Are You Confident?

“I believe you’re confident; I know I’m not.”

-Wallace Stegner

 

I was walking down the fairway last month with a thoughtful and respected Founder/Portfolio Manager from the South who has struggled in 2015 because some of this “value” stocks (Metals & Mning, Oil & Gas, etc.) haven’t been valuable.

 

Since he runs the firm, he effectively told another PM that he had to sell those losers because they really had no confidence in where the underlying commodity price (and subsequent cash flow implied in the company’s valuation) was going. #GoodCall

 

On #Deflation, are you confident? I used the aforementioned quote from The Angle of Repose as it was the point an American Frontier-Era wife made to her mining husband. These are cyclicals. And her husband was dead-wrong on the commodity cycle too.

 

Are You Confident? - 08.04.15 chart2

 

Back to the Global Macro Grind

 

Some people are so confident that they can wake up every morning and ignore not only the “data”, but how Mr. Macro Market (Bonds and Utilities up yesterday) is moving in reaction to that data. Are you that confident? I know I’m not.

 

Friday’s data on wage growth (the US Employment Cost Index) was not only a “miss” versus consensus macro expectations, but it confirmed that both inflation and growth are what they always are – #LateCycle economic indicators that are now rolling over.

 

Contrary to the humble-pies one might be eating this summer if forced to ignore the data, we also took note of yesterday’s US economic data as it was one of the 1st big readings on the US economy for Q3. Here’s how that looked:

 

  1. ISM headline slowed to 52.7 in July vs. 53.5 in June
  2. ISM Prices Paid deflated to 44.0 in July vs. 49.4 in June
  3. ISM Employment Index slowed to 52.7 in July vs. 55.5 in June

 

In other words, with both #Deflation and a slowing US Labor Market readily apparent in both real-time market prices and the data, we’re more confident in our non-consensus GDP #slowing view for Q3 than we were before we got the data.

 

To review where we’re at on GDP:

 

  1. For Q3 our predictive tracking algo is looking for a 1.6% y/y GDP number
  2. For consensus headline readers that implies +1.4% headline q/q SAAR

 

And to remind you of the #process that drives our confidence intervals – it’s called a Bayesian Inference process – and it’s very useful in dynamically updating the probability of our best forecast being more wrong or right, given the most recent data.

 

Using Bayes Theorem doesn’t really work unless you have a long-term cycle overlay of historical data. This is where what they call the “Frequentist” approach to weighing probability comes into play and is also critical in providing context.

 

As you can see in today’s Chart of The Day, once you’re more confident that the US economy is #LateCycle, you can see that the profit-cycle (for corporations) isn’t far behind. Revenues and earnings (SP500) are down -4.6% and -2.4% so far, respectively.

 

Then, of course, we have a quantitative risk management signal that helps me be more or less confident. Here’s what that’s telling me, across everything that should matter to a modern-day macro risk manager:

 

  1. TREASURY BOND YIELDS: down hard, across the board, after failing @Hedgeye TREND resistance
  2. FX: #StrongDollar remains firmly intact and has no headwinds until the Fed folds and moves “hikes” to 2016
  3. RUSSELL2000: down -4.9% from its YTD high and continues to signal bearish TRADE and TREND @Hedgeye

 

Dollar Up, Bond Yields Down. Are Bond Bears confident that’s not a #Deflation Risk signal? How about the relative performance of “growth” (as a Style Factor) vs. “value” in the Russell itself? This performance spread looks very 2011 to me.

 

As market/economy history fans will recall, from Q1 to Q3 of 2011 most consensus economists (i.e. the ones who missed calling both the 2000 and 2007 cycles rolling over) had to keep cutting their GDP growth estimates until Bernanke bailed the market out.

 

I’m not confident in “calling” for QE4 (yet) because A) the data has to keep “surprising” those who are actually focused on it to the downside and B) the Fed then needs to pivot from when they “raise rates” to what they can do next to “ease.”

 

Our immediate-term Global Macro Risk Ranges (within intermediate-term TREND views in brackets) are now:

 

UST 10yr Yield 2.14-2.25% (bearish)

SPX 2067-2124 (bearish)
RUT 1 (bearish)
Nikkei 205 (bullish)
VIX 11.89-15.23 (bullish)
USD 96.81-98.21 (bullish)
EUR/USD 1.08-1.10 (bearish)
YEN 123.24-124.95 (bearish)
Oil (WTI) 45.32-47.90 (bearish)

Nat Gas 2.68-2.82 (bearish)

Gold 1074-1100 (bearish)
Copper 2.32-2.44 (bearish)

 

Best of luck out there today,

KM

 

Are You Confident? - 08.04.15 chart1

 


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