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Topical observations from the Qi macro lens. Build your investment roadmap with the best-in-class quantitative analysis and global data.

09.05.2023

Go East!

After strong Q1 GDP numbers, more recent Chinese economic data have underwhelmed. The great 2023 re-opening trade has not delivered for international investors.

To be fair, maybe it's simply changed shape. Buying commodities and resource stocks may not have worked, but buying European luxury goods has.

Alternatively, maybe the average Western investor needs to take a more nuanced view of the opportunities in Asia. Yes the size of the Chinese economy dominates the region but there are individual stories unfolding.

Consider the chart below which shows Qi's macro-warranted model value for a number of ETFs tracking Asian equity indices.

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04.05.2023

Is S&P500 multiple expansion now over?

Inflation is moderating alongside falling short-end rates pricing in rate cuts over H2.

• If the fixed income market is correct, a recession is on the horizon and this is a warning for stocks.

• If the fixed income market is wrong and data remains fine, interest rate expectations would need to move higher.

• Both of these paths would put downward pressure on equity multiples, putting greater onus on earnings growth to come through, which in turn makes for a low Sharpe market backdrop.

Chairman Powell this week pointed to the strength in labour markets with no recession a more likely scenario. He reiterated that “the process of getting inflation back down to 2 percent has a long way to go,” and did not expect cuts this year. He did not rule out a June hike but said they would be now be more data dependent.

His assessment would be more consistent with the second scenario above. If his assessment is wrong, it would be because the credit crunch is intensifying and the labour market is weakening. Both scenarios put pressure on the PE multiple.

This conclusion is consistent with the observation that the S&P 500 PE multiples had contracted 8 out of the last 10 episodes after the Fed’s last rate hike and subsequent first rate cut. At that late stage of the business cycle, any further gains came from earnings growth with market introspection on the appropriate PE multiple already looking forward to what is next. The higher the Misery (inflation plus unemployment rate), the larger the PE contraction

04.05.2023

Jay Powell is watching credit
- shouldn't you be too?

In the minutes of the March FOMC meeting, the Fed explicitly acknowledged that the banking crisis and subsequent tightening of credit conditions, was having the same effect as rate hikes.

In last night's press conference, Chair Powell effectively signalled the Fed were in watch-&-wait mode. And that a key feature of their new data dependency is to watch and assess the impact of tighter credit conditions.

The message is pretty unequivocal - watch credit. Next week's Fed Senior Loan Office Survey was already a hugely important data point. Even more so now.

But otherwise, how is an equity investor supposed to 1.) easily keep track of all the moving parts of the credit market, 2.) measure their impact on the stocks, sector, ETFs that they care about?

Qi's Optimise Trade Selection function.

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01.05.2023

Concentration risk

It is not new news that a handful of mega cap Tech stocks have driven the 2023 equity market rally. But the degree to which the broad equity market relies on these few companies is reaching historical levels.

The chart below shows the regular market cap weighted QQQ ETF versus its equal weighted counterpart QQEW. The ratio is approaching the highs recorded in q4'21 - the peak of the Covid lockdown tech rally.

26.04.2023

Hiding in Consumer Staples?

Thus far, company earnings appear to be beating downbeat expectations. Since the October low in US equity markets, every sector has seen forward earnings expectations revised lower. Bar one - consumer staples.

If the equity market is on watch for an earnings recession, then Staples are the one area for guarded optimism. Analysts believe they can maintain performance.

Makes sense. XLP's three biggest holdings are Procter & Gamble (14.5%), Pepsi (10.2%) and Coca-Cola (9.7%) - arguably the three poster children for the concept of corporate pricing power. These companies have become synonymous with the idea that rising input costs provide air cover to push higher prices onto consumers.

So does the macro picture agree with the idea Consumer Staples are the best defensive bets for equity bears right now? The chart below shows the Qi model for XLP

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19.04.2023

Tech. Priced for perfection?

The S&P 500 has rallied 7.6% from its March low, led by Tech and Communication services.

Regional banks, at the epicentre of the early March weakness, are still close to their lows. With the smaller cap Russell 2000 charting a path closer to regional banks than the S&P 500.

Alongside this, we saw an 8 standard deviation drop in 2yr yields last month. And this was a crucial fact enabling investors to jump on the longer duration, growth-orientated Technology heavyweights. Companies with the strongest balance sheets.

VIX dropped to sub-17, a level not seen before inflation fears started manifesting in 2022. In a way, the SVB shock did a favour for the broader US equity market – the market was able to compartmentalize the shock.

