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Winter Was Coming

“They were born on the wrong side of the wall – it doesn’t make them monsters.”

-Jon Snow

 

If you live on the Eastern sea-board of the United States of America, unfortunately there was no central plan to smooth out this weekend’s storm. Winter was coming and how non-linear going from 0 to 2-3 feet of the white walker’s fury that was!

 

Pardon the pun, but in Stark contrast to the White Walkers (evil dudes) in Game of Thrones, the Wildlings (gnarly dudes) are called the “free folk.” John Snow was the great leader who empathized with their plight for freedom. They weren’t the movie’s real monsters.

 

To some, maybe this Thunder Bay Bear was born on the wrong side of the Old Wall. Who I am and what I stand for certainly makes for some “us vs. them” drama. After “taking a knee” on last week’s lows, I am back on the field of battle this morning. Grrr!

 

Winter Was Coming - smiling bear

 

Back to the Global Macro Grind

 

Scary growl, eh. Yeah, I can be a real scary dude; especially when I don’t have my makeup on (or when I try to find reasons to be bullish). Bullish on “reflation” or the prospects for US growth magically re-accelerating to its cycle peak of 2015, that is.

 

The real monsters that have been hammering Consensus Macro in 2016 are as follows:

 

  1. #Deflation (China, Oil, EM, etc.)
  2. US #GrowthSlowing from its Super #LateCycle peak
  3. Illiquidity & Leverage

 

Unfortunately, Illiquidity (institutional investors can’t get out of small/mid cap equity and junk bond exposures) and Leverage (hedge funds running 150-250% “gross long”, growth slowing companies like IBM levering up to buy back stock, the largest $ amount of corporate credit outstanding in human history, etc.), wasn’t objectively discussed @Davos.

 

I think that’s mainly because of real-world economic ignorance, willful blindness (compensation), and some form of fictional peddling. Since few (if any) called for this great US Dollar Denominated Liquidity Trap to manifest as the US Dollar Index broke out from 40-year-centrally-planned lows (Bernanke’s QE3 in 2011), what would there be for an academic paid to advise a banker to discuss?

 

Since it’s easy to argue that all that was core to the ideology of using “monetary policy tools, innovations, and communications” was one of the causal factors in perpetuating one mother of a #Bubble in inflation expectations, over-supply, and bad investor behavior (chasing Kinder’s lure of a levered yield), the Old Wall Folk would have to bear some responsibility in the discussion.

 

Back to what really happened last week (hint: one more of the many counter-TREND bounces):

 

  1. US Equities rallied off oversold lows (SP500 +1.4% on the week to -6.7% YTD)
  2. Total US Equity Market Volume had its slowest day (down -9% vs. its 1-month avg) on a +2% Friday (SP500)
  3. Oil (WTI) led the counter-TREND bounce with a +5.9% ramp to -15.7% YTD
  4. Copper had 2x the bounce of the SP500, closing +3.0% to -6.2% YTD
  5. MLP stocks “beat the Dow” at +1.1% vs. +0.7% on the week, but are still in crash mode -17.7% YTD

 

I’m pretty sure that’s not how the Old Wall’s media recapped the week. In other reality-check news:

 

  1. Our favorite US Equity Sector Style (Utilities, XLU) closed up another +0.9% to +1.2% YTD
  2. Our least favorite Equity Sector (Financials, XLF) closed down another -0.7% to -10.7% YTD

Yeah, that’s a bummer – when the “market is up” and the sector the “rate hike” bulls like the most was down (again). But that’s to be expected by those of us longer-term investors who understand Lower-For-Longer (US 10yr Yield -23 basis points YTD at 2.04%).

 

The only thing other than maybe Ukrainian and Italian stocks (down -7.9% and -0.9% on the week, respectively, in a globally “up” tape), that I can find worse than being long the Financials (on a week where Jaime Dimon called everything fine) was:

 

  1. High Beta Stocks down another -1.6% week-over-week to -13.7% YTD
  2. Low Beta Stocks up +0.1% week-over-week to -2.1% YTD

*Mean Performance of Top Quintile vs. Bottom Quintile (SP500 Companies)

 

In other words, if all you’ve done in 2016 was express the Illiquidity & Leverage trade in High vs. Low Beta portfolio positioning, never mind charging 2 & 20 for that – you could probably come back as Steve Cohen and charge 5 & 50!

