Here's Why You Stay Short Junk Bonds

Here's Why You Stay Short Junk Bonds - junk pile


It's the #CreditCycle.


Despite the recent rally, we're holding the line on our short Junk Bonds (JNK) call. Here's analysis and a chart via our Macro team from a note sent to subscribers earlier this morning:


"Junk bonds have rallied +3% in the YTD, inclusive of a +6% squeeze over the past 3M alone. Option adjusted spreads continue to narrow dramatically, compressing -30bps in the past week alone to 586bps wide. This is down from a peak of 839bps on February 11th.


Is the trough of the domestic credit cycle in the rear-view mirror, leaving us holding the bag on a stale thesis? Not at all. Our work has shown that once the horse leaves the barn on the domestic credit cycle, there is no recovery until HY spreads are north of 1,000bps and corporations have sufficiently delivered their balance sheets – neither of which has occurred."


Click on the chart below to enlarge. Note: We think we're headed for a nice, big red dot (a.k.a. a blowout in high-yield credit spreads).


Here's Why You Stay Short Junk Bonds -  CreditCycle Bubble Chart DD


More on the credit cycle...


According to Standard & Poor's, there were 5 more corporate defaults this week, bringing the grand total to 51 year-to-date. FYI, that's the most since 2009.


Here's Why You Stay Short Junk Bonds - defaults


There you have it...


We're sticking with our short Junk (JNK) call.

Dale: ‘Brexit Is The #1 Risk In The U.K.’


With the U.K. divided over whether to stay or leave the European Union, Hedgeye Senior Macro analyst Darius Dale discussed the potential impact on the pound, equities and consumer/business confidence on The Macro Show this morning.

Dish Network Proposes Charter-TWC Conditions (CHTR, TWC, DISH)

Dish Network, a strong opponent of the proposed Charter-Time Warner Cable merger has recommended approval conditions to the FCC, seeking a requirement that post-merger Charter offer a standalone broadband service that will ensure online video services (like Dish Network's Sling TV) are competitive against Charter's legacy subscription video packages.

The condition has already been discussed with FCC staff.  Dish Network's filing suggests the specific components of the condition were proposed, at least in part, as a response to FCC input.  Dish Network's filing was made this week, suggesting that the company recognizes the deal will likely be approved and that final requests for conditions must be proposed and vetted immediately. 

The Commission's informal shot-clock for reviewing the merger expired in late March.  Because California regulators are not scheduled to finalize their review of the transaction until May 12, the additional time taken by the FCC and the Justice Department to complete their evaluation is not preventing the closing of the deal.  But we believe the Commission should be ready to vote on a circulated proposed order in the days ahead.

Dish Network recognizes that a simple mandate for a standalone broadband service will not protect its OTT (over-the-top) video market opportunity unless additional restrictions prevent discriminatory bundling and pricing practices.  Accordingly, Dish wants the Commission to adopt a requirement that the standalone broadband offering (of 60 Mbps downstream) be comparable to what Charter offers in its bundled service offerings and be offered at a competitive price independent of the bundle.  Dish is concerned that Charter will offer a discounted broadband-video bundle that diminishes or forecloses the market opportunity for OTT linear video alternatives offered by Dish and other emerging providers.

The anticipated FCC approval order will likely impose conditions addressing a range of issues, including net neutrality enforcement (despite the outcome of the upcoming court decision), access to regional sports networks, upgrades and expansion of broadband network capabilities, and affordable options for low-income subscribers.  The duration of conditions (Charter has offered an initial three-year commitment) is another issue and the final order will likely add a few more years to the respective mandates.

As we've noted before, the preservation of independent OTT video growth and innovation remains the Commission's primary policy objective in the merger review.  We expect, for example, conditions that would guard against unreasonable agreements or practices that discourage the migration of video to unaffiliated OTT platforms.  Dish Network's proposed standalone broadband condition is consistent with the FCC's broader agenda.

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FLASHBACK: Howard Penney Says Buy McDonald's

Takeaway: More good news for McDonald's investors.

Editor's Note: Lovin' it... Veteran Hedgeye Restaurants analyst Howard Penney's bullish, non-consensus call on McDonald's continues to pay off for those who listened. See WSJ story today, McDonald’s Profit Climbs, Showing Turnaround Is Sustainable. Shares of MCD are up over 21% since his article was published on Fortune. The stock is up 27% since it was added to Investing Ideas on August 11, 2015 versus 0.36% for the S&P 500. 


