“Prices must fully reflect all available information.”
-Efficient Market Hypothesis
Don’t worry, that’s not my orthodoxy. Ex-Shiller’s economics courses @Yale, it’s what I paid a pretty penny to learn in college, however.
“The Efficient Market Hypothesis follows a simple chain of economic logic to its counterintuitive conclusion. Cardano’s Martingale, Bachelier’s Random Walk, Samuelson’s Proof, and Fama’s Statistics all lead to the same place.” (Adaptive Markets, pg 27)
What’s priced in? After almost 20 years of analyzing and trading both stocks and macro markets there are many components to answering that question. If you answer it across durations, less is priced in. If you answer it in the now, plenty is.
Back to the Global Macro Grind…
When you consider what’s priced in “in the now”, an easy example to use is how a stock reacts to an earnings release. Some of the most obvious questions my analysts know I’ll ask them in our Morning Research Meeting (daily 745AM EST) are:
A) Did the company report an #acceleration or #deceleration in REVENUES?
B) Did the company report an #acceleration or #deceleration in EPS?
C) Did the company report an #acceleration or #deceleration in FREE CASH FLOW?
Both the sequentiall (quarter-over-quarter) and year-over-year rates of change always matter. But, most of the time, what also matters are expectations and market positioning into the event. Some factors we always consider on that front are:
A) Did SALES, EPS, and FCF beat or miss expectations?
B) How did the stock trade into the event relative to both its @Hedgeye TREND and Risk Range?
C) Where were options trading (realized vs. implied volatility)?
Then, of course, there are the bigger behavioral factors that a lot of “bottom-up” only investors miss like:
A) Where US Equity Beta (i.e. SP500, Nasdaq, etc.) is both on a @Hedgeye TREND and Risk Range basis into the event
B) What Mr. Market is putting a premium on as a Style Factor (Growth, Beta, Short Interest, etc.)
C) Where macro markets are trading from an expectation perspective (again, realized vs. implied vol, for example)
That’s a lot more to think about than your efficient market martingale!
With month-end for OCT 2017 #timestamped at +4.5% for the Nasdaq 100 = +28.5% YTD, can you imagine being me (effectively I’m the PM of our Morning Research Meeting with a quantified top-down market view)…
And having an analyst come in and tell me we’re short a growth stock that just ripped both a sequential and year-over-year #acceleration in the top-line, smoking expectations, AFTER the stock traded DOWN into the print with a massive implied volatility PREMIUM?
“Oh, but KM, my fair market value for the stock is 20% lower.” Get out of my meeting and go back to market-school.
I don’t abhor “valuation” as an investment factor. I simply don’t start with and anchor on it. If the stock is crazy expensive and the company is going to show #deceleration in sales growth, miss Wall Street estimates, and guide down – I’ll short it with impunity. Love those.
BREAKING: Aggregate (year-over-year) EPS Growth for the Nasdaq is running at +23% for Q3 to-date
Shorting stocks simply because they are “expensive” during a raging bull market is not a primary investment catalyst. What’s not surprising about some “expensive Tech stocks” is that they’re cheaper today than they were 10 months ago!
As you can see in today’s Chart of The Day, Tech has had, by far, the biggest upward NTM EPS Revision Trend in 2017. We’ll update this once we have all the Q317 earnings reports but, clearly, getting US #GrowthAccelerating (both top-down and bottom-up) mattered.
But what’s priced in now?
Evidently there’s no magic market multiple that a b-school student can give you to answer that question this morning. Instead, experienced market practitioners have to reconsider the aforementioned ABCs.
They constantly have to question the premise of their positions within the market they have as opposed to the one they wished they had. If they don’t change as bottom-up and top-down data does, their returns will fully reflect all information about their ability to deliver alpha.
Our immediate-term Global Macro Risk Ranges (with intermediate-term TREND views in brackets) are now:
UST 10yr Yield 2.34-2.48% (bullish)
SPX 2 (bullish)
RUT 1 (bullish)
NASDAQ 6 (bullish)
XOP 32.04-34.81 (bullish)
RMZ 1126-1155 (bearish)
Nikkei 211 (bullish)
DAX 13073-13378 (bullish)
VIX 9.36-11.72 (bearish)
USD 93.50-95.15 (bullish)
EUR/USD 1.15-1.17 (bearish)
YEN 112.11-114.64 (bearish)
Oil (WTI) 52.67-55.32 (bullish)
Best of luck out there today,
KM
Keith R. McCullough
Chief Executive Officer