 

Not to be completely out-done by the weather-trade (ex-the-pending-slow-volume-storm-prep-day, the SP500 is down closer to -8.5% YTD!) one of our Top 3 Macro Long Ideas right now (the US Dollar) had another solid week, +0.6% at +1.0% YTD.

 

I know. Being long Greenbacks, Utes, and the Long-Bond is boring. But sometimes, in the #GameOfSlowing (Q4 2015 Hedgeye Macro Theme) playing the low-beta, low-leverage strategy works. Finally, since I’m up off my knee, I’ll remind you of Cersei Lannister’s advice:

 

“When you play the Game of Thrones, you win or you die.”

 

Our immediate-term Global Macro Risk Ranges are now:

 

UST 10yr Yield 1.96-2.09%

SPX 1

VIX 20.43-28.91
YEN 116.51-118.99
Oil (WTI) 28.21-32.68

 

Best of luck out there this week,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Winter Was Coming - 01.25.16 chart


Investing Ideas - Levels

Takeaway: Current Investing Ideas: TIF, JNK, NUS, W, FL, WAB, MDRX, ZBH, FII, XLU, MCD, RH, GIS & TLT

Please see below Hedgeye CEO Keith McCullough's refreshed levels for our high-conviction Investing Ideas.

 

Have a great weekend.

LEVELS

Investing Ideas - Levels - 1 23 2016 2 14 36 PM

 

Trade :: Trend :: Tail Process - These are three durations over which we analyze investment ideas and themes. Hedgeye has created a process as a way of characterizing our investment ideas and their risk profiles, to fit the investing strategies and preferences of our subscribers.

  • "Trade" is a duration of 3 weeks or less
  • "Trend" is a duration of 3 months or more
  • "Tail" is a duration of 3 years or less

POTOMAC INSIGHT | Washington To Wall Street: What To Watch With JT Taylor

 

Potomac Research Group Senior Analyst JT Taylor discusses the three most important issues in Washington this week, with special insight on how the U.S. presidential campaign is shaping up.


Early Look

daily macro intelligence

Relied upon by big institutional and individual investors across the world, this granular morning newsletter distills the latest and most vital market developments and insures that you are always in the know.

The Week Ahead

The Economic Data calendar for the week of the 25th of January through the 29th of January is full of critical releases and events. Here is a snapshot of some of the headline numbers that we will be focused on.

 

CLICK IMAGE TO ENLARGE.

The Week Ahead - 01.22.16 Week Ahead


Investing Ideas Newsletter

Takeaway: Current Investing Ideas: TIF, JNK, NUS, W, FL, WAB, MDRX, ZBH, FII, XLU, MCD, RH, GIS & TLT

Investing Ideas Newsletter - bears in car cartoon 01.21.2016

 

Below are our analysts’ new updates on our fourteen current high conviction long and short ideas. As a reminder, if nothing material has changed in the past week which would affect a particular idea, our analyst has noted this. We will send CEO Keith McCullough’s updated levels for each ticker in a separate email.

IDEAS UPDATES

MDRX

To view our analyst's original report on Allscripts Healthcare Solutions click here.

 

We presented our Short Case on Allscripts Healthcare Solutions (MDRX) earlier this week to Institutional Investors. The problems facing Allscripts could very well be terminal, as they continue to lose share among the largest of Health Systems.

 

Investing Ideas Newsletter - Allscripts cartoon

 

This is a problem because as hospitals and health systems continue to merge, Allscripts' addressable market rapidly shrinks. Attrition also becomes a major issue, as Allscripts' current clients are acquired by health systems using competing solutions from Epic, Cerner, MEDITECH and athenahealth. 

 

Investing Ideas Newsletter - mdrx shrinking

 

Our work suggests that attrition is much worse than management is letting on, and is an underappreciated reason why the correlation between bookings, sales and backlog have broken down in recent years. In fact, two of Allscripts largest clients have signed contracts with competitor Epic, for a system wide integrated EHR in 2015, with an implementation scheduled for mid-2017. 

 

Nowhere in the press releases, filings or transcripts does management address these pending losses and what it means for the business.  Instead, they are communicating a message of stability and market share gains, which according to the data, is a misleading narrative.

 

Bottom line: We continue to see more than 30% downside on a trend duration, with tail risk of 50% or more.

