“People think about life in terms of changes, not levels.”
That’s a great Behavioral Economics quote from Richard Thaler in an excellent chapter of Misbehaving that he called Value Theory. “They can be changes from the status quo or changes from what was expected, but whatever form they take it is changes that make us happy or miserable.”
In that same chapter, Thaler shows what most rate-of-change macro analysts will recognize as an S-curve. Yes, “people like gains… but they hate losses more…” and that’s a critical lesson every portfolio manager should learn earlier in his or her career than later.
“Kahneman and Tversky recognized that we had to change our focus from levels of wealth to changes in wealth. This may sound like a subtle tweak but switching the focus to changes as opposed to levels is a radical move” (pg 30).
Back to the Global Macro Grind…
The further you get from academia (and the closer you get to how real money is managed), the faster you’ll realize that using linear econ/valuation models generally don’t work. If you can get ahead of a rate of change move however, you might generate alpha.
No, generating alpha (or excess returns on capital) in any industry that is oversupplied (like the money management business has become) is not easy. That’s why we have to constantly evaluate and evolve our #process. As the game changes, we should.
But at what point do we start trying to change what it is that we do for the sake of very short-term change in market prices that we were not positioned for? Do we capitulate? Do we chase?
I’m on the road in Baltimore, Pittsburgh, and Minneapolis this week and I can guarantee you that in a significant percentage of my meetings at least one person will say “but the market is back to flat.”
Then, as I’m accustomed to answering with a question, I’ll say “what market do you mean, the SP500?” Because, of course, macro markets (stocks, bonds, currencies, etc.) have been far from flat as markets started pricing in #TheCycle going back to late 2014.
Sure, you can just sit there at your desk and complain that “this market won’t go down”…
Or you can be long the things that have actually gone up. Amidst crashes and draw-downs in asset classes around the world, the 1yr return (June to June) in the Long Bond has been double digits.
So, from a rate of change perspective, with the US 10yr at 1.73%, SP500 at 2109, and CRB Index at 192, where to from here? What’s going to be the best place to avoid losses?
- CASH – yep, good ole fashioned world reserve currency style – I say the US Dollar
Nope, from these macro market prices (now that Gold and Utilities are +15-17% YTD), there really isn’t anything that beats raising CASH for this pending period of the employment, consumption, and #ProfitCycle slowing.
Slowing? I thought the Old Wall said the call that they didn’t make (before earnings slowed) is done slowing?
Yep, if I don’t hear that 3x per day on the road for the next 3 days, I will be shocked. You see, the way this works is that the sell-side’s perma bull strategists do the rounds too. And I spend a fair amount of time auditing their ever-changing reasons to “buy stocks.”
And that’s really the point on raising Cash. I have no problem buying stocks when they are on sale. But when they are at the top-end of my current SP500 risk range (2049-2116) AND the latest bull case is one of the easiest yet to refute, I get out.
As you can see in today’s Chart of The Day (slide 35 in our Q2 Macro Themes Deck) the toughest comps (comparative period) for #LateCycle Sector Earnings Growth is the 2nd quarter. That’s because Q2 of 2015 was the peak.
No, I’m not talking about Energy and Industrials (which, by the way, we don’t see consensus “backing out” of the “but the market is flat” comment do we?)….
I’m talking about the mainline of the US economy: Consumption, Employment, Financials, Healthcare, Tech, etc. And oh is that going to look slow, in rate of change terms, by the time late summer hits (Q2 reports).
At a level, do I care? Sure, but only if the rate of change in profit growth goes positive. No macro man worth his #timestamped t-shirt makes BUY/SELL calls based on a “valuation” model.
“Ex-Energy” (lol), we’re about to see the biggest rate of change slow-down (year-over-year) of #TheCycle. Give this macro market a few months to noodle over that and we’ll see if I was right to raise Cash in June.
Our immediate-term Global Macro Risk Ranges are now:
UST 10yr Yield 1.69-1.81%
Oil (WTI) 47.36-49.99
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer