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The Nikkei, Greece and The Euro

Client Talking Points

NIKKEI

The Japanese Nikkei-225 is at roughly 15 year highs, up about 2.3% for the week. Bank of Japan Governor Haruhiko Kuroda came out and reiterated his call on the 2% inflation target, the reality is that it will be very difficult for the Japanese to hit this inflation target. They will need to implement more dovish policy. Kuroda however, believes he has lots of options. We will have to wait and see what kind of impact his actions have on the real economy. 

 

GREECE

It is a relatively slow day in Global Macro but Greece is causing a lot of controversy. Eurozone Finance Ministers are meeting today in Brussels to discuss the Greek bailout; Greece has requested to have its loan agreements extended another 6 months. Some newspapers are reporting that Greece may exit the Eurozone, but the reality is that nobody seems to have a clear indication of what will really happen.

EURO

The Euro seems to be driven by the chaos surrounding Greece. It is down about 50 basis points today, down 650 basis year-to-date vs. the USD and down 1,752 basis point in the last year. That is a staggering move for a currency (despite PMIs coming in better than expected). 

Asset Allocation

CASH 40% US EQUITIES 9%
INTL EQUITIES 8% COMMODITIES 0%
FIXED INCOME 31% INTL CURRENCIES 12%

Top Long Ideas

Company Ticker Sector Duration
EDV

You want to own the Vanguard Extended Duration Treasury (EDV) in this current yield-chasing, growth slowing environment. The trend in domestic growth continues to signal growth slowing, and the counter-TREND moves we’ve seen over the last few weeks (@Hedgeye TREND is our view on a 3-Month or more duration) remain something to fade until we can see more follow-through that growth is trending more positively (second-derivative positive).

TLT

Low-volatility Long Bonds (TLT) have plenty of room to run. Late-Cycle Economic Indicators are still deteriorating on a TRENDING Basis (Manufacturing, CapEX, inflation) while consumption driven numbers have improved. Inflation readings for January are #SLOWING. We saw deceleration in CPI year-over-year at +0.8% vs. +1.3% prior and month-over-month at -0.4% vs. -0.3% prior. Growth is still #SLOWING with Real GDP growth decelerating at -20 basis points to +2.5% year-over-year for Q4 2014.The GDP deflator decelerated -40 basis points to +1.2% year-over-year.

Three for the Road

TWEET OF THE DAY

Real Conversations: How @Firefly_Space Founder Tom Markusic Is Changing the New Space Paradigm https://www.youtube.com/watch?v=0QmYH0IQdy8&feature=youtu.be&t=1s… w/ @KeithMcCullough

@Hedgeye

QUOTE OF THE DAY

The man who does not read has no advantage over the man who cannot read.

-Mark Twain

STAT OF THE DAY

3.3 million people in 2013 earned at or below the federal minimum wage, according to the Bureau of Labor Statistics. 


EVENT: YELP SHORT Update Call (TODAY)

Takeaway: Join us TODAY at 1:00pm EST for our YELP Short Best Ideas update call. Dialing Instructions below

We will be hosting an update call to our SHORT thesis on YELP.  In short, YELP's business model is broken; we're already seeing signs of deterioration, which will get progressively worse beginning 2015.

    

Join us on TODAY at 1:00pm EST as we update our bearish thesis, and why we see an additional 25%+ downside from here.

 

 

KEY TOPICS WILL INCLUDE  

  • Extreme Attrition Rate: majority of customers are churning off annually.
  • Insufficient TAM: YP.com is not the low-hanging fruit, it's a pipe dream.
  • Model Breaking Down: YELP’s reported metrics flagging concerning trends.
  • 2015/2016 Consensus Estimates Unattainable: Barring another ill-advised acquisition.  

 

CALL DETAILS

  • US Toll Free:
  • US Toll:
  • Conference number: 39017467
  • Materials: CLICK HERE (will go live ~1 hour before the call) 

 

 

Hesham Shaaban, CFA

@HedgeyeInternet



February 20, 2015

February 20, 2015 - Slide1

 

BULLISH TRENDS

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BEARISH TRENDS

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February 20, 2015 - Slide10

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February 20, 2015 - Slide13

 


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CHART OF THE DAY: Okun's Law (On An Annual Basis Over The 1948-2014 Period)

CHART OF THE DAY: Okun's Law (On An Annual Basis Over The 1948-2014 Period) - Okuns Law

 

Editor's note: This is a brief excerpt from today's Morning Newsletter written by Hedgeye U.S. macro analyst Christian Drake. For more information on how you can subscribe click here.