 

Investing Ideas Newsletter - 20160122 MDRX NetWinnerOfClients

TLT | XLU | JNK

To view our analyst's original report on Junk Bonds click here and here for Utilities

 

The volatile week ended with a big squeeze in equity and commodity markets, but more cracks in credit emerged, especially those bonds related to inflation expectations:

  • The U.S. 10-Year yield went nowhere, declining 2bps to 2.05%
  • TLT lost -0.4% -- small pullback given last week’s rip
  • JNK bounced +0.3% -- weak response to last week’s sell-off if you’re a bull

Meanwhile, in 2016, Utilities (XLU) continues to be the bright spot in the equity markets. XLU is up 1% this year, having edged out all other S&P 500 subsectors by a wide margin. Last week, XLU was down marginally but was still second best among the subsectors, beating all but Healthcare (XLV). Essentially, it's paying off to own low-beta XLU in a crashing market.

 

Back to the bond market. Taking a longer term view, as the unwinding of the unprecedented corporate credit bubble gathers steam, the JNK move was a weak bounce in what we see as a developing crash in high yield and junk bond markets:

 

Investing Ideas Newsletter - 01.22.16 JNK Chart

 

Rating agency S&P disclosed on Thursday three concerning stats as it relates to the wellness of credit oustanding:

  • More companies were at risk of having their credit ratings cut at the end of December than at the close of any other year since 2009
  • The number of potential downgrades was at 655, compared with 824 reported by the finish of 2009
  • The year-end total for 2015 was "exceptionally" higher than a yearly average of 613

 

Then on Friday, S&P followed with additional action:

  • Disclosure that oil-exporting countries face fresh downgrades as crude prices fall further and that it could repeat last year's move when it made a big group of cuts all at once
  • S&P currently has Azerbaijan, Bahrain, Kazakhstan, Oman, Russia, and Saudi Arabia on negative outlook in its Europe, Middle East and Africa region, as well as Brazil and Venezuela in Latin America

Moody’s echoed the shaky state of credit markets by announcing it was putting the ratings of 120 oil and gas companies on watch Friday.

 

Strap on your seatbelts as we expect that credit spreads will continue to widen. If the Fed pivots on its “4 rate hikes” in 2016 as the data continues to slow, Treasury bond yields get pushed lower and high-yield spreads widen into a late cycle deleveraging. This should continue to generate alpha in a Short JNK, Long TLT trade.

 

The Atlanta Fed snuck in a revised growth rate expectation after the close last Friday (what timing!). It’s becoming more probable that other Fed Heads will follow and acknowledge what we have echoed for a year and a half now.  

NUS

To view our analyst's original report on Nu Skin click here.

 

Nu Skin (NUS) has been crushed so far this year. The stock is already down roughly -16% YTD. While it did jump higher on Friday, we view this as another good opportunity to short the stock. The company is dealing with slowing distributor growth, small market share in its category, and the continued impending implications of further government intervention. This is not a company you want to be long.

FII

To view our analyst's original report on Federated Investors click here.

 

In 2016, the asset management sector has been hit hard on market exposure and the -7% start to the year for the S&P 500. Market depreciation is especially impactful for the asset managers as negative market returns decreases billable assets and generally compresses valuation multiples for the sector.

 

With many questions on the solvency of the energy sector at low current oil prices, a U.S. central bank that is incrementally hawkish, and Chinese economic results coming in well below expectations, the environment is cautious at best.

 

With that said, the defensive nature of Federated Investors' (FII) business, with 70% of the firm’s assets-under-management in money market fund assets is outperforming the rest of the asset managers and we expect this divergence to widen as we get further into the year.

 

As investors get incrementally defensive and move to cash, industry money fund balances will increase. With ~10% share of cash products, FII assets-under-management will be more resilient than the rest of the industry.

 

Investing Ideas Newsletter - fii

WAB

To view our analyst's original report on Wabtec click here

 

Locomotives are continually being stored even while the total equipment fleet is young. Equipment heading to storage hurts Wabtec (WAB) in two ways. First, as equipment heads to storage, new equipment demand decreases.

 

Investing Ideas Newsletter - current cost

 

Second, WAB’s aftermarket business is hit as their customers choose to either delay maintenance and/or scavenge for parts off of stored equipment. This is particularly problematic with slowing freight rail capital spending on equipment for 2016.

 

Investing Ideas Newsletter - current storage

TIF

To view our analyst's original report on Tiffany click here.

 

Tiffany (TIF) missed yet again, blowing up the bull case that this is a great company at a defendable valuation. The forecastability of this cash flow stream is the worst we've ever seen outside of the Great Recession. If you did not think we were headed for a recession last week, you've got to give it serious credence today.

