Takeaway: The consensus bull case for U.S. capital markets hinges on omitting commodity-linked industries (namely energy) from important economic and financial market indicators. While we continue to think such omission is off base because it misses the point of proactively positioning one’s portfolio for interconnected risks, we’re happy to entertain such discussions. Even if we were to concede the conclusion(s) of such studies, we’re not so sure they are being conducted in the most appropriate manner – i.e. in rate-of-change terms.


One common line of pushback Keith and I have been getting on the road visiting clients and prospective clients lately has centered on energy’s impact on the broader economy. The U.S. remains a net importer of crude oil, so, naturally, one would think energy price deflation has a net positive impact on U.S. economic growth.


Moreover, since energy is an essential input to the vast majority of production and consumption activity, there is an assumed net positive impact from a corporate and consumer PnL perspective as well. We don’t disagree with the assumption; it makes sense intuitively.


But does it make sense empirically?


Consider the following analysis which shows the cumulative change in the mining sector’s contribution to nominal GDP (which is as targeted as the data allows) from its 2Q14 peak juxtaposed with the cumulative change in personal outlays on gasoline, fuel oil and other energy goods. The assumption here is that to the extent a positive spread exists, the tailwind to PCE from falling energy prices is greater than the headwind to GDP from declining mining sector activity. Thus far, the spread has been negative, implying a cumulative net headwind to economic activity.


Ex-Energy? - Cumulatie Net Energy Impact


Another way to show this relationship is on a QoQ basis. In any given quarter, if the spread between these two nominal rates of change is positive, then it could be said the economy experienced a net tailwind from the perspective of energy price inflation or deflation; the opposite holds true as well. After a period of a mostly-sustained net tailwind from 4Q12 to 3Q14, the U.S. economy has experienced a persistent net headwind from the change in energy prices.


Ex-Energy? - QoQ Net Energy Impact


There are two key assumptions in the aforementioned analysis: 1) that mining sector GDP is predominately driven by energy prices; and 2) that U.S. consumers have a marginal propensity to consume any savings from declining energy prices, rather than pocketing the change.


Empirical evidence proves our first assumption correct, in that there exists an extremely tight positive correlation between crude oil prices and mining sector GDP.


Ex-Energy? - Brent Crude Oil vs. Mining Sector GDP


Regarding the latter assumption, there exists an observable inverse correlation between national gasoline prices and real PCE growth for much of the past ~10yrs. The key outliers are during the 2H08-2011 crash and recovery in energy prices and during the 2H15-present fuel price deflation.


Ex-Energy? - Gasoline Prices vs. Real PCE Growth


When gas prices collapse nationwide (alongside the NAV of 401(k) and IRA portfolios broadly), does the U.S. consumer get spooked and cut back spending? Probably not, but maybe. At least the following chart seems to think so:




Jumping ship, we find it important to consider multiplier effects as well. While it’s impossible to accurately quantify the multiplier effect of the domestic energy economy, we can at least assume one exists given the capital-intensive nature of the industry. The following two charts highlight this relationship by showing that growth in both employment and income in key energy-producing states contributed an outsized share of cumulative employment and income growth from their respective cycle-lows.


Ex-Energy? - Energy States as   of Employment Growth


Ex-Energy? - Energy States as   of Income Growth


Specifically, at its peak share of 12.9% in OCT ’14, employment growth in key energy-producing states accounted for 18% of the cumulative growth in total nonfarm payrolls from its FEB ’10 trough and remains at a still-disproportionate 15.1% per the latest data. Moreover, at its peak share of 12.7% in 1Q15, personal income growth in key energy-producing states accounted for 16.5% of the cumulative growth in total personal income from its 3Q09 trough and remains at a still-disproportionate 15.3% per the latest data.


While there are some key assumptions here as well – namely the somewhat arbitrary level of production at which we have decided to label a given state as a key energy producer – the aforementioned relationships hold true in terms of explicit exposure to commodity production in both GDP and CapEx terms. Specifically, at its peak share of 3.2% in 3Q13, the mining sector accounted for an outsized 8.2% of the cumulative growth in nominal GDP from its 2Q09 trough. Moreover, at its peak share of 5.7% in 2Q12, the mining sector accounted for an outsized 14% of the cumulative growth in nominal private nonresidential fixed investment from its 1Q10 trough.


