“Presented with two lines of equal length, the eye is tricked into seeing one as longer than the other.”
-Michael Lewis
That’s what’s called the “Muller-Lyer Optical Illusion.” Michael Lewis of Liar’s Poker fame used it as a good example of our human biases in his recent history book on #behavioral finance called The Undoing Project.
I’ll get into how the start of a major causal factor (Earnings Season) has been undoing US stock market bears momentarily. But first I wanted to remind you, that in the face of undeniable evidence, there will always be ideologues and excuse makers in this world.
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"Even after you prove to people, with a ruler, that the lines are identical, the illusion persists. If perception had the power to overwhelm reality in such a simple case, how much power might it have in a more complicated one?” (The Undoing Project, pg 78) |
Back to the Global Macro Grind…
The Nasdaq and SP500 closing at freshly squeezed all-time-closing-highs (again) yesterday was not an optical illusion. Those are real #timestamps that will go down in US history as registered returns.
Looking back at the causal factors that drove returns is crystal clear when looking in the rear-view mirror. Two of the biggest causal factors that have undone the short-seller of “valuation” in 2017 have been:
A) Top Down US GDP #GrowthAccelerating in 2017
B) Bottom Up Earnings #GrowthAccelerating in 2017
If you’ve ever shorted a stock in size, I hope you learned on the job with other people’s money. Of the many lessons I learned (by losing other people’s money) going back to when I started out as a short-seller (back in the year 2000), here are a few:
- Don’t short an “expensive” stock if the company is going to report another #acceleration in Sales and/or Earnings growth
- Don’t short a “cheap” stock if the company is about to see an acceleration, post a multi-quarter and/or yearly deceleration
That’s right. You learn how to be better than bad at this game by learning what not to do.
There are multiple layers of risk management to add to your #process once you are NOT shorting companies that fit profiles 1 and 2. They largely have to do with this dirty word that I love: timing.
To review, once my analysts find a potential short idea that is either going to show its first major deceleration in Sales and/or Earnings OR is going to keep missing numbers because their #GrowthSlowing problems aren’t cyclical, then critical timing questions are:
- When is the date of the next #slowing catalyst?
- Where is the stock within its immediate-term @Hedgeye Risk Range?
- Where is the options market pricing volatility into the event?
Two good 2017 examples of these different kinds of shorts come from one of our All-Star Veteran Analysts, Howard Penney:
- Starbucks (SBUX) was his favorite big cap growth LONG until #GrowthSlowing became his probable outcome
- Chipotle (CMG) remains one of his favorite SHORTS for almost 2 years now as #GrowthSlowing hasn’t changed, yet
Those are bottom-up (stocks) examples of how a professional short-seller got it done in 2017. How about the top-down guys and gals? One daily update we provide is where year-over-year SALES and EARNINGS results are at the S&P 500 Sector Level:
- With Q3 Earnings Season underway, 34 of 500 S&P 500 Companies have reported their numbers
- Aggregate year-over-year SALES and EPS growth is currently +6.6% and +14.3%, respectively
- Tech has had 6 of 68 companies report aggregate y/y SALES and EPS growth of +20.3% and +81.3%, respectively!
Am I cherry picking a wicked-awesome start to Earnings Season?
Or am I simply riding the call we’ve stuck with all-year long? With all due respect, I don’t care what you call what I’m doing. Ultimately, I’m reporting the inconvenient truth for US growth bears. The market is where it is today, partly due to these timestamped reports.
Is this as good as it gets? Maybe. What if it isn’t? If a “bubble” multiple stock (love those when growth is accelerating and they guide Q4 higher) like Netflix (NFLX) comes into an event-day with a +45% implied volatility PREMIUM…
And the stock is not yet at the top-end of the @Hedgeye Risk Range… then why can’t the stock go higher?
To be clear, I like shorting stocks more than I like buying them. That’s mainly because it’s harder to do. I think my Research Team and I have issued more accurate Bottom-Up SELL ideas than any “sell side” firm in 2017. And that’s been, fully loaded, with a bullish Top-Down view.
Shorting stocks purely on “valuation” is not what we do. The valuation levels some bears use can trick the eye into seeing an “expensive” stock as too expensive, when it gets less-expensive after beating numbers.
Our immediate-term Global Macro Risk Ranges (with intermediate-term TREND views in brackets) are now:
UST 10yr Yield 2.27-2.39% (bullish)
SPX 2 (bullish)
NASDAQ 6 (bullish)
VIX 9.17-10.58 (bearish)
Oil (WTI) 50.35-52.35 (bullish)
Gold 1 (bearish)
Copper 3.03-3.23 (bullish)
AAPL 154.24-160.68 (bullish)
AMZN (bullish)
FB 170-177 (bullish)
GOOGL (bullish)
NFLX 188-209 (bullish)
Best of luck out there today,
KM
Keith R. McCullough
Chief Executive Officer
