The Weakest Hands

“The strongest weak hand suffers the largest loss.”

-Lasse Heje Pedersen


That’s an old poker maxim that Lasse Heje Pedersen effectively uses to explain the concept of draw-down risk (crashing portfolios) in what’s turned out to be a great book for anyone who needs a tutorial in modern day market strategies, Efficiently Inefficient.


Bad poker players (not knowing who the sucker is at the table means it’s probably you) are also great metaphors for schizophrenic levered long hedgies and chart chasers who continue to buy high and puke this US stock market up lower.


“Eventually they cave and sell near the bottom as their funding dries up or panic ensues. Why are most of them selling near the bottom? Because this defines the bottom.” (Efficiently Inefficient, pg 61)


The Weakest Hands - bull cartoon 02.08.2016

Click here to join Hedgeye CEO Keith McCullough live on The Macro Show at 9am. 


Back to the Global Macro Grind


Bottom? Did you say bottom? Oh, Keith – we need a bottom. Please call a bottom.


That defines a not un-consequential percentage of discussions I’ve been having on the road. As if I’m the catalyst for a bottom! Bottoms aren’t up to us humanly creatures to “call.” They are processes, not points.


Evidently the bottom is not in in Japan. Last night the Japanese stock market (Nikkei) moves right back into #crash mode (-22.8% since July) after closing down an eye-opening -5.4%. Why?


  1. Japan is losing control of the central-market-planning belief system (if we devalue Yen, you buy Nikkei)
  2. Instead, as Japanese Government Bonds (JGBs) yields officially go negative (10yr -0.04%), the Yen is ripping
  3. And, as the Up Yen, Down Nikkei trade goes, panic on the consensus side of the hedge fund community ensues


Do you know how many hedge funds are short the Japanese Yen? Moreover, do you know how many of them have the exact same catalyst? What happens when they actually get the catalyst (negative yields) and their position reacts opposite to expectations?


You can apply this line of risk management questioning to the entire macro market:


  1. What happens if European stocks stop going up on Draghi’s #cowbell?
  2. What happens if the Fed comes around to Hedgeye’s view, stops raising rates, and stocks crash?
  3. What happens if your entire positioning is based on the weakest “strong” hand, that is a government catalyst?


There was a time last year when I was bullish on both European and Japanese stocks. That was mostly an extension of our #StrongDollar view (Down Yen and Down Euro was correlating inversely with European and Japanese equities).


But, every day, I’d get on our Macro Show (morning call, daily at 9AM EST) and say that there’s absolutely no fundamental growth and/or inflation reason to be buying Japanese stocks. How weak of a perceived strong hand was that?


That is the thing about sitting at the poker table and/or at your desk trying to not lose all your (or your client’s) money – #perception risk. What if everyone at the table (in the market) has the same weak hand as you?


How many pundits and PMs had a pair of 7s, long “European stocks because they’re cheap”?


A) Lots (if they were long Spain it was a pair of 4s; if long Italy a pair of 2s)

B) Now the Italian Stock market is down -33% since July 2015 (when the SP500 peaked)

C) If the SP500 had that crash/draw-down from its July #bubble high, it would be at 1436!


But no, no, no. No one is talking about Italy or Greece (still crashing) or Spain this morning. They’ll all be talking about Japan, just like they were all talking and talking and talking about China and Oil…


The strongest vs. weakest hands you can have in this poker (macro metaphor, stay with me here!) game is currently:


  1. Royal Flush – Long The Long Bond (TLT), Utilities (XLU), Gold (GLD), Volatility (VXX) and Cash
  2. 7 (of hearts), 5 (of diamonds), 4 (of spades), 3 (of spades), 2 (of spades)


That worst hand would look something like this:


  1. Long Italian Stocks (MIB Index) for “diversification”
  2. Long the Financials (XLF) -14.3% YTD on “rate hike expectations”
  3. Short Utilities (XLU) +7.2% YTD on “rate hike expectations”
  4. Long Oil and a basket of levered Energy stocks like Chesapeake (CHK) and Linn (LINE)
  5. Long Ackman


Most of the perceived “strong hands” had LEVERAGE to either inflation or growth expectations gone bad. In other words, they had the 2-3-4 of spades and were praying for a central-planner to deliver them the 5 and the 6 of the same suit.


That’s why the biggest risk to the entire game is that the belief-system (ideology) of central-market-planners being able to bail out markets breaks down. That’s why you’re already seeing the strongest weak hands suffering some of the largest losses.


Our immediate-term Global Macro Risk Ranges are now:


UST 10yr Yield 1.72-1.91%


Nikkei 157

VIX 22.07-28.91
USD 95.66-98.40
YEN 114.99-118.68


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


The Weakest Hands - 02.09.16 chart

The Macro Show Replay | February 9, 2016


Central Market Planning

Client Talking Points


Breaking bad, the belief system is here – Japan says “negative yields” (and they got them – 10YR JGB -0.04% now), but they didn’t get Down Yen, Up Nikkei – they got Up Yen, Crashing Nikkei! (Nikkei -5.4% overnight, -22.8% since July).


If you thought the central planning experiment in the U.S. and Japan went bad, look at what Draghi is doing to the banks in Europe. Italy’s stock market is down another -1.5% this morning taking it’s crash (since July) to -32.8% (if the SPX crashed that % it would be at 1,436 FYI).