 

Unfortunately, in a recession TIF earnings could still go meaningfully lower (i.e. $3.00).

 

We acknowledge that TIF is a very good (once great) brand and company. But let's be honest...this company guided down more in the past year than it had it the preceding decade. That's hardly financial management befitting a Best-in-Breed company.

 

Barring a complete reset in Street numbers (down to the $3.50 range) we'll stay short.

W

To view our analyst's original report on Wayfair click here.

 

On Wayfair (W), management is selling high. Insider sales are nothing new at Wayfair as insiders have sold over $80mm net since the lockup expired at the end of March 2015. The chart below shows sale volume relative to the stock price. We view management's overall appetite to unload shares as a negative for the W business model long term. Insider sales accelerated in December driven mainly by higher sales from CFO Fleisher after filing a new 10b5-1 plan in November. January to date shows no signs of slowing.

 

We think this online only business model is one that will not be profitable in the home furnishings space in the long run. Management’s presentations may be bullish on the business model, but their trading activity points to the opposite.

 

Investing Ideas Newsletter - 1 22 2016 W insider sales 

RH 

To view our analyst's original report on Restoration Hardware click here.

 

With a $1.2 billion loss in market cap since the 3Q print (-34%), the market is suggesting that things are getting downright nasty at Restoration Hardware. Bad market style factors (small cap, high beta/high short interest) have been an enormous driver here, though they come on the heels of a sloppy 3Q print when for the first-time-ever concerns were raised about promotions to drive sales. Oh yeah, all that, plus there’s a very good chance we’re heading into a recession, as our Macro team has highlighted.

 

Regardless of where any of us stands on the recession debate, there’s one thing that matters to RH under $60 (and even under $70) – and that’s downside earnings support.

 

We’re going to host a call and issue a Black Book on Wednesday, January 27th to show the stress points in the business, and where we shake out on the model. More to come next week.

MCD

To view our analyst's original report on McDonald's click here

 

We remain the bulls on McDonald's (MCD) as we expect them to beat consensus estimates once again. With a full quarter of all-day breakfast under their belt, Restaurants Sector Head Howard Penney expects to see a big lift in comps. We will give you a more thorough update next week following the 4Q15 results on Monday January 25th.

FL 

Foot Locker (FL) remains one of Retail analyst Brian McGough's favorite short ideas. We added the company to Investing Ideas last week. McGough will send out a full stock report early next week.

 

Below is a brief excerpt from a research report McGough recently sent to institutional subscribers.

 

"FL is at the top of our Best Ideas Short List. While our short thesis goes far beyond a few unfavorable data points, the question around timing has been a big issue for people who agree with our TAIL call, but can’t quite get there over the near term.

 

For many reasons, we think that $4.20 will likely prove to be the high water mark in this economic cycle, and the consensus estimates in years one through three are high by $1-$2 per share.

 

We think that emerging competition from its top vendor, Nike (≈80% of sales), will stifle growth, and leave the company with an earnings annuity somewhere around $3.50-$3.75 per share. Is that worth $64? Not a chance. Not for a company that is Nike’s best off-balance sheet asset. And definitely not when the Street is in the stratosphere approaching $6.00 in EPS (#NoWay)."  

ZBH

To view our analyst's original report on Zimmer Biomet click here. 

 

Healthcare analyst Tom Tobin has no new update this week on Zimmer Biomet (ZBH). Tobin reiterates his short call on ZBH, which is down -3.1% versus the S&P 500's -2.6% since the company was added to Investing Ideas in September. Remember the core thesis:

  • "Employment growth slowing and fears of a recession will certainly dampen investor appetite for what is viewed as an elective procedure."
  • "Our team's long-term view calls for slowing/declining unit volume and deteriorating pricing. The impact to gross margins should be significant with very little spending flexibility within the organization."   

GIS

If you haven’t noticed yet, General Mills (GIS) has turned on its advertising for no artificial colors and flavors in its cereal, as well as an increased effort for its gluten free campaign.

 

Click here to view the 30 second spot TV commercial.

 

These steps taken on cereal, coupled with improved merchandise planning across their portfolio in the second half should bode well for the company’s future performance. Additionally, General Mills fits neatly into the style factors that we like from a macro point of view, large cap, low beta and liquidity.


HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls

Takeaway: All exchange traded categories are substantially higher to start '16 with fresh new highs in CME trading volume.

