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In the first two weeks of March the S&P 500 has rose +4%.  Given this, many are waking up today to feeling that all recent short ideas are really bad and all recent long ideas are really great. 

Last week the dollar was down 0.74% and stocks were up 0.99%.  That makes some sense, but none of the sectors most leveraged to the REFLATION trade outperformed the S&P 500.  What may not make sense was that commodities were down last week.  The CRB index was down 1.1%, gold was down 2.9% and copper was down 1.1%.  So the scenario of stocks up, dollar down, and commodities down presented an interesting divergence.

The question we asked ourselves during our morning meeting was, “Are commodities, and gold in particular, anticipating an interest rate hike?” 

In the face of bond yields going up, commodities –gold and copper especially - went down.   As we have expounded upon at length, we believe the fed’s departure from the language of “extended and exceptional” will push yields up.  As the cost of capital goes higher, it is implied that the prices of the most speculative commodities come under pressure. 

Coming into this week, our Hedgeye models are running bullish with 9 of 9 sectors positive on TRADE and 8 of 9 sectors positive on TREND.  On Friday, the sector study was bearish with 5 of 9 sectors declining on the day.  The one sector that is not positive on intermediate term TREND is Utilities (XLU).  We see issues with XLU; gold and commodities going down are a signal the interest rates are going up.  XLU is a surrogate for yield chasers. 

With commodities under pressure and the dollar in a bullish formation - positive on TRADE, TREND and TAIL - it’s not surprising that Materials (XLB) and Energy (XLE) underperformed last week and year-to-date.  

The best performing sectors are the ones most levered to the inventory build in the US economy, the consumer propensity to spend, and the “Piggy Banker Spread”: Consumer Discretionary (XLY), Financials (XLF) and Industrials (XLI). 

We pick our spots carefully, but right now the only sector we are long is Healthcare (XLV).  In the Hedgeye Healthcare First Look Tom Tobin commented that “These are strange days for Health Reform.  This week should spell the end of the process and everyone is expressing confidence that they will be vindicated.  Not everyone can be telling the truth, however.  The Intrade quote started spiking on Friday.  Somebody knows something.” 

With the XLV up on a down day, we are happy to be long! You don’t have to be bullish on the market to be bullish on certain sectors or stocks.

Howard Penney

Managing Director

The Macro Mixer: A Notable Divergence - xlv