We shifted our favorite S&P Sector short from Energy to the Financials on JAN 5th and the main reason for that was our uber bullish call on the Long Bond (calling for all-time low in UST 10YR Yield) and Financials being the most over-owned group relative to its rate risk. The XLF is now -14.3% vs. Utes (XLU) +7.2% year-to-date.


*Tune into The Macro Show with Hedgeye CEO Keith McCullough live in the studio at 9:00AM ET - CLICK HERE

Asset Allocation


Top Long Ideas

Company Ticker Sector Duration

The bond market understands #GrowthSlowing. So do Utilities (XLU), which is why XLU is leading S&P sub-sector performance in 2016. XLU is up +7.6% versus down -8.0% for the S&P 500. Stick with it on the long side.  


GIS remains one of analyst Howard Penney's top Long ideas in the Consumer Staples space. As we have continued to say, it boasts style factors ideal in turbulent times; high market cap, low beta and liquidity. While GIS is down year-to-date, it's held up very well against the broader stock market. GIS is down -4% versus down -8% for the S&P 500 in 2016.


GIS has been picking up steam, as the company is working to improve merchandising and advertising on core business. One of the initiatives is making a distinct effort to delve deeper into the natural and organic category. That will certainly help them a lot in the long run. More to come.


Down go growth expectations and down goes the yield curve. That's the latest from Macro markets last week and it plays right into our long Long-Term Treasuries (TLT) and short Junk Bonds (JNK) Investing Ideas.


The UST 10YR Yield declined another -9 basis points last week which helped boost TLT +1.1% on the week. In a healthy environment, bonds as an asset class go up in tandem, but JNK lost -0.9% on the week despite a falling yield curve. That’s because we’re NOT in an “all is good” environment. Credit spreads widen in turbulent times. This widening is the alpha-generating opportunity in long TLT, short JNK.

Three for the Road


VIDEO FLASHBACK: 4 Videos With Keith McCullough On Our Economic Outlook & Long Bond Call… via @hedgeye



Not appreciating what we have now robs us of our abundance even when it exists.

Marshall Sylver                                     


Anheuser-Busch Inbev has spent $278.3 million on Super Bowl ads over the past decade, according to Kantar Media.

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VIDEO FLASHBACK: 4 Videos With Keith McCullough On Our Economic Outlook & Long Bond Call

Takeaway: Hedgeye CEO Keith McCullough likes to say "I'm the most bullish guy on Wall Street... on Long Bonds (TLT)."

VIDEO FLASHBACK: 4 Videos With Keith McCullough On Our Economic Outlook & Long Bond Call - tlt say cheese


We've been bullish on the Long Bond (TLT) since August 2014. Here's what the score looks like versus the S&P 500.


VIDEO FLASHBACK: 4 Videos With Keith McCullough On Our Economic Outlook & Long Bond Call - LONG BOND


In fact, Hedgeye CEO Keith McCullough is fond of saying, "I'm the most bullish guy on Wall Street... on Long Bonds." Below are four recent videos in which Hedgeye CEO Keith McCullough lays out our dour economic outlook and explains why that is bullish for Long Bonds.


1. McCullough on Fox Business, 10/20/2015.


"If you’re a CIO and you told everyone that rates would surprise to the downside, you’re doing your job. You’re giving [clients] a much lower volatility profile and they would have a big position in the Long Bond. To me that’s the elephant stomping around in the room." 



2. McCullough on The Macro Show, "The Best Way to Play the Coming Recession," 12/29/2015.



3. McCullough on The Macro Show, "This Is Our Best Idea Right Now," 12/30/2015.



4. McCullough on Fox Business, "The Economy Is A Slow Moving Train Wreck," 1/4/2016


Cartoon of the Day: Extinct?

Cartoon of the Day: Extinct? - bull cartoon 02.08.2016


"Fortunately, we don’t have to apologize this morning," Hedgeye CEO Keith McCullough wrote in the Early Look today. "We were on the right side of the #LateCycle US Employment report going into the weekend. And we’re on the strong side of a worldwide selloff in both stocks and long-term bond yields this morning."

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Takeaway: Marco Rubio could have capitalized off his third place finish in Iowa but dropped the ball to Trump and Cruz's benefit.

Editor's Note: Below is a brief excerpt from Potomac Research Group Senior Analyst JT Taylor's Morning Bullets sent to institutional clients each morning. 


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NH voters have had a full day to process Saturday night's debate and it's not good for Marco Rubio. Govs Christie, Bush and Kasich have all climbed in a number of polls conducted since the debate and are showing new life. Rubio had a chance to capitalize on real momentum coming out of Iowa and he blew it.  The race for second is now a free-for-all. The absence of a convincing win for Rubio benefits current NH frontrunner Donald Trump as well as Ted Cruz, who is better-positioned for the SC primary. The longer there's no clear winner in the Rubio/Christie/Bush/Kasich fight to make it a three-way race, the better for Trump. With so much volatility in the race, why would anyone considering dropping out?


JT Taylor: Big Winner From Rubio Stumble? Trump ... Hillary Finally Unleashes Bill - bill clinton


We're wondering why it took so long for Bill Clinton to step in and attack Bernie Sanders -- we know he's been chomping at the bit for weeks. Clinton took Sanders to task for being "hermetically sealed" outside reality, and exhorted his supporters to come to their senses as Hillary has been closing the gap on Sanders in the Granite State.  Do you think they're reading the sequel to the Comeback Kid?



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