“The odds change as our positions in the cycle changes.”
-Howard Marks
While you may be waking up to the economic (and political) opinions of #DavosMan this morning, remember that those opinions often differ from now-casted economic facts.
The fact of the matter about cycles is that Howard Marks is right about how The Cycle impacts your returns. “If we don’t change our investment stance as these things change, we’re being passive regarding cycles…
In other words, we’re ignoring the chance to tilt the odds in our favor.” –Mastering The Market Cycle (pg 9)
Back to the Global Macro Grind…
Darius Dale and I spent all of yesterday meeting with Institutional Investors in Connecticut. From private equity to hedge fund types, everyone has their own investment process. They use ours to augment what it is that they do.
When it comes to measuring and mapping The Cycle, what we do is a full-time bean-counting job. Yeah, I color it up with cartoons and my easy to love Canadian personality… but at the end of the day, the now-casting is purely mathematical.
There are 3 big things within The Cycle that matter to me most:
- The Growth Cycle
- The Inflation Cycle
- The Profit Cycle
When 1 (GROWTH) and 2 (INFLATION) are #slowing, we call that #Quad4. When the US economy is in #Quad4, the odds of 3 (PROFITS) #slowing are high and rising.
In real-time, where are we in terms of US Profits Slowing? That’s an easy answer (if your job is to bean count it):
- 15% of the SP500’s companies have reported aggregate Q418 year-over-year EPS growth of +13.9%
- That compares to #PeakCycle year-over-year EPS growth in Q218 and Q318 of +24.5% and +24.2%, respectively
- Financials have reported aggregate year-over-year EPS growth of +15.9% down from +30.6% at the Q318 peak
If EPS #slowed from #PeakCycle of +25% to 23%, we ROC heads (rate of change) would still call it #slowing. We don’t care about someone’s opinion on something being a “good or bad” quarter; we care about accelerations and decelerations.
Back to the Financials and why I’m calling them out:
- They lead off Earnings Season so 40% of the Financials (28 of 68 companies in the SPX) have already reported
- They are some of the most PRO-CYCLICAL companies in the SP500
For those of you who are new to using an awareness of the accelerations and decelerations in The Cycle to tilt the odds in your favor, companies that are pro-cyclical are companies that do well when The Cycle is #accelerating.
The ROC of Financials PROFITS peaked in Q3 of 2018 because that’s when US GROWTH and INFLATION peaked. Period.
Yeah, the stocks bounced from #oversold lows in late December, but ultimately the stocks were discounting the beginning of #EarningsSlowing and probably won’t stop doing so until they have to lap their #PeakCycle +30.6% y/y growth rate.
So even if you call them “cheap” I’m staying short these suckers (insert my Canadian charm please).
Taking this analysis up 20,000 feet from a US regional bank’s peak earnings growth rate, The ROC can be followed by bean counters worldwide. Let’s take a look at Japan’s economic data this morning:
- Japanese Exports #slowed to -3.8% year-over-year growth in DEC vs. +0.1% in NOV
- Japanese Machine Tool Orders #slowed to -18.3% year-over-year growth in DEC vs. -17.0% in NOV
Down -18.3%! Do we have some kind of a “trade war” with the Japanese that we should blame? Or is this “all about China” or some ridiculously ignorant economic comment like that?
After being bullish on Japanese stocks when The Cycle was tilted in my favor, I’m staying short Japanese stocks (Nikkei) too. My positions change as accelerations and decelerations in the data does.
Our immediate-term Global Macro Risk Ranges (with intermediate-term TREND views in brackets) are now:
UST 2yr Yield 2.47-2.62% (bearish)
SPX 2 (bearish)
NASDAQ 6 (bearish)
Industrials (XLI) 65.46-69.99 (bearish)
Nikkei 20108-20811 (bearish)
VIX 17.16-23.84 (bullish)
EUR/USD 1.12-1.15 (bearish)
USD/YEN 107.60-110.10 (bearish)
Oil (WTI) 48.51-54.15 (bearish)
Nat Gas 2.71-3.74 (bearish)
Gold 1 (bullish)
Best of luck out there today,
KM
Keith R. McCullough
Chief Executive Officer
