Takeaway: WETF announced a suite of dynamically hedged international products. Our research shows the FX hedge provides the bulk of returns however.
WisdomTree announced a suite of dynamically hedged ETFs yesterday. In concert with its main currency hedged Japanese fund the DXJ, and the Euro-zone ex. Euro ETF, the HEDJ, the firm has launched 4 new products. The firm is now adjusting an "always on" FX hedge (on the HEDJ and DXJ) to a rules based approach that will dynamically apply and remove the FX hedge depending on market conditions. These latest products have been launched on European equities, Japanese equities, small cap foreign equities, and a broader international equity fund (see WETF info HERE). The latest information on the firm's website outlines the following new rules based approach for the new "dynamic" FX hedge:
While dynamically hedged products allay some of our concerns that historically, local currency exposure has been beneficial for foreign investors (and thus the FX hedge nullifies important returns), we remind investors that the HEDJ and DXJ underperform in local currency outside of the FX hedge because of a beta construction issue. Both DXJ and HEDJ construction is weighted by dividend paying stocks, with also favorable weightings for export driven companies. This benchmark construction thus far has proven to underperform standardized benchmarks in local currency.
The main issue with the new dynamically hedged products is that the WisdomTree products underperform in local currency outside of the FX hedge (in both Japan and Europe).
Thus it's a double edged sword with the WisdomTree's hedged FX products as the FX hedge has been the source of most of the ETF's returns recently for both the DXJ and the HEDJ:
But there are plenty of historical references that foreign investors would have benefited from having local currency exposure (see first grayed boxes versus the second grayed periods).
The last question on the new dynamically hedged products is will overall fund returns suffer when the hedge comes off. Currently the hedge ADDS credits or returns to fund holders out of the gate as overnight interest rate differentials and liquidity pay the manager to undergo the FX hedge:
Dynamically hedged ETFs could be signaling our view that the U.S. dollar move higher has already experienced the bulk of its move. Our main basis for this stance is that the dollar has already made a 3 standard deviation move over a 10 year period and is also bumping up against its historical 20% year-over-year rate of change ceiling.
WisdomTree trends are inflecting negatively with the firm just having put up its worst quarter from an asset raising standpoint in 4Q15 with a $2.6 billion redemption (and an unprecedented second consecutive quarter of outflows in the firm's now 9 year history). Prior to 3Q and 4Q '15, the firm only had redemptions in 3Q 2008 and 1Q 2014. Trends accelerated to the downside to finish 4Q15 to boot with the HEDJ and DXJ losing $3 billion and $2 billion respectively in the last 10 business days of 2015.
We think 2017 estimates (the best way to value this growth stock) are implying an unacheivable ramp in the firm's AUM to over $80 billion from the current tally of ~$50 billion. This assumption supports the Street's estimate of $0.97 per share. Our estimate of $0.79 per share is supported by a slower ramp to just over $70 billion.
WisdomTree shares continue to trade ahead of median takeout multiples implying further downside. We think shares start to look attractive at $10 pending no substantial degradation of recent trends. We hosted our best ideas Short call on December 17th with the stock at $17.30.
Please let us know of any questions,
Jonathan Casteleyn, CFA, CMT
Joshua Steiner, CFA
did you miss it?
Watch the replay below.
Healthcare analysts Tom Tobin and Andrew Freedman were in the Hedgeye studio today discussing the key takeaways from the latest U.S. jobs report and implications for their current top ideas.
The team also highlighted what's new on their radar.
Get The Macro Show and the Early Look now for only $29.95/month – a savings of 57% – with the Hedgeye Student Discount! In addition to those daily macro insights, you'll receive exclusive content tailor-made to augment what you learn in the classroom. Must be a current college or university student to qualify.
The People's Bank of China devalued the yuan another 0.5% overnight. The Shanghai and Shenzhen Composite indices closed down -7% and -8.3% respectively and Chinese regulators announced that significant shareholders were not allowed to sell stock equivalent to more than 1% of a company's shares outstanding.
Not good. We reiterate our bearish bias on the Chinese economy, its capital and currency markets.
Editor's Note: It's been a tumultuous start to the New Year for the stock market. Below is a particularly prescient Early Look written by Hedgeye CEO Keith McCullough on December 11, 2015. In it, he explains why "we are in the midst of the 3rd major crash I've seen in my Wall Street career." You can still take advantage of our special New Year 66% off deal on this product and more here.
* * *
“It wasn’t luck that made them fly – it was hard work and common sense.”
-John T. Daniels
The big picture
One of the most recognizable pictures in the history of American innovation (“First In Flight”) is the Wright Brother’s original “Flyer.” John T. Daniels “was the amateur photographer who took the photograph of their first flight on December 17th, 1903.” (Wikipedia)
He was also one of the men who spent a lot of time with the Wrights in their workplace. He said “they put their whole heart and soul and all their energy into an idea and they had the faith.” (The Wright Brothers, pg 108)
While we don’t just have boys working here @Hedgeye, if there’s one thing I’m most proud of it’s how hard everyone works. I know - on Wall Street everyone thinks they work hard. Build a culture where you actually work harder than most, and your business will fly.
With the beloved “the market is flat” quote of the year (SP500) hovering below where it started the year (2058), many other components of the Global Macro market (Credit, Currencies, Commodities, EM, etc.) continue to crash into week’s end.
