In this brief excerpt of The Macro Show, Hedgeye Senior Macro analyst Darius Dale and CEO Keith McCullough discuss the relationship between the economic cycle and financial markets and how the former influences our approach to the latter.
Takeaway: A look at Republican versus Democratic turnout. Key takeaways on Ted Cruz heading into Super Tuesday.
Below is a brief excerpt from Potomac Research Group Chief Political Strategist JT Taylor's Morning Bullets sent to institutional clients each morning.
This primary season so far has exposed a major enthusiasm gap among the two parties. Turnout for the first three Republican contests was up 22.1% over 2012, while the Democrats have seen a 22.2% decrease. The record Republican turnout is in part due to the overwhelming number of voters motivated by Donald Trump -- whether they're supporting or opposing him. Trump has energized the field and brought with him new and previously-disengaged voters.
Hillary Clinton's campaign is counting on reviving the 'Obama coalition' of young and minority voters, but only Sanders has tapped into the youth vote so far. She's adopted (finally) a lot of his campaign rhetoric and has started to place less emphasis on herself and her qualifications, and more on what she would deliver for voters.
We think much of the dismal Democratic turnout can be attributed to her inability to do this so far -- she'll need to recalibrate further to deny Sanders a way back into the race and to prepare for the fall...
The raison d'être of Ted Cruz's campaign is that his character and personal convictions would give him an advantage in early, evangelical-rich states such as SC, where two thirds of Republican primary voters identified as either evangelical or born-again Christians. Yet Trump and Rubio took SC by storm, carrying the evangelical vote while Cruz was left holding the bag.
If Cruz can't recapture this support in the Super Tuesday Bible Belt states (AL, GA, MI, OK, TN...) which have a similar proportion of evangelical votes as SC -- we see him getting boxed out of the more moderate/purple states.
Takeaway: A precarious setup for US stocks and the economy.
"No market crisis is alike, but they sure do rhyme a lot," Hedgeye Senior Macro analyst Darius Dale wrote this morning.
Dale points to the chart below showing the 2007-2008 stock market panic against the 2016 performance of the S&P 500.
The similarities are uncanny.
That's not all. The eerie rhyme of 2007-2008 isn't the exclusive domain of the stock market. Recent economic data continues to confirm our Macro team's dour outlook for the U.S. (the probability of an outright #Recession in Q2 or Q3 of 2016 is rising).
Today's Consumer Confidence reading did little to change our opinion. U.S. Consumer Confidence slowed to 92.2 after registering it's cycle high in FEB of 2015. Remember: Consumer Confidence slowing from its cycle peak = 1 of Top 3 leading indicators for US #Recession.
In the video below, Hedgeye CEO Keith McCullough discusses the 3 leading indicators of a US Recession. (Note: They're all currently flashing red.)
None of this bodes well for perma-bulls.
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Takeaway: Structurally tight existing home inventory remains a blessing and a curse. It helps price resilience, on the margin, but constrains volume.
Our Hedgeye Housing Compendium table (below) aspires to present the state of the housing market in a visually-friendly format that takes about 30 seconds to consume.
Today's Focus: January Existing Home Sales, December Case-Shiller HPI
Existing Home Sales rose +0.4% MoM to 5.47MM Units, marking the 2nd highest level of activity in the current cycle outside of the 5.48MM level recorded in July of last year. On a year-over-year basis, sales growth accelerated to +11.0% YoY, marking the fastest pace of growth since mid-2013.
On the inventory side, unit supply rose +3.4% sequentially to 1.82MM but remained -2.2% YoY (recall, inventory is non-seasonally adjusted so the year-over-year trend offers the cleanest read). Months-supply, meanwhile, held just below 4.0-months for a second consecutive month – the first such instance since January 2005 when unit sales were running over 7-million.
Inventory tightness, along with the decline in mortgage rates, should remain a modest support to HPI over the nearer-term but will increasingly serve to constrain the upside in transaction volume. Indeed, at +8.2% YoY, median home prices accelerated to the fastest rate of growth in a year and continue to grow at a multiple of income growth.
Generally, supply and price could be expected to move in tandem but embedded in that relationship are a number of key assumptions. First is that people want to move. Boomers - who represent a significant percentage of the homeownership base - entering retirement will weigh on housing turnover broadly. Aging in place remains an emergent trend and moving-out will not become an outsized driver of supply for another decade when the Boomer bulge starts moving beyond 80 YOA. Second is whether they can afford to move. A significant percentage of would-be trade up buyers remain in negative or near-negative equity positions and fledgling millennial household formation is running almost exclusively through rental demand presently. Third, do they have access to credit? The credit box is slowly expanding but remains notably tight relative to historical averages. Fourth, low rates locked in during the post-crisis period remain a disincentive to selling/moving and an inertial headwind to rising inventory.
In short, there are real structural headwinds to a meaningful rise in supply and we don’t expect them to resolve in the nearer term. On the demand side, absent a large rise or positive revision in Pending Home Sales (Jan PHS on 2/29), the risk to EHS in February is to the downside as closed transaction volume recouples with the trend in signed contract activity. We continue to expect sales in the existing market to decelerate through 1H16 with a strong possibility for negative volume growth against peak PHS comps in April/May.
Still Bearish on HPI in 2016
Elsewhere, Case-Shiller HPI trends for December came in mixed. The 20-City index, which had shown 5 consecutive months of acceleration, was flat sequentially at +5.74% YoY as index heavyweights San Francisco, New York, Los Angeles and Boston (collectively = 48% weighting in the index) all decelerated modestly to close out 2015. Conversely, the National HPI accelerated for a 6th consecutive month, accelerating +20bps sequentially to +5.43% YoY.