The question now is for how long is this sustainable? Despite the VIX at these levels, sentiment and positioning data are not at orange signs and data over Q1 has been good – just look at the nowcast or Citi surprise indices.

But that is where we were, and we need to contend with the seemingly divergent view between the rate and equity market.
The rates market is priced for peak rates this summer and cuts over H2, i.e. a credit crunch is coming and the labour market will weaken.

Equities, given the rally towards 6mth highs and the earnings yield gap to bonds at multi-year lows, seem to be suggesting the drop in expected bank lending will be enough to quell inflation but not enough to warrant a recession.

Two possible scenarios:

18.04.2023

Complacency?

VIX is below 17. The chart below shows the equity market's "fear gauge" in z-score terms which is how Qi models all its macro variables. It is now 1.6 standard deviations below trend.

Eyeballing the chart you can see it is possible for VIX to spend a protracted period at these lower levels. However, it is also fair to point out that we are close to extremes of the range. These are levels that suggest equity markets are skewed to complacency.

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12.04.2023

HUF - the road to hell
is paved with positive carry

The Hungarian Forint has been one of 2023's best performing currencies. Geopolitical risks and weak economic data have seemingly been offset by carry dynamics with the Hungarian National Bank remaining resolutely focused on keeping rates high to fight inflation.

Qi largely agrees but with some early notes of caution.

Macro-warranted fair value is still trending lower for USDHUF.

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11.04.2023

Hawkish RBNZ, dovish RBA
= AUDNZD downside?

Last week both the RBNZ and RBA met. The former surprised with a more hawkish 50bp rate hike; the latter left rates unchanged and seemed to emphasize growth vulnerabilities rather than inflation threats.

Such a contrast in respective policy stances would appear to clearly point to downside pressure for AUDNZD fx.

But a key part of investing is measuring the degree to which existing news is already priced in. This short video shows how Qi can be used to:

03.04.2023

The Aussie battler

After the initial excitement, the China re-opening trade has generally underwhelmed. Last week's news about Alibaba splitting up into six "baby Babas" has rekindled hopes that the tech sector at least could kick back into life.

What about other China trades? The Aussie Dollar appears to have lagged the most recent bounce in risk appetite. What's the quant macro perspective on the Aussie?

This is our Watchlist of various Aussie fx crosses:

04.05.2023

Is S&P500 multiple expansion now over?

This should also be considered in light of the fact that the SPX 12mth fwd PE is trading close to post GFC highs and the S&P 500 equity risk premium close to post GFC lows.

On earnings, the surprising aspect of this earnings season was the ability of companies to pass on higher costs and protect their margins. On a medium term basis, one would not think that could last with falling CPI putting pressure on nominal top-lines alongside higher labour costs.

After the last hike in June 2006 we had to wait over 14mths for first rate cut in September 2007 – the backdrop was different then with earnings growth over that period exceptionally strong.

What does Qi show? SPX model value has been flatlining over the last month. It wants stronger GDP growth, tighter credit, lower rate vol and a weaker dollar.

With a focus on credit conditions, the senior loan officer’s survey is released on 8th May. The current US mortgage spread to 30yr yields is already indicating conditions moved tighter.

Bottom-line, the risk-reward suggests there are good reasons to respect the top of the current SPX range.

01.05.2023

Concentration risk

On Qi there is a striking difference between the two ETFs. Both in terms of the importance of macro, and their valuations.

QQQ remains just below our threshold for a macro regime. No signal can therefore be generated but it sits 1.4 standard deviations (8.1%) rich to model.

QQEW has 80% model confidence. It is in a strong macro regime. It is also rich but the Valuation Gap is modest; 'just' 0.5 std dev (2.5%).

The macro regimes are identical. Tech stocks want a Goldilocks mix of reflation, easy financial conditions and healthy risk appetite.

In short, the mega cap FAANGs are rich and idiosyncratic plays. But broader US technology stocks are a macro play, and are largely behaving as they should given current macro conditions.

Put another way, the FAANGs are responsible for lower macro model confidence and rich valuations. Consider the following stats:

Meta - macro model confidence of 57%; the stock is 2 standard deviations rich to model.
Apple - 28% model confidence, 1.6 std dev rich.
Amazon - macro explains just 20% of the variance of AMZN. The stock sits 1 std dev above model value.
Google - 37% and 1.6 std dev rich
Microsoft - 51% and a FVG of +2.3 std dev

Mega cap Tech is marching to a different tune. Most likely, the hype around generative AI has become more important than macro fundamentals.

