CHART OF THE DAY | Consumer Confidence: Elevator Up, Then ... Crash

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.


"... While most Americans don’t own stock market funds and Fed fueled “reflation” indexes anymore (yeah, the 2000 and 2008 cycle peaks did leave some crazy people cautious), a lot of Americans own single stocks like AAPL, NFLX, and GOOGL.


That’s why I think it’s going to be a lot harder to stop Consumer Confidence from doing what it always does after the economic, profit, and stock/credit market cycle peaks. See Chart of The Day – it takes the elevator up during the cycle, then it crashes."


CHART OF THE DAY | Consumer Confidence: Elevator Up, Then ... Crash - CoD Confidence

Is Tech Cyclical?

“One of my great mentors, Frank Meyer, stressed to me that many businesses are cyclical over time.”

-Ken Griffin


That’s the last lesson I wanted to highlight from an excellent markets book I’ve been reviewing this year: Efficiently Inefficient. This may be the last time anyone who has invested in “Tech” since 1 gets to learn the lesson that Tech is cyclical too!


We all make mistakes in this business; especially short-term ones. But very few of us build real big businesses by not learning from the big mistakes. The biggest lessons of my career have been learned by studying #TheCycle.


The title of this note is a rhetorical question. Of course Tech Revenue and Earnings growth is cyclical. If you successfully risk managed the economic cycle peaks of 1999 and 2007, you didn’t get sucked into the final rallies in the Nasdaq (or SP500) in the 1st half of 2000 and 2008. And you probably didn’t chase the “charts” in March of 2016 either.

Is Tech Cyclical? - The Cycle cartoon 03.04.2016


Back to the Global Macro Grind


It’s a good thing none of the “home gamers” out there in America own Apple (AAPL).


In July of 2015 (when we initially went bearish on the SP500 and AAPL), in terms of both the number of people and its market cap, it was obviously the most over-owned stock in human history.


It won’t be after today.


Maybe a “buying opportunity”? Probably (lower). Apple has a lot of the Style Factors I want to own (big cap, liquidity, eventually low-beta). But we patient investors now have the luxury of being able to wait and watch for lower-prices as #TheCycle plays out.


Damn that cycle!


“Stocks” rallied off their lows yesterday on more terrible US economic data (US Dollar went DOWN in response, Oil Up):


  1. US Durable Goods “missed expectations” coming in at -2.5% year-over-year in MAR (i.e. #recessionary)
  2. US Consumer Confidence slowed (again) from its Q1 2015 Consumption Cycle Peak to 94.2 APR vs. 96.1 MAR


Ex-people-saying-global-demand “bottomed” in Q1 on the most cyclical components of the US economy (newsflash: demand did not bottom; Oil prices are trying to), the latter report on confidence is not going to be resuscitated by AAPL -8% on the open.


While most Americans don’t own stock market funds and Fed fueled “reflation” indexes anymore (yeah, the 2000 and 2008 cycle peaks did leave some crazy people cautious), a lot of Americans own single stocks like AAPL, NFLX, and GOOGL.


That’s why I think it’s going to be a lot harder to stop Consumer Confidence from doing what it always does after the economic, profit, and stock/credit market cycle peaks. See Chart of The Day – it takes the elevator up during the cycle, then it crashes.


“So”… as the Old Wall likes to say, here’s the new bull market narrative:


  1. Ex-Financials
  2. Ex-Tech
  3. Ex-Biotech


The new bull case for America is Janet Yellen burning the US Dollar back to 1-year lows, ramping the cost of living (rent, food, gas prices, etc.) again, and having everyone swap their Apple into Exxon.


Btw, you know what > $46 Oil does to GDP, right?


It slows real GDP even faster.


Yes. It’s elementary math (it’s called the GDP Deflator), but for those of your friends who are telling you that Down Dollar, Up Oil is the next panacea, just remind them that as inflation rises during a cyclical-slow-down, you get this thing called #Stagflation.


#Stagflation (Quad 3 in our GIP – Growth, Inflation, Policy – Model) is good for Energy stocks, but horrible for stock market multiples. In fact, even the beloved Buffett struggled with owning stocks during the late 1970s stagflation.


Think about why that is.


It’s as simple as Hedgeye going bearish on the Nasdaq (QQQ) on March 31, 2016. It’s #TheCycle (just like it was in March of 2000 and 2008) stupid. Tech is cyclical. And as the cycle slows, the Fed gets dovish and devalues the purchasing power of The People.


As The People have less, they get less confident. As confidence crashes, eventually “demand has bottomed” expectations crash too.