Not to cherry pick the composite performance of 2000 stocks instead of 30 or 500, but the Russell 2000 is down -5% for 2015 YTD. More importantly, it’s down -11.3% from the all-time #bubble high for US stocks that we called in July. The 2nd half of 2015 draw-down has been nasty.
What is a draw-down? You don’t need the Wright Brothers to build you a draw-down table:
If you lose this amount… you have to return this to break even:
This is very basic math that most in the mainstream (who haven’t run client portfolios) don’t think about when they talk about what “the market” is doing vs. what it would need to do to get people who got plugged chasing charts back to break-even.
In other words, what is the catalyst to get:
- The Russell (2015) Bubble +12-13%, from here, to break even?
- The CRB Index (2011-2012 Bernanke Bubble) +33%, from here, to break even?
- Kinder Morgan (the Yield Chasing Inflation Expectation Bubble) +163%, from here, to break even?
That’s right. If you chased the Kinder Morgan’s (KMI) chart and bought it at $44.57, on April 23rd, 2015, your client’s account is First In Crashing to a level they’ll never be able to recover from. That’s why Kevin Kaiser putting all his energy into a SELL idea mattered.
I get why innovation in Wall Street Research hasn’t included many independent research firms that have literally 0% conflicts of interest. If you don’t have a bank, broker dealer, or asset manager on your platform, it’s really hard to “get paid.”
What you may not see is that when I started Hedgeye, I wasn’t looking to get paid. I was simply burnt out by the compromised and constrained ways of the Old Wall and wanted to build a better way. I really wanted to help the average person not crash again.
Forget what people who are in the business of marketing “the market is flat” are telling you, across asset classes we are in the midst of the 3rd major crash I’ve seen in my Wall Street career. All 3 coincided with a major economic cycle top:
Every one of these economic cycle tops had different asset bubbles underpinning their hopes that it was “different this time.” Not one of these cycle tops was different in terms of classic rate of change slowdowns in major economic factors.
As you can see in today’s Chart of The Day (one of my favorite 20 year cycle charts in all of macro), the Commodity Super-Cycle crash we are witnessing today is largely a function of both Greenspan and Bernanke devaluing the US Dollar to a 40-year low from 2001-2011.
That’s a decade of devaluing the purchasing power of hard working Americans (their currency) every time the US economy started to slow from its cycle peak. While the early 20th century had The Wright Brothers, the early 21st had The Central Planners.
No, that’s not to say that there wasn’t American innovation all the while (newsflash: most innovation is born out of necessity, not economic expansions). It’s simply to say what the mother of all economics risks remains the unwind of a centrally planned bubble.
I’m obviously not alone in defining history this way (they’re just time series charts). Most of the money managers who are having a fantastic year understand that The Deflation Risk is real and not “transitory.”
If you want to have a big-gravity-bending economist tell me that the Federal Reserve wasn’t the causal factor in USD Devaluation, that’s fine. I’ll smile and move along. I have too much work to do to argue with these people anymore.
It’s hard work and common sense that will preserve and build wealth during this slow-down. That’s not different this time either.
Our immediate-term Global Macro Risk Ranges are now (with intermediate-term TREND research views in brackets):
UST 10yr Yield 2.13-2.32% (neutral)
SPX 2033-2072 (bearish)
RUT 1131--1172 (bearish)
NASDAQ 4987-5092 (bullish)
Nikkei 19010-19447 (bullish)
DAX 10308-10856 (bearish)
VIX 16.85-20.47 (bullish)
USD 96.70-98.73 (bullish)
EUR/USD 1.05-1.10 (bearish)
YEN 121.24-122.69 (bearish)
Oil (WTI) 35.41-39.25 (bearish)
Nat Gas 1.95-2.13 (bearish)
Gold 1049-1084 (bearish)
Copper 2.01-2.12 (bearish)
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer
Editor's Note: Below is a brief excerpt from a research note sent to subscribers earlier this morning on our short Junk Bonds (JNK) call. With the stock market tanking, junk bonds are also down -0.5%.
(To be clear, short JNK made its first appearance in Real-Time Alerts in Q4 2014 and has been on our high-conviction Investing Ideas list since October. Since then, JNK is down -15.8% and -7.5% respectively.)
"... The latest Dealogic data shows that speculative-grade U.S. companies have not issued new bonds since the middle of December, the longest stretch without a new junk offering since the depths of the last credit cycle in 2009.
As we highlighted on our Q1 Macro Themes presentation on Tuesday, this particular credit cycle is just getting started. Delinquencies on all C&I loans having accelerated from down -8.9% at this time last year to up +26.8% yoy as of 3Q 2015; that’s the highest growth rate of souring loans since 2009 and calls into question Standard & Poor’s projected default rate of 3.3% by September.
While we’re not expecting anything in the area code of 12.4% which is the peak default rate reached in the financial crisis, we’ll take the over on the S&P figures all day. With the JNK ETF having dropped -16.5% since we turned bearish in August we again find it appropriate to reiterate our explicitly bearish bias on high yield credit."
Click here to read a recent post by McCullough outlining our Junk Bond call. Below is a video of McCullough discussing it on Fox Business.