 

Okun’s Law:  Okun’s Law – named for Kennedy economic advisor Arthur Okun -  links the growth rate of output to changes in the unemployment rate and says that short-run output needs to grow ~2.25% above trend to reduce unemployment by 1%. Historically, the relationship has been strong with ~70% of the annual change in unemployment explained by the change in GDP growth.  In the Chart of the Day below we show Okun’s Law on an annual basis over the 1948-2014 period.  We’ve highlighted the large dispersion/break from trend in the peri and post-crises period with unemployment spiking higher than predicted by the model in 2009/10 and subsequently falling faster than predicted over the 2011-14 period. 

 

Secular and structural changes in the economy and labor market have certainly shifted the relationship over the last 65 years and the Great Recession served to bring those changes further into focus.   But that’s also largely the point.  If the forecast error in a workhouse macro model such as Okun’s Law rises to such an extent that its practical utility is lost when it’s needed most, the conventionalist forecaster’s tackle box gets increasingly bare.    

 


Rules & Tools

"You can’t expect the Fed to spell out what it’s going to do...because it doesn’t know."

-Stanley Fischer, Fed vice chair

 

The economy is like a pendulum.   It oscillates above and below productivity growth but never really falls exactly on center. 

 

“Potential Output” and “NAIRU” (non-accelerating inflation rate of unemployment) are nice theoretical constructs and are helpful in conceptualizing a tractable macroeconomic framework but they can’t actually be measured with precision and can only be approximated after the fact. 

 

Fascinatingly, despite the abject amorphousness and immeasurability of those concepts, the perceived real-time state of the macroeconomy relative to them remains central to the Fed’s policy calculus.    

Rules & Tools - dollar cartoon 07.02.2014

Policy makers often play the role of antagonist in our daily strategy narratives but, in truth, we don’t particularly envy their challenge. 

 

Consider the following middle school riddle:

Q: How far can you walk into a forest?

A: Halfway – after that you are walking out of the forest.

 

Macro policy making can be similarly enigmatic.  Policy makers generally know the correct direction to take (easing/tightening) but don’t necessarily know how big the forest is (the output gap) and the mapping tools (models) used for orienting oneself inside the forest to understand where you are and how far you’ve actually gone are underdeveloped…oh, and the forest isn’t static – it’s dynamic (subject to global/exogenous shocks), reflexive (policy action itself perturbs the system) and changes shape and size as you try to walk through it.

 

A perennial problem faced by policy makers is determining whether short-run deviations from potential (remember: the macro pendulum is always above/below potential & we don’t actually know the value of “potential”) represent a transient dislocation amenable to policy action and transition dynamics or if potential output/growth itself has changed.  Discerning which scenario correctly reflects the underlying reality is critical as the appropriate policy prescriptions can be antithetic. 

 

The post-crisis period has only added an exclamatory emphasis to Fischer’s characterization of the Fed’s limited capacity to convictedly forecast macrofundamental changes over any extended period.  Indeed, in the wake of the Great Recession, what were once decreed macroeconomic “Laws” were downgraded to “Guidelines” and then further decremented to something akin to “conceptual guideposts”.

 

To review some of the notables: 

 

Curve-balls ….

 

Phillips Curve: The Phillips Curve – which can also be viewed as the aggregate supply curve in the vaunted AD/AS macro model - relates the change in the inflation rate to the level of short-run economic activity.   Here, a negative output gap drives a negative change in the rate of inflation and a positive output gap drives a positive increase in the rate of inflation.  The idea is compelling, intuitively appealing, and holds up fairly well historically.  However, as Larry Summers has been apt to highlight, the relationship has failed to hold more recently: “inflation did not decelerate by much even a few years ago when unemployment was in the range of 10 percent. Nor was there much evidence of accelerating inflation in the 1990s, when the unemployment rate fell below 4 percent. “ 

 

This breakdown in the output-inflation link is important.   The conventional view is that the level of output drives inflation which, in turn, drives the policy response.  A structural break in the output-inflation connection leaves policy without its proverbial North Star.

