9%), have you asked yourself whether or not earnings season is what you thought it was going to be?

 

If you’re honest with yourself, you’ll note that the SP500 has only had 1 up week in 2015, and that had nothing to do with nothing other than the Europeans forcing yet another central plan on what used to be free-markets.

 

This leads me to asking myself lots of questions in the Global Equity sphere:

 

  1. On Europe, post the 3-day Viagra ramp, what’s next? Buy European stocks because things are that bad?
  2. On China (down -3.8% in the last 3days on #GrowthSlowing), do I buy it because it’s slowing?
  3. Do I buy #Deflation Domino markets that got crushed yesterday (Argentina -2.8%, Brazil -1.9%, Canada -1.6%)?

 

What if you can only buy US Equities?

 

  1. Energy Stocks (XLE) got smoked for another -3.9% down day yesterday as Oil/Nat Gas continue to crash
  2. Financials (XLF) underperformed a -1.3% SPY, closing -1.8% on the day at -6.2% YTD
  3. Industrials (XLI) “outperformed” at -0.9% on the day but are down the same as SPY YTD at -3.1%

 

Since all 3 of these S&P Sectors remain on our “avoid, sell, short, etc.” list (they are both late-cycle and carry explicit Global #Deflation risks), I’ll just reiterate that call this morning – because it’s easy to.

 

Back to the questions…

 

  1. Do we buy more Long Bonds (TLT, EDV, ZROZ), Munis (MUB), and low-volatility-high-return securities like them?
  2. Do we book some gains in some of those and buy more equally “expensive” stock sectors like Utes (XLU) and REITS (VNQ)?
  3. Do we own both long-duration bonds and some lower-beta, higher-return sectors like Staples (XLP) and Healthcare (XLV)?

 

Oh, and how does one justify bucking up for something that is “expensive” if one didn’t get that they should have bought it when it was less-expensive to begin with? That’s their storytelling problem. Let them deal with it.

 

Another question on valuation: what if you bought Energy stocks because you thought they were “cheap”, and the earnings just got cut in half, so now you own what’s one of the most expensive sectors in the S&P 500 anyway?

 

Two more very basic questions in risk managing the macro side of your portfolio:

 

  1. Doesn’t “expensive” get more expensive when investors seek liquidity and shelter (Long-term Treasuries)?
  2. Doesn’t “cheap” get cheaper when investors shun illiquid investments that have deteriorating fundamentals?

 

If you’ve studied macro market #history, you know the answers to these questions are not what you will find in bottom-up Value Investing books. In the intermediate-term, Mr. Macro Market doesn’t care about valuation – he cares about risk.

 

Individual stocks clearly care about their own rate of change fundamentals. If growth is accelerating and margins are expanding, they get multiple expansion. Whereas companies who show #GrowthSlowing and margin compression get multiple compression.

 

That’s why identifying bottom-up stock ideas like AAPL in an environment like this helps you crush your competition. Don’t you want to own stocks that can generate multiple expansion in a market like US Equities that has multiple compression risk? Indeed.

 

Our immediate-term Global Macro Risk Ranges are now:

 

UST 10yr Yield 1.71-1.82%

SPX 1

VIX 16.73-23.27

Oil (WTI) 43.69-46.44
Gold 1
Copper 2.42-2.54

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Lots of Questions - 01.29.15 Chart


THE HEDGEYE MACRO PLAYBOOK

Takeaway: Today we show how consensus is not in area code of being bullish enough on the U.S. dollar and how that is likely to impact U.S. stocks.

THEMATIC INVESTMENT CONCLUSIONS

Long Ideas/Overweight Recommendations

  1. Consumer Staples Select Sector SPDR Fund (XLP)
  2. iShares U.S. Home Construction ETF (ITB)
  3. Health Care Select Sector SPDR Fund (XLV)
  4. PowerShares DB U.S. Dollar Index Bullish Fund (UUP)
  5. iShares 20+ Year Treasury Bond ETF (TLT)
  1. LONG BENCH: Vanguard REIT ETF (VNQ), Utilities Select Sector SPDR Fund (XLU), Vanguard Extended Duration Treasury ETF (EDV)

Short Ideas/Underweight Recommendations

  1. iShares TIPS Bond ETF (TIP)
  2. CurrencyShares Japanese Yen Trust (FXY)
  3. iShares MSCI Emerging Markets ETF (EEM)
  4. SPDR Barclays High Yield Bond ETF (JNK)
  5. Industrial Select Sector SPDR Fund (XLI)
  1. SHORT BENCH: SPDR Oil & Gas Exploration & Production ETF (XOP), CurrencyShares Euro Trust (FXE), WisdomTree Emerging Currency Fund (CEW)

 

QUANT SIGNALS & RESEARCH CONTEXT

The U.S. Dollar Is Crushing Naysayers: Those of you who are familiar with our work know that core to our research and risk management processes is a behavioral finance overlay that centers mostly on sentiment. Specifically, we believe there are three states of sentiment that investors must attempt to contextualize prior to taking a position in or formulating a view on a specific security or market:

 

  1. Bullish
  2. Bearish
  3. Not enough of either

 

In that context, we continue to believe that consensus is not in the area code of being Bullish Enough on the U.S. dollar.

 

As you know, we’ve been dollar bulls for nearly six months now in conjunction with our #Quad4 theme and what continues to amaze us about the strength in the U.S. Dollar Index is the level of disbelief among investors with respect to the velocity of its appreciation.

