This note was originally published at 8am on January 23, 2015 for Hedgeye subscribers.

“I consider that all that I have learned of any value to be self-taught.”



I disagree with Darwin on that. In both my formal Ivory Tower econ education and my Wall Street experiences, I’ve found tremendous value in learning what not to do. Believing gravity-bending-linear-economists and their forecasts tops the list.


In markets and economies there are plenty of theories, but there are also realities. My self-teachings come from both books and Mr. Macro Market – not what some un-elected ideologue is trying to jam down my throat.


Pardon the terseness of that. I’m sick and in no mood to pander to what most financial media did yesterday as Mario Draghi provided 2008 like “shock and awe” to currency and equity markets, but only perpetuated #deflation risk in doing so.

Self-Teachings - Sisyphus cartoon 01.22.2015

Back to the Global Macro Grind


As we learned in both 2008 and 2011, when central planners move into panic mode, they also perpetuate volatility, across asset classes. That’s mainly because they are trying to artificially inflate (centrally plan) asset prices higher.


In doing so, they open up what we call the risk of the market’s most probable range. What I’ve learned by doing over the course of the last 15yrs is that widening risk ranges tend to lead to rising volatility.  


The only way to tone down volatility is for the output of the central plan to actually be believed. So that’s really your #1 risk management question this morning: do you believe that Draghi devaluing the Euro is going to deliver “price stability”?


What does Mr. Macro Market think?


  1. On the “news”, Euro’s burned to $1.12 vs USD, taking the US Dollar Index to multi-yr highs
  2. European equities ripped higher, making them some of the best YTD returns in Global Equities at +7-8%
  3. US Equities had a big up day (SPX 6th + day in the last 15), taking SPX and Russell to +0.2% and -1.2% YTD
  4. Commodities (CRB Index) deflated -1.3% on the “news”, hitting multi-yr lows
  5. US Equity Volatility sold off to higher-lows but held both TRADE and TREND duration support


In other words, if you are long France because the economy sucks, you’re killing it! The CAC 40 (France) is now beating the beloved SP500 by +800bps for 2015 YTD. Oh, and #deflation expectations only rose yesterday in the face of Draghi smirking.


When one of the few reporters with a spine questioned the sly Italian jobber on the actual economic impact of his decision to float a number (50B) to the media that he could beat by 10B, he did everything but answer the question.


Do you think a ramp in Belgian stocks to +7% YTD is going to improve the youth unemployment situation in Southern Europe? Or is the story now that crushing the purchasing power of Europeans is the new consumer spending catalyst?


In other European news this morning:


  1. France’s services PMI for JAN (oui, c’est le service economie, stupide) 49.5 vs 50.6 in DEC
  2. Germany’s flash PMI slowed again to 51.0 from 51.2


Get used to nothing. Unless it’s different this time, I don’t see Draghi delivering inflation or real economic growth.


Does anything in our Global Macro playbook change post yesterday’s central plan? Not really:


  1. BEST IDEA: Our best way to play global #GrowthSlowing and #Deflation = long the Long Bond (TLT, EDV, ZROZ, etc.)
  2. COMMODITIES: while I’m getting interested in Gold, I’ll keep our net allocation to that asset class at 0%
  3. CENTRALLY PLANNED EQUITY MARKETS: from this time/price, I’d rather buy Weimar Nikkei than Europe
  4. US EQUITY LONGS: stick with the long early cycle-consumption and yield chasing sectors (XLP, XLV, XLU, VNQ)
  5. US EQUITY SHORTS: stick with the late-cycle economic and #Deflation ideas (XLE, XLB, KRE, XLI)


Notwithstanding the 2-day ramp in European, US, and Japanese equity beta, the best vs. worst returns (highest absolute, with the lowest volatility = best kind of #alpha people pay for) remain glaring:


  1. YTD Winners: Healthcare (XLV) +4.3%, Utilities (XLU) +3.8%, Consumer Staples (XLP) +3.6%
  2. YTD Losers: Financials (XLF) -2.8%, Energy (XLE) -2.5%, Consumer Discretionary (XLY) -1.6%


Put another way, Mr. Macro Market’s self-teachings have set up for one of the best Global Macro investing environments for active managers (long and shorts – over-weights and under-weights) that I can remember.