Ex-Energy? - Mining Sector as a   of Nominal GDP Growth


Ex-Energy? - Private Fixed Investment in Mining etc. as a   of Private Fixed Investment Growth


As the charts highlight, the mining sector’s contribution to the cumulative growth of GDP and CapEx has since dwindled to 0.5% and -1%, respectively. Not surprisingly, it is at these levels where peak mitigation or outright exclusion of energy from just about every relevant economic and financial market indicator occurs. Perhaps there’s a bee in our bonnet, but we can’t help but point out the lack of mitigation and/or exclusion on the way up.


To add some ethos to our rant, the current peak-to-trough decline in the mining sector’s contribution to cumulative GDP and CapEx growth is not unlike the decline witnessed by the housing sector in the mid-to-late 2000s. Specifically, at its peak share of 6.7% in 4Q05, nominal private residential construction accounted for an outsized 13.7% of the cumulative growth in nominal GDP from its 4Q01 trough; that share had declined to a mere 2.4% by the end of 2007. We know of no investor that would dare “ex” housing from the last economic cycle.


Ex-Energy? - Private Nonresidential Fixed Investment as a   GDP Growth


As with leverage, multiplier effects work both ways. This more than likely why you continue to see carnage in rate-of-change (i.e. deceleration) and/or absolute (i.e. outright contraction) terms across the broader domestic manufacturing and export sectors:












Ex-Energy? - EXPORTS


In terms of staving off an outright #USRecession, the key question investors should be asking themselves is whether or not the U.S. consumer can continue its Sisyphean struggle to hold up the U.S. economy until the aforementioned indicators begin to lap easy comps at various intervals throughout 2016.


Based on the preponderance of data, our answer is increasingly “NO”. For those of you looking for more details on why that is the case, we encourage you to review the following research reports:



Q: If industrial activity is going from “horrific” to “just bad” while consumption growth that went from “great” (in 1H15) to “good” (in 2H15) is on its way to “bad” (by mid-2016) at the same time, what are you left with?


A: The most obvious slow-moving #LateCycle slowdown we’ve seen since the early-2000s.


And even if the U.S. economy avoids recording a technical recession, we could just have an 2000-02-style corporate deleveraging cycle that drags down equity market cap alongside it. After all, it's EPS that matters most to stocks, not GDP. Recall that the 2001 downturn was the shallowest recession in U.S. history; that didn't preclude the stock market (SPX) from getting cut in half.


Ex-Energy? - U.S.  CreditCycle Bubble Chart


Ex-Energy? - U.S. Corporate Credit as a   of GDP




Ex-Energy? - U.S. Household Net Worth as a   of DPI


Oh and by the way, it’s not just energy. With 263 of 500 SPX companies having announced results throughout the 4Q15 reporting season to-date, the Energy (-65%), Materials (-18.8%), Industrials (-4.1%), Financials (-3.4%) and Tech (-2.7%) sectors are all reporting YoY declines in EPS.


If you’re bullish, best of luck in your attempt to: A) “ex” all of that out; and B) avoid making eye contact with your credit team in the elevator or restroom.


If you’re bearish, best of luck out there preserving capital amid the continued pricing in of the aforementioned business cycle risks.




Darius Dale


The Net Neutrality Ruling: Potential Implications For Netflix, Verizon & Charter


In Part Two of this Hedgeye TV video excerpt with Potomac Research Group Senior Telecommunications & Cable analyst Paul Glenchur, Glenchur discusses the likely outcomes of a pending D.C. Circuit Court of Appeals ruling on net neutrality and the effects it could have on Charter Communications, Verizon and Netflix with Hedgeye Internet & Media analyst Hesham Shaaban.

CHART OF THE DAY: A Quick Look At The (Massive) Fed, ECB & BOJ Balance Sheets

Editor's Note: Below is a brief excerpt and chart from today's Early Look written by Hedgeye CEO Keith McCullough. Click here to learn more.


"... As you can see in today’s Chart of The Day, when it comes to unconventional monetary policy, the key divergence to focus on is the delta between the Fed’s Balance Sheet (which is contracting) and the balance sheets of the ECB and BOJ (expanding rapidly).


Again, there are many factors across many durations to consider here, but if I could only pick 3 charts that explain why stock market perma-bulls (who are now begging, again, for US Dollar Devaluation) are wrong being long “reflation”, this would be one of them."


CHART OF THE DAY: A Quick Look At The (Massive) Fed, ECB & BOJ Balance Sheets - 02.03.16 Chart

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 80.43%
  • SHORT SIGNALS 78.34%

Stock Market Crooners

“I’ve developed a karaoke habit. I’ve become a crooner.”

-Serena Williams


If this imploding Global Equity market has got some of your friends down, maybe you should take them out for a night of karaoke. You don’t want to scare them – and you definitely don’t want to talk up your Long Bond position – so ease into it with some crooning.


To croon, or not to croon – that remains the risk management question. By Webster’s definition, a crooner is a karaoke singer who “sings slow, romantic songs in a soft, smooth voice.” That’s how I’m thinking the bearishness of it all can be empathetically framed.


After trying his best to belt out his rendition of Draghi’s “Whatever It Takes” in the last few weeks, the Governor of the Bank Of Japan (Kuroda) pivoted into a deep, slow version of Master P’s “No Limit Soldiers” last night… it was scary.


Stock Market Crooners - central banker cartoon 02.02.2016


Back to the Global Macro Grind


As my brother from West Seattle, Darius Dale, reminded me – that Kuroda crap ain’t dope; it’s downright terrifying. He changed the ole school central planning lyrics to “there is no limit to measures for monetary easing.”


That’s right, after 90-100 TRILLION (per year) in Japanese monetary policy easing, writing 30,000 Yen checks to “poor folks” for Christmas (that’s $265), and opting for “Negative Yields” on long-term Japanese Government Bonds on Friday, Kuroda has no limits!


Since the BOJ’s Governor is simply a poor man’s version of a decent Draghi Crooner when it comes to moving markets, this is what the response was in Asia overnight:


  1. Japan’s stock market (Nikkei 225) hammered for a -3.2% down day (down -17.5% from its 2015 peak)
  2. Japanese Yen went UP on that, +0.4% versus the US Dollar
  3. CNBC celebrated the move, as they do most things central-market-planning


“So”, someone on Wall St. might ask, how does this all end?


A: Strong Dollar #Deflation


If you’re the poor wretched “investor” who has been long something big that settles in Dollars (like Commodities and their related countries, stocks, and bonds) since 2013, you should probably take up crooning and drinking (late night) at NYC karaoke bars.


There are, of course, multiple macro factors at work here that are being compounded by PBOC, ECB, and BOJ panic. But the most important of them all is that the US Federal Reserve is TIGHTENING into a slow-down.


All the while…


  1. China is lying about their need to devalue its currency by 10-15%
  2. Europe is trying to keep pace with Draghi Euro-Devaluation rhetoric
  3. Japan is dying


Keynes had a lot of things wrong, but he did nail this: “In the long-run, we’re all dead.” Japan’s grand monetary policy experiment started way back in the 1980s when a huge American central-market-planning rockstar, Paul Krugman, told them to “Print Lots of Money.”


And they did.


And it didn’t work. So, when they really started dying (population growth went negative and their core demographic spending cohort from the 1980s started falling off a cliff), they introduced “Abenomics” in 2012-2013.


As you can see in today’s Chart of The Day, when it comes to unconventional monetary policy, the key divergence to focus on is the delta between the Fed’s Balance Sheet (which is contracting) and the balance sheets of the ECB and BOJ (expanding rapidly).


Again, there are many factors across many durations to consider here, but if I could only pick 3 charts that explain why stock market perma-bulls (who are now begging, again, for US Dollar Devaluation) are wrong being long “reflation”, this would be one of them.


