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#EmergingOutflows Reversal Risk Management

Takeaway: We now find it prudent for investors to broadly cover their shorts in/across the emerging market space.

We arrive at the aforementioned conclusion for the following three reasons:

 

  • We have identified three key top-down fundamental factors that drive the bulk of EM asset price performance and, at the margins, these factors are becoming less bearish.
  • While the preponderance of our quantitative signals does not yet support going long EM asset beta, there are enough signals underneath the hood that support a continuation of the developing relief rally across EM assets.
  • Should this relief rally continue, our analysis shows that it is likely to continue to be led by the most risky economies and securities. As such, we are covering all of short ideas in the EM space and booking the gains in our [defensive] long ideas as well. The conclusion: we are taking down our hypothetical gross exposure to this asset class amid what may (or may not) turn out to be a bearish-to-bullish phase transition.

 

CLICK HERE to download our 20-slide presentation which contains the supporting analysis behind these views.

 

Have a wonderful evening,

 

Darius Dale

Associate


REPLAY | ZOES: Standing Out From the Crowd

Earlier today we hosted a conference call to discuss the recent addition of ZOES to our Best Ideas list on the long side.  This is a name in which we see upside to $68 per share versus downside to $25 per share over the next three years.

 

 


Oil Déjà Vu: Market Making Fools of Men (Again and Again)

Takeaway: Oil prices are now down over ~50% from June of last year which has surprised…. Well, pretty much everyone.

"The main purpose of the market is to make fools of as many men as possible."

- Bernard Baruch

Oil Déjà Vu: Market Making Fools of Men (Again and Again) - Oil cartoon 02.05.2015

 

A quick trip down Memory Lane:


Back in October, people said there was a “price floor” because it was uneconomical for “high cost” U.S. Shale Producers to produce below $80/barrel...


In November, people said there was a price floor because OPEC was going to cut production...


Then in January, people said there was a price floor because oil rigs were being idled at a rapid pace...

 

The one thing clear now is that the world has learned a thing or two about oil production now that we are in the $50/barrel range:
 

  1. U.S. shale production has become much more efficient and a breakeven cost of production for most is well below $80/barrel.
  2. Physical markets adjust to volatile financial markets on a lag (supply/demand):
    • Many producers hedge out the price of oil which eases some of the pain of shorter-term price movements
    • Producers are often tied into contracts that require them to keep delivering oil
    • Because the money to develop an oil field is spent upfront, many E&Ps will produce an incremental unit of product at an operating loss before cutting production cold turkey

     3.  OPEC’s main focus is to keep market share. Cutting production risks the possibility of end-user customers finding a new producer to source crude oil. Market share is key for keeping “swing producer” status. OPEC has already been consistently losing this share since its “oh-so-powerful” status during the 1970s embargo years when they had a 50%+ share in global markets.

     4. Aggregate production levels can increase even with rigs coming offline at a rapid pace. Oil companies will sideline lower-producing rigs in more mature oil fields and produce more from their best rigs on the most lucrative acreage in tough times of low prices.

 

Oil Déjà Vu: Market Making Fools of Men (Again and Again) - OPEC Market Share


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Cartoon of the Day: Winners!

Cartoon of the Day: Winners! - TLT cartoon 04.08.2015

Hedgeye would like to congratulate the Duke Men's basketball team on their recent championship, the UConn women on theirs, and all of our customers around the world who have raked it in staying long the long bond.


Keith's Macro Notebook 4/8: Euro | Oil | Rates

 

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


OIL: Quick Check-in With the U.S. Production Machine

Oil clearly likes a weaker dollar which has helped support prices over the last month. The USD is near flat with WTI gaining ~6% over the same period. We outlined the importance of this relationship (and all commodities for that matter) in our Q2 2015 Themes Call yesterday. This will continue to be our biggest indicator for the forward-looking direction of commodities prices.

  • We shorted oil (via ETF OIL) yesterday into the close on the overbought signal and booked a quick gain on the open this morning, covering for a +2.2% gain short-side.
  • Record production from the Saudis in March (10.3MM B/D) suggests they’ll keep the foot on the gas pedal moving forward. We will continue to trade oil with a bearish bias in real-time alerts.
  • The TREND Line of resistance up at $57 would have to be tested and breached for us to rework our view:

OIL: Quick Check-in With the U.S. Production Machine - levels chart

 

On the supply side, relative slowdowns in domestic production, declining crude imports from OPEC, and a continuation in inventory build suggests that the demand side of the equation is weak at best.

 

After the API reported a +12.2MM Barrel increase yesterday evening, the DOE reported the 13th consecutive week of aggregate inventory build (+10.9MM barrels). Cushing inventories increased for the 18th consecutive week (+1.2MM barrels).

 

OIL: Quick Check-in With the U.S. Production Machine - DOE and Cushing inventory delta

 

OIL: Quick Check-in With the U.S. Production Machine - cushing storage

 

On the domestic production front, an absolute top is materializing...

 

However, most importantly with respect to our process, top-down macro (futures prices) will continue to lead. Supply/demand adjustments happen on a significant lag (Is there a hypothetical price floor of any relevance to day-to-day changes in futures prices? No.) 

 

OIL: Quick Check-in With the U.S. Production Machine - supply lags

 

Of the major plays, sequential production increases are expected to turn delta negative in Bakken, Eagle Ford, and Niobrara in April.


Collectively, these 3 regions account for over 60% of domestic production:

April EIA projections (m/m% change):

  • Eagle Ford: -58bps
  • Bakken: -64bps
  • Niobrara: -1.3%

Reported production levels for March indicate a marginal m/m increase in the major crude producing regions (left column of first chart).

 

The second column in that first chart indicates that operating rigs are continuing to ramp on increasing output. Production per rig is accelerating m/m with rig count cut in half since the end of October.  

 

The second chart is production weighted rate of change (m/m% change * [production as a % aggregate production from major plays]). On a 3 and 6-month basis, we’re still +5% and 10% respectively.

 

OIL: Quick Check-in With the U.S. Production Machine - US Crude production

 

OIL: Quick Check-in With the U.S. Production Machine - Production Weighted Delta

 

The absolute production slowdown is a meaningful transition for the forming of price support from a fundamental perspective, but as always the daily macro moves will continue to generate the risk management signals directing our tactical asset allocation and positioning. 

 

Ben Ryan

Analyst

 

 

 

 


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