Our immediate-term Global Macro Risk Ranges are now:


UST 10yr Yield 1.75-1.93%

SPX 1989-2066

VIX 16.05-23.03
EUR/USD 1.12-1.15
Oil (WTI) 44.82-49.06

Gold 1260-1323

Copper 2.48-2.61


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Self-Teachings - 01.23.15 chart


Takeaway: The Strip’s recovery is not very deep or sustaining


It’s almost the anti-Macau play but not really:  Buy MGM because the company has less Macau exposure.  How about buying something without any Macau exposure? I suppose the best way to play the Strip would be to buy MGM and short 2882.HK.


So let’s look at what you’re getting if you could isolate Strip exposure. Solid RevPAR growth? Yes, but if you’re looking for that why not buy a hotel stock like HLT or HOT. Las Vegas RevPAR has actually lagged the rest of the country.  Gaming revenue growth?  Outside of Baccarat we’ve seen very little actually.  And the 2nd derivative in Baccarat went negative in August and the 1st derivative turned in November.


Unlike Macau, Las Vegas is at least stable.  Stability is hardly an investment thesis, though.


Please see our detailed note:

Cartoon of the Day: Oil Bottom? Bueller? Bueller?

Cartoon of the Day: Oil Bottom? Bueller? Bueller? - Oil cartoon 02.05.2015

Investors are jockeying to find the bottom of an epic oil plunge that saw prices crash as much as 59% since June.

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XLU: Adding Utilities to Investing Ideas

Takeaway: We are adding Utilities to Investing Ideas.

Please note that we are adding Utilities (XLU) to Investing Ideas today.

XLU: Adding Utilities to Investing Ideas - 4u

According to Hedgeye CEO Keith McCullough:


Keep playing my macro view forward... 


Bad jobs report could very well:


1. Weaken USD

2. Strengthen Oil

3. Ramp The Long Bond


And give a relative bid to any major US Equity Sector Style that looks like a bond.


Ah, the Utilities - hated, probably. Making people money, definitely.



Our macro team will further outline our bullish thesis in this weekend's edition. 

YUM: In Need of a Nudge

YUM remains on the Best Ideas list as a long.


YUM reported 4Q14 adjusted EPS of $0.61 (-29% y/y), well short of the $0.66 consensus estimate.  Despite this, strong relative topline trends appear to have saved the day.  China delivered a better than feared comp of -16% (-19% est), while Taco Bell (+6%) and KFC (+4%) also exceeded consensus estimates.  Pizza Hut (0%) fell short of feeble estimates, which is particularly disappointing considering the new menu and “flavor of now” launch.  Needless to say, this quarter did nothing to dismiss our view that the Pizza Hut business should be sold


China's Woes Persist

The majority of the earnings call was spent talking about the pace of the recovery in the China business.  Management hinted that things are progressing slower than they originally imagined and voiced at the December analyst day in NYC.  In our view, setbacks like this are what will push an activist to get involved in the name.  To be honest, management deserves a lot of credit for building a strong business in China that has proven to be very profitable in the past.  But it’s been two painful years and misjudging the pace of a recovery is not encouraging.  The perception that they don’t have a handle on this business, to whatever extent it may be, simply adds fuel to the activist fire.


Clearly, the top priority is getting China KFC back to 2012 form which, management estimates, would add $1.7 billion in incremental revenue.  KFC’s average unit volumes in 2014 were 20% off their peak levels, thanks in large part to back-to-back supplier incidents.  But consumer scores appear to be improving in the region, which should lead an acceleration in comps.  The team also has two menu revamps scheduled in 2015 and the rollout of premium coffee which will be in 2,000 restaurants by year-end.  Pizza Hut is much less of a concern and is trending in the right direction.


Estimates Need to Come Down

Despite a slower than projected recovery in the China business, management reiterated its FY15 EPS growth goal of “at least 10%.”  This, in and of itself, looks like a tough hurdle and is dependent on a strong second half recovery in China.  The street, modeling 15% growth, will need to bring their estimates down. 



We expect the stock to be range bound for the first half of 2015, until we see a material uptick in the business.  It won’t be smooth, but we continue to like the long setup here given limited downside and the potential for significant upside.  There are a number of levers management can pull to immediately create value, the easiest of which would consist of undergoing a leveraged recapitalization to bring its debt ratio in-line with peers.  Management may be getting the benefit of doubt for now, but if the anticipated second half snapback doesn’t materialize, they will face serious pressure to make a transformational transaction.


