Discovery 2016 Outlook 12/15/2015 - Rob Citrone

Core Beliefs
1. US Economy 2%-2.25% growth next year. Monetary tightening will have some
impact on a slowdown.
2. US Economy will be led by consumption of services. Very low probability of a
recession because the health of consumers is high.
3. USD will strengthen further, especially against Asia/EM. We will 5%-7%
devaluation of the yuan.
4. The Fed will tighten policy, 95% chance they hike tomorrow. Three hikes next
year, mostly frontloaded. 70% chance of March hike. Rob expects hikes in March,
June and then either Sept or December. The Fed may wait for the election to hike
the third time. The market is worried that the Fed will be one and done, but this is
unlikely.
5. Japan will implement additional QE before the end of May due to choppy market.
They want to get Nikkei higher before July election. If they dont hike its because
inflation is picking up and market is doing well.
6. ECB will cut deposit rate further in March in order to weaken currency because it
will lag behind their inflation targets. Weakness in the EUR down to 1.02 to 1.00
range.
7. Front-end rates in the US will rise by 25bps. 10-year and the back end of the
curve will be stable.
8. Oil will finish at least $45-$50/bbl. December 16 contract is $44 right now. Curve
is very steep. Low prices today will reduce supply, eventually raising price of oil.
9. Discovery will be long services and short goods sectors. Long tech, healthcare,
internet, etc. Short industrials, etc.
Big Trades
1. Short EM currencies, especially in Asia. 5-7% devaluation in the CNY. TWD is
their favorite short, they see a deflationary scenario and a recession
forthcoming with positive carry in the trade. The central bank buys USD every
day. Korea, Singapore, Thailand, potentially Malaysia as well. They like the
Nikkei index.
2. Short the EUR. Mid-January to late February will be the first downward move.
Anticipating additional deposit rate in March. May foreshadow the cut in
January. Depends on where the EUR is at that point.
3. Good opportunities in beat up names that are generating FCF. Will be adding
to their 5-7 favorites. Baby will get thrown out with the bathwater.
4. M&A opportunities. Situations where they like the company fundamentally,
get the bonus synergies with the M&A. will be adding to their existing
favorites that fall under this umbrella

5. Short sick EMs. South Africa and Turkey. Brazil as well, but Brazil will work
through their problems in 2016. Will eventually be a fantastic opp if they get
leadership change. Could end up being a tremendous long.
a. South Africa finance minister was replaced with unqualified person,
president had to change his decision within four days. Politically, the
bear case has not fully played out, but it will
b. Turkey concerned about hostilities with Russia. Fighting on Turkish
border. Any spark there could be a serious event. Economically a
problem with trade being cut off and less tourism, etc. In these
markets you can be short currency, equities and credit.
6. Long services and short goods. Like this theme going forward.
7. Strongest growing economy in the world is India. Micro changes are having a
big impact on the economy. GDP was 7.5% last quarter and still accelerating.
Stable currency. Market has cheapened quite a bit and has recently sold off a
bit. They have investments in private sector banks. This will persist for the
next couple of years. The thesis didnt play out as well in 2015 but will ramp
up this year, even in Fed tightening cycle.
Risk/Reward short term
We will see further spread widening in HY. Corp credit has serious liquidity issues.
Fed hiking cycle will begin tomorrow and will happen in March as well. Market has
two hikes priced in as of today. More has to happen on the front end of the curve.
Market rallied after tapering because the fed laid out how they were going to be
tapering, but this time they have already said they want to be data dependent and
dont want to give as much guidance. This uncertainty is being priced into the
markets.
Uncertainty about currency policy in China. Its possible they are doing this just
before the Fed hike to make the hike a little more dovish. China currency is on its
way cheaper, and more so than the forwards are pricing in.
Expect over time, oil prices to go up, but not necessarily for other commodities. We
will get the oil export provision passed in Congress. This will help oil price,
especially WTI.
No more QE over the next couple of months in the world (near term).
No nominal growth has risk of lowering over the short term. Very hard to find cheap
markets over the world.
Terrorist threat is real and heightened right now. Aggressive war between Saudi and
Iran. Yemen heating up even further. Also brought Russia and turkey against each
other. Russia fighting against western-backed forces in Iran and Iraq. More worrying
than in the past. Threat of something happening is a lot higher over the next 3-6
months.
Surprises in 2016
1. Inflation pickup in H1. Solid wage and job gains. Chance headline and core
inflation higher than people think. This is the #1 thing Rob is worried about.

This would be happening into the back of a lower economy. Quite concerned
about this
2. Fed may tighten more aggressively than mkt expects, with further hikes in
2017. Will trigger a selloff in risk markets.
3. Middle East worries about this getting out of control, particularly with Russia
getting involved.