Why did the Fed put rate hikes on hold yet again? U.S. #GrowthSlowing.
Industry veteran and portfolio manager Michael Aronstein, CIO of Marketfield Asset Management, sat down with private investor Buddy Carter and Hedgeye CEO Keith McCullough in this edition of “Real Conversations.” The trio discussed critical developments facing investors right now and why the markets and economy look increasingly vulnerable.
Below is a transcribed excerpt from that discussion. (Click here to watch the video in its entirety.)
Aronstein: When I look out my window in Manhattan and see what’s being built and the prices people are asking. It’s an anomaly and the type of thing that signals the terminal stage of a cycle.
McCullough: Good point. It’s unique but you actually define the topping process as a surge in supply.
Aronstein: It is and it’s relentless. In 2003 to 2007, in the U.S., we were building 1 million extra homes a year because people thought it was like printing currency. But by the time mortgage conditions changed and the yield curve finally flattened there was no escape for anybody because you realized you had a lot more houses than there were people who wanted houses.
Carter: I see similarities today. Keith, you talk to private bankers. They are having the damnedest time appealing to people in any way shape or form because benign neglect has been so profitable. But the problem is that you don’t transition from rewarding benign neglect to being adroit in a single moment.
McCullough: Yes, it just doesn’t happen like that.
Carter: Michael said this to me many years ago. ‘People don't realize the difference in liquidity on the right-hand side,’ meaning past the peak, during the evidence of the new phase condition. The problem is if you are a little late in realizing you're past the peak it can be very expensive. But it's tough to spot. Like what we’re seeing in high-end real estate now. We haven’t seen it before. Not only is there more supply but it’s heavier supply.
McCullough: Heavier and at epic prices. Everything that you guys are talking about is captured in this chart that we show in the Macro deck. It shows household net worth as a percentage of disposable income. As you can see, this is the third of three epic peaks. Buddy, you keep citing Cisco Systems and, Michael, you’re talking about real estate into 2006-2007, I’m looking at this cycle and we have both.
Now, I’m 17 years into this business so compared to you guys I’m a rookie. But I’m sitting here watching this one and saying ‘Oh my god.’ This has every component of every bubble I’ve ever seen but it has less liquidity. What do you think about that chart and the cyclicality?
Aronstein: As Buddy was saying, one of the things that tells you’re past the peak is when there are no transactions. The bid offer has gone to a point where it’s not even worth picking up the phone. There’s just too big a difference of opinion so the liquidity vanishes.
And so you first get a seizure in the market. Once the volume and transactional liquidity shows itself, that’s when you get the declines like 1987. You get these discontinuities and what has actually happened is that a few trades have pushed something down 10-15-20-25-30%.
McCullough: We like to explain risk this way. It’s like a riverbed that you don’t know what’s around the corner but you can start to measure and map the speed of the water and the rocks that may be around. Because by the time you do get to the waterfall everyone’s dead.
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Takeaway: AUM balances are closing on their lows for the quarter and while rate of change is improving, fundamentals aren't.
Editor’s Note: With shares of WisdomTree (WETF) down -5% today, below is an excerpt from an institutional research note written by Hedgeye Financials analyst Jonathan Casteleyn last week. Since Casteleyn's original short call on WETF in December, shares are down -45%. To access our Financials research ping firstname.lastname@example.org.
WisdomTree assets-under-management (AUM) balances are closing on their quarterly lows for 3Q and are back to near year-to-date lows from June. The factors that have driven investor interest from currency hedged products remain intact including a continued sharp rally in the Japanese Yen and also a marginally positive Euro return.
The plight in Japan is most pertinent as an +18% rally in the Yen continues to be perpetuated by ongoing risk aversion with a failing monetary experiment by the BoJ. Margin balances across all three Japanese equity exchanges continue to deflate, and the -20% decline in leverage year-to-date has almost overlayed exactly with the +18% rise of the country's currency.
That said, margin balances are still nowhere near levels which historically have corresponded to a reversal of current trends and the current margin reading of ¥2.0 trillion Yen is still over a trillion Yen higher than levels which marked major currency reversals in 1998, 2002, 2008, and 2011.
Simply put Japanese leverage can fall by another -50% before reaching levels which have historically been a solid level for a reversal of current Yen strength.
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Takeaway: The steadily falling 10s/2s yield spread continues to indicate U.S. #GrowthSlowing.
There are innumerable examples of economic indicators rolling over that support our U.S. #GrowthSlowing call. So what's Fed head Janet Yellen talking about when she said the following last week:
“The Committee judges that the case for an increase in the federal funds rate has strengthened but decided, for the time being, to wait for further evidence of continued progress toward its objectives.”
The Fed's own 2016 GDP forecast was just revised down to +1.7%-1.9% from 1.9%-2.0% prior. Clearly, the Fed is trying to push a narrative about the U.S. economy that simply isn't true.
So, after balking yet again on rate hikes, the 10s/2s Treasury yield spread compressed to 85 bps today. That's a crystal clear macro market signal confirming our call that U.S. growth continues to slow.
The Treasury yield curve continues to flatten in spite of all the talk of Fed rate hikes and Wall Street's perennial fear that the bond market rally is finally dead.
The U.S. economy continues to slow. The Fed can continue to pretend otherwise but reality always prevails.
In this brief excerpt from The Macro Show, Hedgeye Industrials analyst Jay Van Sciver responds to a subscriber’s question about his favorite short in the sector.
The TED spread has our attention. With the market pricing in a drastic sudden increase in counterparty risk, the TED rose by 6 bps two weeks ago and by another 11 bps last week to 69, surpassing the 2011 spike and moving to levels we haven't seen since May 2009.
Editor's Note: This is a brief excerpt from a research note written by Hedgeye Financials analyst Josh Steiner. To learn more about our institutional research ping email@example.com.