YUM: In Need of a Nudge - 1

Source: Company Filings



Market factors are contextualized differently based on our own trials and errors, experiences, and personal biases. As a sell-side independent research firm, we believe our process is positively differentiated with the active risk management overlay to our research. With this model comes the responsibility to consistently communicate and revisit this process.


Volatility in oil (and across asset classes for that matter), hit historic lows this summer at the highs in crude oil. The OVX index bottomed in June and reached its highest point yesterday since 2008.


The question then becomes, does the 3-day rip in energy prices and oil volatility starting last Friday support the case that oil has found real support in the $40’s?


We outlined the fundamental factors in the energy space moving to support prices, but the other side of our process tells us to fade this move for now. If history is any indication, two conclusions about prices and volatility in oil markets can be made:


1)      Volatility’s relationship with price looks very similar to equity markets.  Volatility and price have a tight inverse correlation

2)      The U.S. dollar is a leading indicator for big turns in prices and volatility


Regarding the first point, the 3-month, 1-year, and 3-year correlations are straightforward between WTI and WTI volatility and also WTI vs. the OVX Index. The short-term reversal is a counter-TREND head-fake.


WHAT DOES CRUDE OIL VOLATILITY MEAN TO YOU? - Price vs. realized and implied vol




If you get the outlook for the U.S. dollar right you’ll get a lot of other things right. The dollar tends to lead turns in the oil market, as it has in each of the last four big downturns in oil. Our view on the outlook for the dollar is always communicated clearly (see this morning’s edition of the Hedgeye Macro Playbook for a refresher).


We covered our OIL SHORT position yesterday, our COPPER SHORT position today, and our USD LONG today. With the GDP miss and a preponderance of bad economic data, a bad jobs report tomorrow could be a catalyst for a near-term pullback in the U.S. dollar leading up to the Fed meeting in March.


The table below shows the performance of the U.S. dollar and OVX indices for the last four >20% peak-to-trough moves in oil along with a few supporting charts:




Looking at OVX vs. the USD, longer-term they are positively correlated. A USD break-out to the upside has never been met by a sustained pullback in OVX. 




OVX vs. WTI vs. USD



Source: Bloomberg


3-Month WTI Volatility Index vs. Price



Source: Bloomberg


We sent our first short oil signal via OIL to RTA subscribers on Monday at $11.22 (3:22 p.m.). We were early and shorted more on Tuesday at $12.02 (3:15 p.m.) for an average cost basis of $11.62. The position was covered yesterday at $11.01 (3:44 p.m.).

We will continue to short on strength on these exhausted moves to the upside unless the model tells us differently (bottoms are processes, not points).

We anchor on price, volume, and volatility factors for market signals within intermediate to longer-term market TRENDs for generating buy and sell signals.


To use the example of oil, what we would want to see for bullish confirmation is:

  • rising price
  • rising volume and open interest; On the back of
  • decelerating realized volatility; And,
  • a deceleration in front-month implied volatility

Rising volatility on the up move against a counter-TREND move (down dollar within a BULLISH TREND) is a leading indicator of continued volatility and widening risk ranges (more downside on the move back down)

The following link is a clip explaining this process on yesterday’s morning macro call:


Hedgeye Macro Call   


Oil had an epic move to the upside but on increasing volatility (OVX). Rising vol. while prices are rising on a counter-trend move (Bad econ, dollar down, commodities up) is not a good signal. While trending implied volatility in S&P front-month VIX hasn’t broken its bullish trend (still bullish). A widening range is a leading indicator for rising volatility.”


We often reference widening volatility as a signal for widening risk ranges, but these are in some ways complements of one another.

When volatility is increasing, the exhaustion points on both sides of a market (resistance bands) are farther away from where it is currently.

More involved than just using standard deviation to bet on a reversion, the volatility assumption is key to modeling the probabilistic expectation for different price movements.

For our bearish bias to be changed we need what look like longer term resistance levels to break and hold (the intermediate and longer-term lines did not on last Friday or Tuesday’s move). the price reached the top-end of our IMMEDIATE-TERM risk ranges, we is why we blasted the sell signal to subs.


Our intermediate-term TREND line (3-months or more) in oil is up at $56.68. Unless oil can break that line and hold, we’re viewing it with an intermediate-term bearish bias, and we’ll short on green and cover on red. By modeling this longer-term TREND we don’t capitulate on our thesis based on the day-to-day battle between all the robots. 





Ben Ryan









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