Even in a week that contains ISM, Payrolls and a Fed meeting it is not hyperbole to say Apple's earnings on Thursday are potentially the biggest focus for equity markets. It remains the biggest company in both the S&P500 and NASDAQ.

If Apple can beat consensus expectations then the odds favour a continuation of the rally; maybe even a breakout of the mind-numbing range of recent months.

That will frustrate the bears, especially if the elasticity of mega cap outperformance has stretched as far as it can, meaning the broader market enjoys a bout of catch up. The bear camp will be hoping disappointing earnings are the catalyst for mega caps to catch down.

Qi's QQQ vs. QQEW Long Term model is not in regime. The ST model very much is (94% confidence) and suggests the market is simply tracking macro conditions.

19.04.2023

Tech. Priced for perfection?

First, rates markets are too bearish. So far US data has been good, the US economic surprise index still ticking higher, a recession may not happen and rates may remain higher for longer with cuts pushed out towards 2024.
In this scenario, the move higher in yields will hurt a driving force for Tech outperformance which has carried the market thus far. In so doing, the overall index will remain on the backfoot.
Second, equities are indeed rich to bonds in the face of cuts in H2 of this year with the recession coming accompanied by higher credit spreads, weaker earnings. At the start of this month, the MOVE / VIX ratio was at multi-year highs reflecting the more sanguine equity view. In this scenario, that ratio would converge and Technology likely will also weaken given its higher beta status.
This comes at a time where PE relatives are also at multi-year highs, supporting the view that optimism on a falling cost of capital has been important for Tech strength.

According to Qi, the Nasdaq 100 stands at just over 1 sigma rich to macro warranted valuation, having trading 1 sigma cheap into 2023. Higher economic growth (consensus GDP forecasts have been rising over Q1), tighter credit spreads and falling rate vol have all been important macro drivers.

Relative to the S&P 500, the largest macro driver has been falling rate vol. Model value is still rising but the rich valuation puts greater onus on the macro drivers continuing to move favourably

We face a higher growth expectation hurdle rate going into Q2. Since 2010, the annualised return of the SPX is ~10%. However, if you first look at annualised returns when the Citi US Economic Surprise index is falling from peak to trough – those periods are associated with ~5% annualised return. When its rising from trough to peak, 20% annualised returns.

The Citi economic surprise index is inherently a mean-reverting index – it will more likely be falling than rising this quarter. The expectations hurdle for the Tech sector from the perspective of the forthcoming earnings season is also likely high – especially if we are indeed close to the end of the Fed rate hiking cycle. Bottom-line, in Q2 data dependency will increase.

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11.04.2023

Hawkish RBNZ, dovish RBA
= AUDNZD downside?

ascertain whether interest rate differentials are indeed the critical driver of any currency cross
measure the degree to which yield spreads are already reflected in the price
use Qi's macro valuations to provide a roadmap for potential trading opportunities

03.04.2023

The Aussie battler

What stands out?

Amongst the majors that are in macro regimes, Aussie screens as modestly cheap versus the Euro, Yen and both Kiwi and Canadian Dollar.
The issue is macro momentum points to further Aussie depreciation.
For example, since mid-March, Qi macro model value has fallen 1.25% for AUDNZD and 2.3% for AUDJPY; over the same period, macro-warranted model value for EURAUD has risen 1.8%.
It's the same basic dynamic each time - interest rate differentials and risk appetite (VIX + corporate spreads) have driven the model moves.
Tomorrow's RBA announcement will be important. But it is important to note the current pattern shows that, for these FX pairs, Aussie is not the chief beneficiary during periods of "risk on".

The exception is AUDUSD

Macro fair value has bounced 2.9% since mid-month.

Why? The chart below breaks down the attribution of the recent move. Every factor moved in its favour but the key drivers were metal prices, interest rate differentials and "risk on" (tighter credit spreads, lower VIX).

There's a modest valuation edge. Qi has AUDUSD as 1.0% cheap as spot has slightly lagged the improvement in macro conditions.

When the valuation gap is modest, the investment conclusion is what model value does next is critical.

If you believe April can maintain a strong risk appetite vibe... if you believe tomorrow's RBA keeps future rate hike options open... then ignore the cheaper valuations on other Aussie crosses, AUDUSD upside is the the most efficient play.

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