FLASHBACK: Howard Penney Says Buy McDonald's - z how 


The fast-food chain’s stock will likely pop next year, thanks to its real estate holdings and its ‘All-Day Breakfast’ menu.


Last week, McDonald’s shares jumped 1.5%, amid speculation that the fast-food giant might spin-off its massive real-estate holdings. That looks increasingly likely under the activist-like new CEO, Steve Easterbrook. It’s another welcome development and a broader sign that McDonald’s is finally turning the corner. Our prediction: This year will be the last time McDonald’s stock sees a price below $100.


Let’s be clear. A lot has changed at McDonald’s in the past year. Within the first two months of becoming CEO earlier this year, Easterbrook announced $300 million in cost cutting measures, a move that includes refranchising 3,500 stores of its 36,290 stores globally and shutting down an additional 700. McDonald’s  MCD -0.35%  will soon use technology, such as self-ordering kiosks, to change the customer experience while rejiggering its menu, dropping some, adding others and improving its existing products. In October, for instance, McDonald’s announced that it would take “All-Day Breakfast” nationwide. Meanwhile...


Click here to continue reading on Fortune.

HEDGEYE Exchange Tracker | Fishing Where The Fish Are

Takeaway: Trading volume expanded week-over-week with all 3 categories now showing positive year-over-year growth in 2Q16.

Earnings season for the Financial sector has been a race to the bottom with Financial Service outlets announcing a steady drum beat of year-over-year revenue and earnings declines. From Goldman Sachs' -40% decline in revenue to the across the board slack in Lazard's lowly levered M&A and asset management business, trends indicate both secular shifts and cyclical weakness. The exchange sector however will be one of the few Financial sub groups to post organic growth and we expect both year-over-year volume gains to be met with slight incremental pricing power in both transactions and market data. CME Group (CME) which reports on April 28th still has the opportunity for an earnings beat with the +13% year-over-year volume increase coinciding with a +2% increase in pricing power. We have a 1Q16 estimate at $1.18, +3% ahead of consensus. CME stock has positively reacted on earnings the past 5 announcements, rising between +1.5-3.7%. The earnings scorecard for Financials thus far is that 32 of 90 companies (in the S&P 500) have reported, with mean sales growth (declines) of -4.8% with bottom line earnings down -17.0% on average. The S&P in aggregate has trends of -0.6% on top line and earnings declines of -8.1%.



HEDGEYE Exchange Tracker | Fishing Where The Fish Are - Theme


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - Theme 2  



Weekly Activity Wrap Up

Cash equity volume again came in slightly higher week over week at 7.0 billion shares traded per day. It has held steady around that level for the last few weeks, keeping the 2Q16TD average daily volume (ADV) around 7.0 billion, +10% higher than one year ago in 2Q15. Additionally, volume of futures traded through CME and ICE picked up the pace week over week, rising to 19.0 million contracts traded per day and bringing the 2Q16TD ADV to 18.3 million, +4% higher than the year-ago quarter. Furthermore, CME's open interest currently tallies 110.4 million contracts, +21% higher than the 91.3 million pending at the end of 2015. This compares to ICE's OI growth of just +4% since the beginning of the year.  Lastly, options volume was again stronger week over week, rising to 16.7 million and bringing the 2Q16TD ADV to 15.5 million, which is +1% higher than the year-ago quarter.


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon16


U.S. Cash Equity Detail

U.S. cash equities trading came in at 7.0 billion shares per day this week, bringing the 2Q16TD ADV to 7.0 billion. That marks +10% Y/Y growth. The market share battle for volume is mixed. The New York Stock Exchange/ICE is taking a 25% share of second-quarter volume, which is +77 bps higher Y/Y, while NASDAQ is taking a 17% share, -180 bps lower than one year ago.


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon2


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon3


U.S. Options Detail

U.S. options activity came in at a 16.7 million ADV this week, bringing the 2Q16TD average to 15.5 million, a +1% Y/Y expansion. In the market share battle amongst venues, NYSE/ICE's share fell week over week, dragging down its 2Q16TD share from 18% to 17%. Although that 17% is +39 bps higher than NYSE's year-ago share, it has been trending downwards and is headed toward negative territory. Additionally, CBOE's 25% market share of 2Q16TD is down -222 bps Y/Y. Meanwhile, NASDAQ is doing well in 2Q16TD, taking a 23% share, +89 bps higher than one year ago.  BATS has also been taking share from the competing exchanges, up to an 11% share from 10% a year ago. Finally, although ISE/Deutsche's share expanded through 1Q16, it has been falling recently; at 15%, its share is -109 bps lower than 2Q15.