Our immediate-term Global Macro Risk Ranges are now:


UST 10yr Yield 1.71-1.95%

SPX 2060-2105


VIX 13.01-18.07
USD 94.01-95.42
Oil (WTI) 40.98-45.02


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Is Tech Cyclical? - CoD Confidence

T. Rowe Price (TROW) | Compressing Margins

Takeaway: All things considered, TROW had a decent quarter of net new asset generation, however margins are dropping like a stone.

T. Rowe Price (TROW) did well in a tricky environment in their 1Q16 earnings report yesterday with the company putting up decent net new asset raises in a quarter where the S&P 500 dove -11% to start the year to then rebound by just as much to end the period. Normally that type of volatility shakes investors out of the market however the company was able to take in net new assets of +$5.1 billion or organic growth of +2.7%, offsetting market related losses of -$3.6 billion. While the bulk of the inflow was target date funds subscriptions of +$4.2 billion, the +$900 million of non target date inflow was a solid respite from the consistent downward trajectory that has persisted since 2013.


While we applaud the new fish on the deck in the quarter, the TROW boat is still being weighed down by substantial margin degradation with new hiring expenses and the build out of non U.S. distribution. Operating margins hit 41.3%, their lowest level since 3Q09 as the company blew through the 6,000 employee mark for the first time in it's history. The $1.04 per share in earnings reported was in line with a lowered Consensus estimate but was down -8.2% year-over-year and validates that Street estimates are way too high for the out year and that the company has put in its high water mark in profitability (in 2013 with operating margins over 48%).


With ending assets-under-management only -1% off of their all-time high from 2Q15, the company is barely putting up earnings over $1 per share and thus with the Street at over $5 per share in the out year (2017), we continue to put out the stock as better on the Short side. Our fundamental, intermediate term thesis continues to outline the pervasive shift in Large Cap strategies from mutual funds to passives and that the firm's important Target Date fund product suite is materially slowing. The +10% annualized organic growth in Target Date flows in the quarter was the lowest 1st quarter growth rate in the history of the product and with deliberate 1H seasonality raises the risk that trends will decelerate throughout the year. Outside of the positive quarter for fund raising, the TROW enterprise is still heavily dependent on the market to increase its billable assets with market returns since 2009 responsible for $4 out of every $5 raised by the company (market returns since '09 have tallied $409 billion compared to $77 billion in organic net new asset growth). With margins compressing and intermediate term trends still outlining substantial share gain by passives, we maintain our Short view on shares.  


Both sides of the House including Target Date and Non Target Date contributed to a positive first quarter in fund raising for the firm:


T. Rowe Price (TROW) | Compressing Margins - chart12


However Target Date growth rates on a rolling 4 quarter moving average are now well below double digits at +8% growth with the rest of the franchise still averaging a decay or negative growth rate:


T. Rowe Price (TROW) | Compressing Margins - chart13


And margins are dropping substantially to new cycle lows as the company continues to add employees and distribution which raises the stakes that the market will have to continue to perform to keep TROW AUM and earnings stable:


T. Rowe Price (TROW) | Compressing Margins - chart14 


Our fundamental, intermediate term thesis outlined in our recent Black Book is unchanged and rests on the following:


The shift from active to passive continues to accelerate and 67% of passive inflows are going to Large Cap strategies. TROW has the largest percentage of Large Cap product of any public mutual fund manager and when including SMAs, TROW's Large Cap exposure goes to over 40% of total assets-under-management:


T. Rowe Price (TROW) | Compressing Margins - replay 2


T. Rowe Price (TROW) | Compressing Margins - replay 3


2.) The firm's Target Date franchise is its go to source of growth, however the oldest Baby Boomers turned 65 in 2011 and now three Series of TROW target date products are in redemption. The hump gets worse in the distribution into the 2020 series which is the second biggest pool of TD assets for the manager. Target date is the only source of growth currently in the overall complex.


T. Rowe Price (TROW) | Compressing Margins - replay 5


3.) TROW is once again at peak margins and profitability and after setting a new high water mark in 2013 at over 48% operating margins, results are set to recede. TROW will also be bumping up against a break point in fees at over $500 billion in mutual fund AUM which won't help margins. We have earnings at $4.06 for 2017, -17% below the Street before considering that the stock's multiple should also contract against the group.


T. Rowe Price (TROW) | Compressing Margins - chart7


T. Rowe Price (TROW) | Compressing Margins - replay 8


TROW Best Ideas Short Call - Paddling UpStream


 Please let us know of any questions.


 Jonathan Casteleyn, CFA, CMT 




 Joshua Steiner, CFA





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