Leaders: Should we beg for an easy money Fed (again) and US Dollar Devaluation?


Isn’t that the definition of insanity (doing the same thing over and over and over and over and over again, and expecting different results?) Or is the fact that this is a very relevant option just the saddest part of our profession as it stands today?


At this stage of the #CurrencyWar (one of our Top 3 Macro Themes right now), all I know is that I hear a lot of bad versions of the same old song. Maybe that’s why crooning is dope, bros. Have yourselves another “relaxed drink.” This is going to be a long drinking session.


Our immediate-term Global Macro Risk Ranges are now:


UST 10yr Yield 1.85-2.00%


Nikkei 16006-18146

VIX 20.04-28.40
EUR/USD 1.07-1.09
YEN 119.01-121.54


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Stock Market Crooners - 02.03.16 Chart

The BOJ, UST 10YR and Sectors

Client Talking Points


Since the “whatever it takes” karaoke by Kuroda didn’t work (only a 2-day rally in Nikkei), he went with “there is no limit to measures for monetary easing”… code word = #panic, as the great central-planning experiment moves into its final phase of capitulation. The Nikkei got slammed for a -3.2% day as the Yen went UP on that.


We don’t want you getting piggy with the UST 10YR at 1.86% - it’s been a great start to the year (long the Long Bond), so book some gains after this epic move towards the all-time lows (in yields). The “expensive” Long Bond gets more expensive as A) Deflation persists B) Growth Slows and C) German 10YR 0.29%, JGB 10YR 0.06%, and Swiss 10YR -0.33%.


From a S&P Sector Style perspective, the Best Idea in our Q1 Macro Themes deck remains playing our rates call via long Utilities (XLU +0.4% yesterday to +6.4% YTD) and short Financials (XLF -2.8% yesterday to -11.8% YTD).



*Tune into The Macro Show with Hedgeye Financials & Housing analyst Josh Steiner live in the studio at 9:00AM ET - CLICK HERE

Asset Allocation


Top Long Ideas

Company Ticker Sector Duration

After a busy week of domestic data, you probably don’t need us to tell you that growth continues to slow. Despite the short-covering squeeze in energy stocks, Utilities (XLU) closed out January as the only sector in positive territory (+5%), other than Consumer Staples which eeked out a +0.5% gain. It was an awful start to the year for the S&P 500 (-5%). Don’t expect +10% of relative outperformance every month, but if you stuck with us on this trade, you’re in much better shape than most.


GIS remains one of our top Long ideas in the consumer staples space. As we have continued to say it boasts style factors that are ideal in turbulent times; high market cap, low beta and liquidity.


Recently, General Mills has been attacked by Chobani commercials, claiming that Yoplait yogurt contains the same ingredients used in pesticide. GIS filed a false advertising lawsuit against Chobani demanding that they stop showing that commercial because it could be detrimental to sales. GIS just got word that a federal judge has barred Chobani from continuing the ad campaign. This is a win for GIS, but it is unclear right now if there was any damage done to the brand. At this time we do not believe it had any serious impact on the company. We will keep you informed of any material information regarding this lawsuit as it moves forward.  


Long-Term Treasuries (TLT) continues to preserve capital against the slow-moving trainwreck in Junk Bonds (JNK). Week-over-week, 10-year bond yields crashed 13 basis points to 1.92%. That helped lift the best play on U.S. growth slowing (TLT) by 0.85% on the week as credit spreads continued to widen (JNK gained +0.76% on the week, underperforming TLT marginally on a relative basis).

Three for the Road



How 3 Key #FCC Decisions Could Affect $FB $NFLX $VZ… @KeithMcCullough @PotomacResearch



You will either step forward into growth, or back into safety.

Abraham Maslow                                      


China National Chemical Corp., or ChemChina, agreed to buy Syngenta AG, the total enterprise value (including debt) is $46.3 billion – making this China’s largest overseas acquisition.

The Macro Show Replay | February 3, 2016