 

Law & (Dis)order ….

 

Okun’s Law:  Okun’s Law – named for Kennedy economic advisor Arthur Okun -  links the growth rate of output to changes in the unemployment rate and says that short-run output needs to grow ~2.25% above trend to reduce unemployment by 1%. Historically, the relationship has been strong with ~70% of the annual change in unemployment explained by the change in GDP growth.  In the Chart of the Day below we show Okun’s Law on an annual basis over the 1 period.  We’ve highlighted the large dispersion/break from trend in the peri and post-crises period with unemployment spiking higher than predicted by the model in 2009/10 and subsequently falling faster than predicted over the 2011-14 period. 

 

Secular and structural changes in the economy and labor market have certainly shifted the relationship over the last 65 years and the Great Recession served to bring those changes further into focus.   But that’s also largely the point.  If the forecast error in a workhouse macro model such as Okun’s Law rises to such an extent that its practical utility is lost when it’s needed most, the conventionalist forecaster’s tackle box gets increasingly bare.    

 

Rules & Tools ….

 

Conventional expansionary policy works to increase investment (& export) demand by expanding the spread between the marginal product of capital and the real interest rate.  This works well over “normal” cycles and particularly well on the right side of an interest rate cycle (think 1) when decades of lower highs and lower lows in both real and nominal rates support recurrent layering of debt augmented demand and asset price inflation. 

 

Conventional policy breaks down in a demand vacuum perpetuated by the long-term rate cycle reaching its terminal end.  In short, no one cares if the real interest rate is below the marginal product of capital if there is no demand for the output you produce using that newly purchased “cheap” capital.   

 

Mo’ Money, Mo’…. Inflation? 

 

But #StrongDollar is sweet, right?... Lower gas prices, higher share of wallet for other discretionary purchases, cheaper imports, stronger intermediate-term domestic consumption.  Rising domestic demand, tightening capacity, and a taut labor market should support incremental wage and demand-pull inflation.  Viva la Phillips Curve!  True, but the inflationary impacts are more likely to manifest over the medium term and provided the domestic labor market remains something of an insular island of strength.    

 

Duration Mismatch ….

 

In the more immediate term, an expedited appreciation of the dollar, the associated cratering in energy/commodity prices and decline in import prices drives disinflation domestically.  Global deflationary pressures only exaggerate that impact. 

 

Keepin’ it Real ….

 

The other side of lower inflation (besides the simple fact that it’s running at <50% of the 2% target) is rising real interest rates and the goal of expansionary policy is lower – and preferably negative - real rates.  That disinflation is predominating globally and fixed investment (still) flagging with most central banks sitting on 0% six years post-crisis is not particularly comforting.  Again, there are no good analogues for the current global dynamics and conventional policy efforts have been Sisyphean. 

 

Wet Noodles & Rented Alpha ….

 

What do you do with this quasi-random redux of post-crisis creative destruction in conventional macro modeling?  

 

Mostly it’s just an incremental noodle to noodle over as you noodle over the Fed’s latest noodling over lagging macro data. 

 

More tangibly, I think it edifies Fischer’s quote above.  Effective policy action, even in “normal” times is challenged by the realities of imperfect information, incomplete understanding and structural shifts unamenable to the coarse tools of monetary policy. 

 

Those challenges have only been amplified in the post-crisis period and have only heightened the magnitude of uncertainty facing policy makers and, by extension, market participants. 

 

Uncertainty breeds volatility and volatility breeds market dislocations.  Market dislocations, however, are (still) alpha’s breeding ground.  We expect the already rampant cross-asset class volatility to persist.   

 

When I was in coaching/bodybuilding, the running punchline for steroid users with no process and marginal work ethic was that they had a “rented physique”.  Great moderations, secularly depressed volatility and leverage is like rented alpha. 

 

Our immediate-term Global Macro Risk Ranges are now: 

 

UST 10yr Yield 1.79-2.15

SPX 2078-2120

VIX 13.99-18.88

USD 93.70-95.32
YEN 118.16-120.26

Oil (WTI) 49.09-53.99

Gold 1   

 

To not being “that guy”,

 

Christian B. Drake

U.S. Macro Analyst 

 

Rules & Tools - Okuns Law


Alternative Market Medicine

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

“The traditional point of view doesn’t explain everything.”

