“The pessimist complains about the wind; the optimist expects it to change; the realist adjusts the sails.”
-William Arthur Ward

Sailing is a great analogy for having to adjust to change.  If you don’t adjust your sails when the wind shifts, you risk being so far off course that you may never regain your bearings.  Fishing also requires a quick adjustment.   In fishing it is even more sudden and dramatic.  When a storm blows in, get the H E double hockey stick off the water!

My colleague Keith is up in Thunder Bay enjoying a vacation with his family.  In lieu of getting up to grind out the Early Look, he’s been getting up early to fish on Lake Superior.  The Ojibe call Lake Superior gichi-gami, which means “be a great sea”.  The name is appropriate for a lake with over 31,000 surface miles. 

Akin to being a great sea, storms can develop quickly on Lake Superior. Keith posted a picture on his new Instagram account from his current trip that we’ve posted in the middle graphic.  It shows a nasty storm brewing on gichi-gami.  Like a great risk manager, Keith was able to get his boat to shore and was prepared to battle the mighty Walleye after the storm had passed.

As stock market operators, we are also often required to adjust our sails quickly based on factor performance. Second quarter performance numbers are trickling in for the hedge fund community and it is pretty obvious that some large ships weren’t able to adjust their sails quickly enough based on market factors.  At the start of the week, here is the factor performance scoreboard within the S&P 500:

  1. Low yielding stocks were up more than 12.5% in the YTD and high yielding stocks are down -1.0%;
  2. The 25% largest market cap companies are up 11.6% and the 25% smallest largest cap companies are up a measly +0.7% in the YTD; and
  3. Low short interest stocks are up 13.6% and high short interest stocks are down -3.1%.

When the wind changes, we adjust the sails . . . what do you do, sir.

Adjust the Sails - fishing boat

Back to the Global Macro Grind…

There has been a serious tail wind of corporate debt issuance for at least the last three years.  In fact, U.S. companies have sold more than $734 billion on bonds this year through early August.  With that pace, U.S. companies should comfortably sell more than a trillion in bonds for the third year running.  

As highlighted in the Chart of the Day, along with this record level of debt issuance is a record level low level in yields. In fact, the effective yield of the BAML high yield index fell to ~5.4% earlier this summer. For comparisons sake, this is very close to the record low of ~5.2% that the index touched in 2014.   For you bond gurus, the average duration of investment grade debt is also now at a record high of 7.5.  Needless to say, the corporate debt sails are wide open!

In other news this morning, the recently released Fed minutes highlighted a concern among our central planners (err, central bankers) that their model might not be working.  Specifically, there is concern that the Phillips model may be, gasp, broken!  Per the Fed minutes:

“Many participants ... saw some likelihood that inflation might remain below 2 percent for longer than they currently expected, and several indicated that the risks to the inflation outlook could be tilted to the downside.”

While this conclusion might not be supportive of model driven professional economic prognosticators, it is supportive of the Hedgeye call of a #Quad1 economy (growth accelerating, inflation decelerating). To the extent the Fed backs off on any tightening stance, the corporate debt splurge will continue.

In Europe, the central bankers are also fretting about their models. The key concern for the ECB appears to be the strength of the euro (not to be confused with the strength of the EU which we are all concerned about). According to minutes from the ECB’s July 19 – 20th meeting:

“While it was remarked that the appreciation of the euro to date could be seen in part as reflecting changes in relative fundamentals in the euro area vis-à-vis the rest of the world, concerns were expressed about the risk of the exchange rate overshooting in the future.”

Oh snap, did the world’s two largest cohorts of central bankers just decide to ease rhetorically (albeit for different reasons)?

Before signing off, we’d be remiss not to highlight a short call we are hosting on HealthEquity (HQY) today.  We think this company is facing attacks from numerous sides, including its largest customers launching competitive products.  At 27x 2018 EBITDA and 71x 2018 EPS, there is definitely some downside in this one if we are correct.  Ping , if you are an institutional subscriber and would like access to the 11am call today.

Speaking of healthcare, our healthcare policy guru Emily Evans (she forgets more about CMS in one day than most of us will ever know) is hosting a road trip to Health:Further in Nashville on August 24th and 25th.  For anyone in the weeds on healthcare, this yearly confab on the future of healthcare is a must attend.  Let us know if you want the details and would like to join us.

Our immediate-term Global Macro Risk Ranges (with intermediate-term TREND views in brackets) are now:

UST 10yr Yield 2.19-2.31% (neutral)
SPX 2 (bullish)
RUT 1 (neutral)
NASDAQ 6 (bullish)
DAX 117 (bearish)
VIX 9.31-16.00 (bearish)
EUR/USD 1.16-1.18 (neutral)
Oil (WTI) 45.68-48.26 (bearish)

Keep your head up and stick on the ice,

Daryl G. Jones
Director of Research

Adjust the Sails - 08.17.17 EL Chart