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon4


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon5


U.S. Futures Detail

14.2 million futures contracts per day traded through CME Group this week, bringing the 2Q16TD ADV to 13.7 million, +3% higher Y/Y. Additionally, CME open interest, the most important beacon of forward activity, currently sits at 110.4 million CME contracts pending, good for +21% growth over the 91.3 million pending at the end of 4Q15, although a contraction from last week's +24%.


Contracts traded through ICE came in at 4.8 million per day this week, bringing the 2Q16TD ADV to 4.5 million, a +6% Y/Y expansion. ICE open interest this week tallied 66.4 million contracts, a +4% expansion versus the 63.7 million contracts open at the end of 4Q15 but a contraction from last week's +5%.


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon6


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon8


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon7


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - 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 | Fishing Where The Fish Are - XMon10


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon11


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon12


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon13


HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon14

HEDGEYE Exchange Tracker | Fishing Where The Fish Are - XMon15



Please let us know of any questions,


Jonathan Casteleyn, CFA, CMT 




 Joshua Steiner, CFA





Reflation Reversal Risk

Remember when global growth “bottomed”? No, we don’t either. Amid talk of easier USD comps and a massive short squeeze in reflation assets, there has been a fair amount of banter among investors about a bottom in global growth – particularly in the manufacturing and export sectors.


Conversely, we’ve long maintained the opposite view and continue to consider it hazardous to trust “bottoming” calls from models that didn’t predict the slowdown to begin with (or any slowdowns, for that matter). This morning we received our first spate of April economic data in the form of flash Manufacturing PMIs from the Eurozone, Japan and the U.S. and these figures corroborate our view that global growth will slow sharply over the next 3-6 months.


In 2Q16 in particular, our proprietary GIP Model three of the world’s five largest economies mired in #Quad4 (U.S., Eurozone and China), with another in #Quad3 (U.K.) and reported growth in each economy is slowing on a trending basis across most/every key category of high-frequency data. For a deep-dive on our economic outlooks for each of the aforementioned economies, refer to our 4/20 Early Look titled, “Back To Basics”. CLICK HERE do download the associated slide deck.


Going back to the aforementioned April PMI releases, manufacturing activity in the Eurozone ticked down to the lowest since March ’15 on a 3MMA basis and in both the U.S. and Japan, manufacturing activity slowed to the lowest level in recorded history (the Markit PMI series began in April ’13). The 50.8 reading recorded in the U.S. represented a sequential decline of -0.7pts. and was directionally counter to consensus expectations of a +0.5pt. acceleration to 52.


Reflation Reversal Risk - EUROZONE M PMI


Reflation Reversal Risk - U.S. M PMI


Reflation Reversal Risk - JAPAN M PMI


As we penned in a timely research note yesterday afternoon titled, “Important Thoughts On Market Structure and Sentiment”, we continue to think the relief rally across risk assets – reflation in particular – has run its course largely because the short-term stabilization in various domestic economic data has come to an end. Moreover, rates markets have already priced in the Fed’s MAJOR policy pivot from hawkish to dovish guidance and there is actually increasing risk that next Wednesday’s FOMC statement pivots back to hawkish by setting the stage for a June rate hike.


Reflation Reversal Risk - CESI vs. SPX


Reflation Reversal Risk - Implied Yields on Select Fed Funds Futures Contracts


Additionally, the DXY has held our long-term TAIL line of support of 93.07, which puts 100 back in play over the intermediate-term. The inability for Yellen’s dovish pivot to break the back of the DXY is really important in the context of what has clearly morphed into pervasively bearish sentiment on the USD following the February 26-27 G20 summit in Shanghai (see: consensus “Shanghai Accord” speculation). At +13.8k contracts, the net long futures and options position in the DXY is the lowest it’s been since early June of 2014 – when the DXY was trading in the low eighties – and represents a 1Y Z-Score of -2.1x.




Reflation Reversal Risk - 7


A reversal of the recent trend of consolidation in the USD will likely resuscitate the bearish China overhang and perpetuate a reversal of reflation in short order. Why? Because supply & demand fundamentals haven’t materially improved. In fact, they are actually getting worse as indicated by this morning’s data.


Reflation Reversal Risk - 8


Reflation Reversal Risk - 9


Reflation Reversal Risk - 10


Best of luck out there managing the aforementioned “reflation reversal risk”.




Darius Dale