“Dude, you parked the wrong way. We have to push the car out to get away!”
–Every Friday Night, 1990’s
You gotta have a process
My Friday night process was always the same.
Finish baseball/basketball practice. Get changed. Drive down route 372, jump the fence at every gas station and steal all the empty bottles they had bagged up. Return the bottles for $$$. Go out.
And the process can’t be static. You gotta innovate and iterate.
When the stores caught on and stopped putting the bags of empty cans out where we could take them, we “innovated” to stealing the 12-pack containers they had stacked outside … poured all the soda out and returned the cans for $$$.
Occasionally we’d get caught … mostly because our “getaway car” didn’t have reverse and only went up to 3rd gear (a whole different story) … but for the most part, the process worked.
‘Old enough to know better, young enough not to care’ is a great life phase. It’s a great part of the corporate life cycle of innovative and disruptive companies also and one in which Hedgeye (arguably) is still blessed to occupy.
Anyway, the point … obviously …. is to never hire anyone that always skips ‘leg day’ and the closets of the best risk managers are probably not devoid of skeletons (i.e. real life risk management reps).
As we look to the lessons of last year and forward to the opportunities of tomorrow, the macro risk management point here remains simple but critical …..
Trades will come and go … Process they can’t take from you.
Back to the Global Macro Grind …
Growth math is pretty straightforward.
At the national level, growth in the number of people making stuff has to accelerate, growth in how much stuff each person can make needs to accelerate, or some combination.
At the market level, either earnings have to accelerate or equities have to come down for valuations to normalize.
Distilled of nuance, abstraction and any other convolution you want to throw at it, those two realities are inextricably linked over the longer-term.
Convolution, however, defines the Macro moment and over the investible future, RoC (rate of change) comps and stimulus, baby!
Do you feel like you missed the Quad 2 pivot?
If so, let me reframe the question:
Alongside unprecedented (global) policy support and with stimulus again set to bridge the income gap, vaccine disbursement continuing apace, residual excess savings sitting as a latent consumption amplifier, a multi-quarter stretch of global and local reflation pending and a remixed Fed framework explicitly designed to let activity run hot, is the balance of risk to the upside or downside for equities over the next 6 months?
Don’t like the narrative framing? … By the numbers, there remains downside to the low end of the $USD and VIX Trend Ranges, Net Spec positioning in the SPX and Russell 2K are -0.5X and 0.45X, respectively, on a 3Y z-score and the historical percent positive ratio (equity performance) for Quad 2 during a Fed easing campaign is effectively 100%
Meanwhile, IVol premiums are high (SPY 30-day implied vol premium = +48%), but that also represents a convolution of idiosyncratic cross-dynamics. The roll-off of record election hedges and the pike in realized volatility along with another outsized round of hedging to protect YTD performance and guard against the binary risk associated with the GA runoff are all reflected in and amplifying the numbers on a 30-Day basis. As we push through year-end and past GA runoff uncertainty, vol sellers are likely to continue to reemerge while vol sensitive strats continue to re-lever as realized vol decays.
All of that is simply to say …. “The early bird may catch the worm, but the 2nd mouse gets the cheese”
I probably overuse that quote but it works as a kind of distilled, guiding macro mantra during regime switches.
Macro phase transitions are not priced in overnight. There is plenty of 2nd mouse opportunity with respect to shifting or building exposure.
As it relates to the reflationary outlook I wanted to summarily highlight dynamics on the price side as the convolution associated with pandemic distortions
The (global) fallout from the largest negative macro shock in a century was broadly disinflationary, layering cyclical pressure atop (still) entrenched structural forces (debt, demographics, globalization, tech innovation and oligopoly pricing, etc).
But large-scale pandemic related distortions have pervaded the price data for months as the impact of demand-supply imbalances for stay-at-home products/services accelerated.
While moderating, these idiosyncratic distortions remain evident and continue (and will continue) to shape the reported headline figures.
For example, consider price growth for durable goods relative to nondurables in the chart below.
Durables price growth – which include things like furniture, appliances and vehicles – represents items which saw outsized demand, outsized supply constraints or both.
The Inventory-to-Sales ratio’s reflect the same reality while suggesting continued solidity in near-term production and some measure of persistence in prevailing price trends.
Indeed, consider the rash of respondent commentary from the latest ISM survey. And this is where nuance matters as the commentary needs to be considered against the reported decline in the Employment Subindex (-4.8pts to 48.4 in Nov).
According to the survey respondents, Labor Supply, not demand, was clearly a gating factor to higher activity. It also hints at the capacity for step function improvement in production as containment measures ebb and macro conditions renormalize.
Relatedly, yesterday I received the notice below from the largest local wholesaler for residential construction materials warning that prices will be rising 5-15% across most categories beginning in February. And that does not include latest parabolic rise in lumber prices (check out that chart if it’s been off your radar).
Lastly, and as it relates to housing costs, there is important nuance in the related inflation figures.
Recall, shelter inflation represents roughly 30% of the CPI basket and has decelerated to the lowest level since 2011 at 1.9% Y/Y, dragging reported Headline inflation with it.
Recall, also, the following (perfectly subjective) question is the basis for measuring the largest component of this:
“If someone were to rent your home today, how much do you think it would rent for monthly, unfurnished and without utilities?”
Take a moment to wrap your head around that. The Fed’s view of inflation, which serves as a de facto view on global price trends, is largely anchored on the conjured response to that question.
Moreover, and as it relates to the pandemic and eviction/rent moratoria, landlord expectations around rent collection directly impact reported shelter inflation.
That is, to the extent landlords expect to collect rent the full amount is embedded in the calculation estimate. However, to the extent rent is forgiven, landlords give up on collecting unpaid rent, or landlords offer promotional incentives, it’s counted as a reduction in rent.
The eviction moratorium is clearly flowing through to rent collections and reported housing inflation.
Meanwhile, on the owner-occupant side, HPI continues to accelerate as elevated demand and ongoing all-time tight supply conditions continue to collide, flowing through price. Given the trend in purchase HPI and to the extent rent payment stabilization/improvement follows eco renormalization, shelter/rent price growth can be expected to stabilize/inflect as well.
Immediate-term @Hedgeye Risk Range with TREND signal in brackets:
UST 10yr Yield 0.91-0.98% (bullish)
UST 2yr Yield 0.11-0.16% (neutral)
SPX 3 (bullish)
RUT 1 (bullish)
NASDAQ 12,570-12,953 (bullish)
Tech (XLK) 126.02-131.14 (bullish)
Energy (XLE) 37.02-40.43 (bullish)
VIX 20.25-25.23 (bearish)
USD 89.69-90.99 (bearish)
Oil (WTI) 46.73-49.31 (bullish)
Gold 1 (neutral)
To closet skeletons, high school highjinks, 2nd mouses and reflationary bubbles,
Christian B. Drake
U.S. Macro Analyst