-Deepak Chopra

 

Need some alternative Macro Market Medicine to get you through your risk management day? With the help of my man Deepak’s evolving professional experience, oh does the Mucker have something non-centrally-planned, for you!

 

“Deepak Chopra used to be firmly entrenched in a very traditional field of medicine: endocrinology. During the 1980s he worked as the Chief of Staff at New England Memorial Hospital… back then Chopra chugged coffee in the morning, smoked cigarettes, and drank whiskey in the evening to relax.” (The Medici Effect, pg 155)

 

No, I don’t drink whiskey to relax – neither am I recommending it as a medicine for the 100 point Dow swings you now have to deal with every day. I’m simply asking you to realize what Chopra did before he wrote 3 dozen books and decided to change his #process. He “started to notice things that could not be explained by theory.” In our profession’s case, those things are Old Wall theories.

 

Alternative Market Medicine - a. deepak

 

Back to the Global Macro Grind

 

Some of the Old Wall types still operate on a theory that if the stock market is going up, the economy must be going up. Then you have this other camp of quacks like me who’d remind you that if the bond market (Long Bond) is going up, the economy is slowing.

 

You also have all the poor bastards out there just chasing charts, who wouldn’t know the 2nd derivative of growth and inflation cycles from their next shot of Fireball. And, of course, you have mainstream media, who is left-leaning about everything economic anyway.

 

But that’s what makes a market. Mr. Macro Market doesn’t care about any of our individual strategies or stimulus preferences. He is naturally setting it up to provide the most amount of people, the most pain, at the most inopportune time.

 

Is today one of those days? Simple question – with a not so simple answer. Here’s the setup:

 

  1. STOCKS: One week ago today, after a bad US GDP report for Q4, the SP500 closed at 1995
  2. BONDS: as GDP growth slowed, the 10yr US Treasury Yield hit fresh new lows at 1.65%
  3. Then, zoom… stocks rallied +3.3% off those lows and the 10yr has popped back up to 1.81%

 

But what was it that drove the “stocks” up – and what kind of stocks really went up?

 

  1. US Dollar Down has driven a massive counter-TREND move in all of the Correlation Risk trades
  2. Both Oil and Energy stocks related to Oil’s counter-TREND move led the zoom…
  3. And crazy macro guys like me just day-traded my way around the pylons, trying to stay in the black

 

Soh-rry. In Canadian hockey speak we call them pylons. In USA Hockey, they call them “cones.”

 

However you play the game, you do need to zig and zag when macro markets move like this. After all, inclusive of this week’s no-volume ramp (total US Equity market volume was -22% vs. its 1yr avg yesterday) the SP500 summary for the YTD = 0.19%.

 

Yeah, I know you know. But just a friendly reminder to your friends that don’t (please forward this to them) if you’re long the Long Bond (TLT, EDV, ZROZ, etc.) you’re already up +7-8% YTD by just staying the global #GrowthSlowing course.

 

“So”, what will today’s US jobs report bring?

 

  1. Rocketing wage growth, booming capex hiring cycles in Oil & Gas, puppy dogs & rainbows?
  2. Or, blah…

 

Blah. As in what always happens in the latest of late-cycle economic indicators (employment)… what if there’s just nothing, blah?

 

I don’t predict stock and bond markets will do nothing on that. Fully loaded with Dollar Down, Rising Gas Prices, and 2014 #Bubbles (GPRO, YELP and Pandora) Imploding, I predict #fun!

 

And if you can’t have fun playing this game, I don’t have any alternative medicine for that anyway.

 

Our immediate-term Global Macro Risk Ranges are now (giving you all 12 Big Macros today with our intermediate-term TREND view in brackets):

 

UST 10yr Yield 1.64-1.89% (bearish)
SPX 1987-2075 (neutral)

Nikkei 17395-17879 (bullish)

DAX 10599-10962 (bullish)

VIX 16.06-21.76 (bullish)

USD 93.05-94.52 (bullish)
EUR/USD 1.11-1.14 (bearish)
YEN 116.27-117.99 (bearish)
Oil (WTI) 42.48-53.09 (bearish)
Natural Gas 2.54-2.74 (bearish)
Gold 1250-1275 (bullish)
Copper 2.40-2.63 (bearish)

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Alternative Market Medicine - 02.06.15 chart


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