 

THE HEDGEYE MACRO PLAYBOOK - DXY GIP

 

Anecdotally speaking, I can count on one hand the number of institutional clients that expect parity in the EUR/USD cross and/or reversion to the August ’98 highs of ~147 on the USD/JPY cross.

 

THE HEDGEYE MACRO PLAYBOOK - EUR   JPY

 

But why use anecdotes when you can use math?

 

Specifically, the sell-side (i.e. Bloomberg consensus) expects the U.S. Dollar Index (DXY) to appreciate +1.3% to 95.68 by EOY ’15 based on our weighted amalgamation of all the constituent currency forecasts.

 

That sounds reasonable, but not in the context of them expecting it to appreciate +2.2% to 92.27 by EOY ’15 at the end of last year. It’s worth noting that 92.27 is a full -2.5% lower than where the DXY is trading today – just four weeks later!

 

In line with their institutionalized processes, sell-side forecasts for key USD crosses are likely to continue chasing trending price momentum – within one sigma of the median forecast, of course! Can’t risk being isolated from the herd…

 

THE HEDGEYE MACRO PLAYBOOK - DXY Bloomberg Consensus NTM Forecast

 

What about the buy-side? Have institutional investors been any better at forecasting where the dollar has been headed? Absolutely not. Far from it actually.

 

For example, let’s review how buy-side consensus was positioned ahead of the ECB smoking the EUR/USD cross to ~12yr lows with the announcement of its QE program last week. At the end of last year, the most probable spot price range for January 22nd was 1.2131-1.2162 according to Bloomberg’s FX Rate Forecast Model. The left tail of the 95% confidence interval band was 1.1526. The EUR/USD cross closed at 1.1366, a 0.24% probability just some ~3 weeks earlier!

 

THE HEDGEYE MACRO PLAYBOOK - ECB

Source: Bloomberg

 

Why was the precipitous YTD decline of -6.6% on the EUR/USD cross considered such a low probability among investors?

 

Anecdotally, some investors were myopically focused on the hawkish commentary emanating from the Bundesbank – Wolfgang Schaeuble in particular – in their relatively hawkish handicapping of ECB QE risk(s). Other investors were myopically focused on the Fed and what a deteriorating outlook for growth and/or inflation would do to the FOMC “dot plot” and, ultimately, the U.S. dollar.

 

While both views can be considered to be well within reason at the time(s), the fact of the matter is that both views were ultimately proved wrong by the market. Fortuitously, our team has been on the right side of the long-dollar trade all along.

 

With respect to the Fed in particular, the “dots” continue to get punted at every interval yet the dollar continues to ascend to new heights.

 

Specifically, according to the Fed Funds futures curve, the probability of “liftoff” (i.e. a rate hike) by the December 2016 FOMC meeting at the May 6th 52-week low in the DXY was 90.8% (100% less a 1.4% probability of 0% less a 7.8% probability of 0.25%). It regressed to 86.1% by the end of last year and further to 65.3% currently.

 

THE HEDGEYE MACRO PLAYBOOK - 5 6 14

Source: Bloomberg

 

THE HEDGEYE MACRO PLAYBOOK - 12 31 14

Source: Bloomberg

 

THE HEDGEYE MACRO PLAYBOOK - 1 29 15

Source: Bloomberg

 

With long-duration Treasury bonds continuing their moonshot higher (yes, we’ve been bullish on those too), the rates market clearly gets this dynamic.

 

What the currency market is failing to appropriately price in is the global monetary policy divergence we have identified and continue to view as supportive of the USD over the intermediate term and potentially over the long term if the 2016 election cycle portends a structurally hawkish shift in monetary and fiscal policy.

 

THE HEDGEYE MACRO PLAYBOOK - G 3 MONETARY POLICY DIVERGENCE

 

THE HEDGEYE MACRO PLAYBOOK - DXY 1Y   2Y OIS

 

In short: the ECB and BoJ are simply more dovish than the Fed at the current juncture and that is likely to continue at least until a clear trend of deteriorating labor market fundamentals takes hold in the U.S.

 

We repeat: the ECB and BoJ will likely remain more dovish than the Fed until a clear TREND of deteriorating labor market fundamentals takes hold in the U.S. We are simply not there yet according to how the Fed analyzes labor data.

 

Hopefully by now we’ve done a good job using our #process trifecta of History, Math & Behavioral Finance to make a compelling case for material U.S. dollar appreciation from here. Our bearish call on commodities, emerging market financial assets and dollar-denominated high-yield corporate debt is an easy call to continue to make in light of that.

 

How will that impact equity portfolios, however? Based on historical return patterns, a continued strengthening of the USD vis-à-vis peer currencies is likely to continue to perpetuate a performance divergence between the “haves” (i.e. high domestic revenue exposure) and the “have nots” (i.e. high international revenue exposure) in the domestic equity market.

 

THE HEDGEYE MACRO PLAYBOOK - 1

 

THE HEDGEYE MACRO PLAYBOOK - 2

 

Email us if you have questions on how to replicate this equity screen or if you have any other questions we may be able to help with. Best of luck out there.

 

***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.

 

EARLY LOOK: Late-Cycle Slowdown (1/27)

 

#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 (1/23)

 

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.

 

HOUSING: Riding Strong Through the Actual and Arithmetic Blizzard of Crummy Macro Data (1/27)

 

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.  


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