How Do People Predict?

“People predict by making up stories.”
-Amos Tversky

That’s a timeless #behavorial quote from 1972 by the late Amos Tversky that Michael Lewis captured in an excellent chapter of The Undoing Project titled “The Rules of Prediction.”

Here are some of the other “rules” Tversky originally wrote down:

1. People predict very little and explain everything
2. People live under uncertainty whether they like it or not
3. People accept any explanation as long as it fits the facts

And, of course, a made for Wall Street rule that “people often work hard to obtain information they already have and avoid new knowledge” (page 197). That’s called data mining to support one’s invested position.

 

Back to the Global Macro Grind…

It’s Macro Monday! Every Monday we’re presented with an opportunity to tell ourselves a story by contextualizing last week’s macro market moves within the context of intermediate-term TRENDs (3 months or more) and long-term TAILs (3 years or less).

In summary, ex-Reflation rallying again, last week was mostly what we call a “counter-TREND” week where Global FX rallied vs. USD and Global Equities corrected from their 2017 highs:

1. US DOLLAR – was down -0.6% on the week (but has been up for 7 of the last 9) = Bullish TREND @Hedgeye
2. EURO – was +0.5% vs. USD on the week = Bearish TREND @Hedgeye with $1.17 TREND resistance
3. YEN – was +0.5% vs. USD on the week = Bearish TREND @Hedgeye
4. POUND – was +0.9% vs. USD on the week = new Bearish TREND @Hedgeye after being bullish through SEP 2017
5. SP500 – was down -0.2% on the week after making fresh all-time closing highs mid-week = +15.3% YTD
6. Nasdaq – was down -0.2% on the week after making fresh all-time closing highs mid-week = +25.4% YTD
7. Russell 2000 – led major US Index losers, -1.3% on the week at +8.7% YTD = Bullish TREND @Hedgeye
8. EuroStoxx 600 – lost relative to SP500 (again), down -1.9% on the week to +7.5% YTD = Neutral TREND @Hedgeye
9. Spain’s IBEX – was down another -2.6% on the week to +7.9% YTD = Bearish TREND @Hedgeye
10. Greece’s ATG – led European losers, down another -3.9% on the week = Bearish TREND @Hedgeye
11. India’s BSE – corrected -1.6% from its highs to +25.1% YTD = Bullish TREND @Hedgeye
12. South Korea’s KOSPI - corrected -1.0% from its highs to +33.3% YTD = Bullish TREND @Hedgeye
13. Russia’s RTSI – ramped +4.3%  back to being in the black at +0.4% YTD = Bullish TREND @Hedgeye

Put another way, in Global Equities, being long most things Southern Europe continues to lose relative to being long of US Growth. And pure plays on Oil’s Reflation (i.e. Russia) outperformed what’s been winning big (India, South Korea, etc.) this year.

Looking at Commodity Reflation more broadly you’ll see that ex-Ag (Corn down another -1.4% last week to -9.6% YTD), commodities have had an impressive run in the last 3 months with the CRB Commodities Index and WTI Oil +7.1% and +15.8%, respectively:

1. CRB Commodities Index – was up another +1.2% last week to -0.4% YTD = Bullish TREND @Hedgeye
2. Oil (WTI) – was up another +2.0% last week to -0.6% YTD = Bullish TREND @Hedgeye
3. Natural Gas – broke out +7.7% last week to -13.3% YTD = Bullish TREND @Hedgeye
4. Lumber – inflated another +4.5% last week to +24.5% YTD = Bullish TREND @Hedgeye
5. Gold – bounced +0.4% last week to +9.3% YTD = Bearish TREND @Hedgeye

As you can see, just because something is “up” or “down” YTD doesn’t make it a Bullish or Bearish TREND @Hedgeye.

Measuring and mapping PRICE, VOLUME, and VOLATILITY, across durations, is what determines those critical signals. I use them because macro markets are some of the best leading indicators (i.e. they have tremendous predictive value) I can find.

With that respect for Mr. Market in mind, what was the US Bond Market signaling last week?

1. UST 2 year Yield – was up another +4 basis points to fresh YTD highs last week = Bullish TREND @Hedgeye
2. UST 10 year Yield – was up another +7 basis points to +2.40% last week = Bullish TREND @Hedgeye
3. High Yield Index – was up +20 basis points last week, but is down -85 basis points YTD and Bearish TREND @Hedgeye

Does High Yield “breaking down” (through a trivial 50-day moving monkey) portend the “beginning of the end” that many market pundits have been calling for since the beginning of 2017?

The simple answer is I don’t know, but I’ll keep you posted.

My job isn’t to miss massive Phase Transitions in either US economic or market risk. That said, given Oil’s continued #Reflation and no other major market signal confirming it as a new TREND, I’ll call last week’s move in High Yield a TRADE, not a TREND, for now…

From both a US Equity Sector and Style Factor perspective, last week was also a counter-TREND move:

1. Consumer Staples (XLP) - led gainers last week, bouncing +2.1% to +5.0% YTD = Bearish TREND @Hedgeye
2. REITS (MSCI) – bounced +2.2% last week to +2.5% YTD = Bearish TREND @Hedgeye
3. Financials (XLF) – led losers, correcting -2.6% last week = Bullish TREND @Hedgeye
4. High Short Interest – bounced +1.6% last week to DOWN -0.9% YTD = Bearish TREND @Hedgeye
5. Bottom 25% Sales Growers (in SP500) – were up +1.5% last week to +2.7% YTD = Bearish TREND @Hedgeye

How do people predict? Fortunately, in this profession, the answer to that question is all over the place. That’s what makes a market. That’s what provides us tremendous opportunities too. How I do it should be pretty straightforward to anyone who has followed me over the years.

After measuring and mapping rates of change on a TRENDING basis across multiple macro-economic and market factors, I go with the story that both the data and Mr. Market are telling, not the big bang or bust stories people might click on to generate advertising revenues.

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

UST 10yr Yield 2.29-2.42% (bullish)
SPX 2 (bullish)
RUT 1 (bullish)
NASDAQ 6 (bullish)
XOP 33.46-37.64 (bullish)
Nikkei 215 (bullish)
DAX 13005-13599 (bullish)
VIX 8.95-11.59 (bearish)
USD 94.00-95.20 (bullish)
EUR/USD 1.15-1.17 (bearish)
YEN 113.01-114.51 (bearish)
GBP/USD 1.30-1.32 (bearish)
Oil (WTI) 53.36-58.57 (bullish)
Nat Gas 3.00-3.33 (bullish)
Gold 1 (bearish) 

Best of luck out there this week,
KM

Keith R. McCullough
Chief Executive Officer