Jittery markets continue to trade all over the map with significant gap up and draw down days digesting a helter skelter of global market information in 2016. The S&P 500 put in a marginally positive holiday shortened week of +1.3% but still sports a decidedly negative -7% start to the New Year. Exchange activity however continues to propel higher with incremental volatility and investor uncertainty. Cash equity volume in 1Q16TD is now up +38% Y/Y, with equity options activity now up +33% Y/Y, with futures at a +25% growth clip over 2015. CME Group (CME) thus far, half way through January, has set all-time trading volume highs of 19.1 million futures and options contracts per day, taking out the former high of 17.5 million in average daily volume (ADV) in October 2014 on the potential for a Greek exit from the European Union. While CME stock has been caught up in the market swoon (with its valuation compressing), the earnings power of the Merc has increased (and is threatening to do so for the intermediate term with the swelling of open interest as well). Thus it will just be a matter of time in our view, before CME stock perks up (although it is already outperforming the broader market by ~150 bps).

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - CME chart

 

Weekly Activity Wrap Up

This week, cash equity trading volume came in at 10.7 billion trades per day, bringing the quarter's ADV to 9.5 billion. Options traders exchanged 23.0 million contracts per day, bringing the 1Q16TD average to 20.6 million. Futures activity came in at 28.5 million contracts per day, bringing the 1Q16TD average to 24.9 million.

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon1

  

U.S. Cash Equity Detail

U.S. cash equities trading came in at 10.7 billion shares per day this week, averaging with last week to bring the 1Q16 average so far to 9.5 billion shares per day. That marks +38% Y/Y and +35% Q/Q growth. The market share battle for volume is mixed. The New York Stock Exchange/ICE is taking a 24% share of first-quarter volume, which is consistent with the prior quarter and year-ago quarter, while NASDAQ is taking a 19% share, +57 bps higher Q/Q but -91 bps lower than one year ago.

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon2 2

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon3

 

U.S. Options Detail

U.S. options activity came in at a 23.0 million ADV this week, bringing the 1Q16TD average to 20.6 million, a +33% Y/Y and +29% Q/Q contraction. In the market share battle amongst venues, NYSE/ICE has been trending downward at a moderate pace, but at an 18% share it is +125 bps higher than the year-ago quarter. Meanwhile, NASDAQ's recent declines bring it -440 bps lower than 1Q15. CBOE's market share is down -83 bps Y/Y but has improved recently; its 27% share of 1Q16TD volume is up +195 bps from 4Q15. BATS and ISE/Deutsche have been taking share from the competing exchanges, with BATS up to a 10% share from 9% a year ago and ISE/Deutsche taking 16%, up from 13% a year ago.

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon4

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon5

 

U.S. Futures Detail

22.4 million futures contracts traded through CME Group this week, bringing the 1Q16TD average to 19.1 million, a +28% Y/Y and +45% Q/Q expansion. CME open interest, the most important beacon of forward activity, currently tallies 104.0 million CME contracts pending, good for +14% growth over the 91.3 million pending at the end of 4Q15, an improvement from last week's +12%.

 

Contracts traded through ICE came in at 6.0 million per day this week, bringing the 1Q16TD ADV to 5.8 million, +15% Y/Y and +21% Q/Q growth. ICE open interest this week tallied 67.0 million contracts, a +5% expansion versus the 63.7 million contracts open at the end of 4Q15, consistent with last week.

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon6

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon8

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon7

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon9 

 

Monthly Historical View

Monthly activity levels give a broader perspective of exchange based trends. As volatility levels, measured by the VIX, MOVE, and FX Vol should rise to normal levels after the drastic compression this cycle, we expect all marketplaces to experience higher activity levels.

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon10

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon11

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon12

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon13

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon14

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon15

 

Sector Revenue Exposure

The exchange sector has broadly diversified its revenue exposure over 10 years as public entities with varying top line sensitivity to the enclosed trading volume data. The table below highlights how trading volumes will flow through the various operating models at NASDAQ, CME Group, ICE, and Virtu:

 

HEDGEYE Exchange Tracker | Chicago...the Merc Not the Bulls - XMon19 3

 

 

Please let us know of any questions,

 

Jonathan Casteleyn, CFA, CMT 

  

  

 

 Joshua Steiner, CFA

 

 

 

 


Hedgeye Statistics

The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.

  • LONG SIGNALS 80.65%
  • SHORT SIGNALS 78.64%
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