“Fractal geometry is about spotting repeating patterns of this kind, analyzing them, quantifying them and manipulating them; it is a tool of both analysis and synthesis.”
What do you do when you get to work and turn on your two, three, four, five, eight screens every morning?
Sidebar: I still long for the day when I walk into a client office and spot what remains to this day the mythical 10-screen arrangement! It’s the Big Foot of hedge fund trading desk setups, if you will. When you’ve participated in as many client meetings as Keith and I have over the past decade, you start to really appreciate the outliers – characters, art, snacks (more of a London thing), and of course, the most obnoxiously efficient computer monitor arrangements.
Going back to the original question, having met with the handful of them who are clients, I believe the best investors in the world (read: not necessarily the biggest names in the industry) do the same thing when they power up their n number of screens each day. The mere act of inculcating some semblance of a repeatable process is the best way to avoid the pitfalls of Macro Tourism.
Back to the Global Macro Grind…
The first thing I do every morning is also my favorite part of the job – analyze economic data. That starts with characterizing the latest data in YoY rate-of-change format and ends with contextualizing where a given said data point fits on its sine curve, as well as how it impacts a more relevant (to financial markets) indicator like Real Gross Domestic Product or Consumer Price Inflation.
Sidebar: I used to get so annoyed by the sheer magnitude of economic statistics that get reported in MoM or QoQ format. Now, I enjoy the fact that there remains considerable edge (read: alpha; see: 2018) in actually doing the work to convert the noise of economic releases into relevant signals. It’s a trivial exercise, similar to building a company model, but unless you do it, you probably have no idea what the hell is actually going on in the macro/micro.
Drawing from the Mandelbrot quote above, this morning’s European economic data led me down a rabbit hole of analyzing, quantifying, and manipulating repeatable patterns that have been developing since Germany released its November Industrial Production statistics on Tuesday:
- Tuesday: German Industrial Production (↓ -510bps to -4.6% YoY in NOV; slowest since DEC ‘09)
- Thursday: French Industrial Production (↓ -150bps to -2.1% YoY in NOV; slowest since NOV ‘14)
- Friday: Italian Industrial Production (↓ -360bps to -2.6% YoY in NOV; slowest since OCT ’14)
- Friday: Spanish Industrial Production (↓ -330bps to -2.6% YoY in NOV; slowest since AUG ’13)
- Friday: UK Industrial Production (↓ -60bps to -1.5% YoY in NOV; slowest since AUG ‘13)
Thoughts (to myself):
A) “Hmm. All of the major economies in Europe have crashing/negative Industrial Production growth.”
Questions (to myself):
A) “Does this matter?”
B) “What is the likelihood that this pattern develops into a trend?”
Answers (first to myself, then to you):
A) “Yes. Industrial Production growth is a major factor in each of our [distinct] dynamically re-weighting predictive tracking algorithms for Real GDP growth in these economies. Specifically, IP currently contributes 34%, 29%, 23%, 24%, and 40% of the information within our nowcast models for Germany, France, Italy, Spain, and the UK, respectively.”
B) “High. Our stacked sequential momentum model – which we use to create a probabilistic range of outcomes for a given sequence of monthly prints – suggests German Industrial Production growth is likely to trend in a -1% to -4% range through OCT ’19. That same model sees a 0 to -2% range for France through OCT, a 0 to -5% range for Italy through OCT, a 0 to -3% range for Spain through OCT, and a 0 to -1.5% range for the UK through SEP. It should be noted that we don’t use this model as a forecasting tool per se, but rather as a guideline for how a particularly index or quantity itself is likely to progress given its recent history – in this case, a trailing 3yr observation window.”
Sidebar: Dutiful economists would note that these are seasonally and working-day adjusted indices of Industrial Production growth, so stacking sequential momentum (e.g. averaging the MoM growth rate in NOV ’18, NOV ’17, and NOV ’16 to generate a hypothetical MoM growth rate in NOV ‘19) to manipulate index itself is technically naughty. But who doesn’t like to get naughty every once in while? After all, bean counting economic data in and of itself is a rather boring life.
Questions (to myself):
A) “Do our comparative base effects models for the broader Eurozone and UK economies agree with the aforementioned outlook?”
B) “Is said outlook priced in?”
Answers (first to myself, then to you):
A) “Yes. The Eurozone economy faces a mountain of cycle-peak comps all year, which implies that, without monetary or fiscal stimulus – two highly unlikely events – the Eurozone economy is also highly unlikely to meaningfully recover until 4Q19E. With respect to the UK economy, comparative base effects for Real GDP ease slightly here in 1Q19E, but stiffen in the subsequent two quarters, implying any reprieve we may see in British economic growth is likely to be short-lived. This also implies that a no/weak deal Brexit may in fact look as bad as economist consensus fear sit may appear. Germany is a wild-card, as its comparative base effects ease fairly substantially throughout the year. This implies a falling GDP Deflator is highly likely to be additive to German (and likely broader Eurozone) economic growth given the dour IP scenario analysis laid out above.”
B) “No. The MSCI All-Country World Index ex-US Industrials Index trades at a NTM P/E multiple of 12.5 vs. the MSCI US Industrials Index’s 14.9 for a spread of -2.4 turns. That equates to a -0.4 on a trailing 3yr Z-Score basis. Who really is to say, but that’s not the kind of deep discount we’d expect to see if a potential European industrial recession was fully priced in. Determining whether or not an economic catalyst is ever fully priced in remains an exercise for: A) the birds; and B) people who think they are smarter than all of the other really smart, hardworking people in our industry. FWIW, I’m definitely not one of those hedge fund geniuses.”
All told, Macro Tourists will most certainly blame geopolitical catalysts like the Yellow Shirt movement in France or Brexit in the UK for a broad-based European downturn and we are keen to let them enjoy their narratives. The Macro Risk Management edge (read: alpha) remains in the application of our well-backtested mathematical concepts to front-run the data that will be responsible for generating such Old Wall legacy media headlines.
Our immediate-term Global Macro Risk Ranges are now:
UST 10yr Yield 2.56-2.81% (bearish)
UST 2yr Yield 2.39-2.64% (bearish)
SPX 2 (bearish)
USD 94.60-96.55 (neutral)
Oil (WTI) 43.18-53.61 (bearish)
Gold 1 (bullish)
Keep your head on a swivel,