Home price growth follows the slope of demand growth on a variable 9-to-12 month lag and Pending Home Sales are currently in month 7 of deceleration. While ongoing supply tightness will provide some buoy, we expect HPI trends to flat-line and begin to roll as we move through 1H16. As a reminder, the Case-Shiller HPI series is a 3-month rolling average which is released on a nearly two month lag. In other words, the data released this morning is really a reflection of market pricing conditions back in Aug/Sep/Oct of last year.
About Existing Home Sales:
The National Association of Realtors’ Existing Home Sales index measures the number of closed resales of homes, townhomes, condominiums, and co-ops. Existing home sales do not take into account the sale of newly constructed homes. Existing home sales account for 85-95% of all home sales (new home sales account for the remainder). Therefore, increases in existing home sales tend to signify increasing consumer confidence in the market. Additionally, Existing Home Sales is a lagging series, as it measures the closing of homes that were pending home sales between 1 and 2 months earlier.
The NAR’s Existing Home Sales index is published between the 20th and the 22nd of each month. The index covers data from the prior month.
About Case Shiller:
The S&P/Case-Shiller Home Price Index measures the changes in value of residential real estate by tracking single-family home re-sales in 20 metropolitan areas across the US. The index uses purchase price information obtained from county assessor and recorder offices. The Case-Shiller indexes are value-weighted, meaning price trends for more expensive homes have greater influence on estimated price changes than other homes. It is vital to note that the index’s printed number is a 3-month rolling average released on a two month delay.
Frequency and Release Date:
The S&P/Case-Shiller HPI is released on the last Tuesday of every month. The index is on a two month lag and therefore does not reflect the most recent month’s home prices.
Joshua Steiner, CFA
Christian B. Drake
Takeaway: If we were forced to craft a genuine bullish argument on M, we couldn’t. Almost nothing to like, and the print confirms that – and more.
For every reason we find to own Macy’s, we find another five against owning it. This quarter was just horrible for Macy’s, and what’s even more concerning is that it’s the best-managed name in the ‘space’. Last night Dillards printed its biggest EBIT decline in 5 yrs. What does it mean for KSS? JCP? What especially concerned us with Macy’s was the lengths it had to go to find earnings outside of what we’d consider its core business.
Things That Caught Our Attention In Macy’s Quarter
- Remember this print when looking at Retail for 2016. We think much of retail will look like Macy’s in 2016. After a serious guide down (and 33% draw down), the company came back with a significant headline beat. As the release hit the wires this morning we saw ‘Blowout Quarter’ by one unnamed news service. The reality is that companies are guiding down more than they have to, simply because they can’t plan the demand side of their businesses. That’s not because of lack of competency, but simply because this is Retail (and sometimes lack of competency). Then they come in and print a horrible earnings/cash flow algorithm, but it’s viewed as being ‘better than expectations’. Our concern has been that the market will still trade these names higher. The Macy’s print – thankfully – argues against that.
- What Business is M In Anyway? For the first time ever, real estate and credit were the largest part of consolidated EBIT. And that’s a big statement. On a GAAP basis, including the asset impairments/restructuring costs, credit card income and real estate transactions amounted to $1023mm for the year – that’s 50.2% of EBIT vs. $860mm or 30.7% of EBIT last year. Though we think there are risk associated with each piece (credit and real estate), the fact is that M has them and the rest of its peer group and other retailers do not.
- Credit profitability guided down for 2016. In FY15 we saw credit income up 7%, and +17% in the 4th quarter. The big bump in 4Q was due to the conversion of new system allowing M to reach lower in the credit standard barrel. But, Karen was very explicit that about the embedded risk to profitability in the Credit segment as we come off all-time lows in charge offs and delinquencies. For M, credit amounted to an $831mm offset to SG&A for the year or 36% of EBIT vs. 27% of EBIT last year. Put another way, that’s 94% of the FCF generated by M this year.
- The bigger callout here is KSS. Which, unlike M doesn’t have the benefit of taking its credit standards any lower – it already did that under the partnership agreement with CapOne as it took credit as a percent of total sales from 50%-60%. Its own credit portfolio will fall victim to the same profitability concerns expressed by M’s CFO today. Plus, we see additional credit risk because of the introduction of the Y2Y rewards program nationwide in the fall of 2014.
- Outlook for the first nine months of the year notably bearish. There is a mismatch here between what the company could say because of the sentiment surrounding the department store space and what it’s actual outlook is for the year. But, either way we slice it, M guided to negative comps for the first 3 quarters of the year, and we expect to see more of the same from retailers in this earnings season. Though consensus numbers don’t reflect the guidance revisions.
- Huge ‘Real’ Earnings Delta. We can’t remember a quarter where the difference between adjusted earnings numbers and GAAP numbers were more pronounced. We’ve never agreed with M’s adjusted financials where it sheds the bad (restructuring/store closing charges) and keeps the good (asset sales) in its calculation of adjusted EPS. Neither has proved to be one time in nature. When we boil it all down we get to an earnings growth rate of -22% in the quarter vs. -14% reported, that excludes the asset benefit and restructuring charges. SG&A growth was flat vs. -5% reported (ex. credit benefit, restructuring, and asset sales). Neither of which provides a good omen for the rest of the space.
- In a Hole. We understand that business improved as the quarter progressed due to added markdowns and better weather, but why do inventories remain so out of whack? SIGMA chart below suggests that inventories are not being cleared fast enough, or that price cuts are not deep enough. This definitely puts Macy’s in a hole in 1Q.
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