Debt Bubble Driven Fun Like College Kids with Credit Cards
Below I take a loonnngggg look at…well, just about everything…bonds, bankers and bombast.
As the Debt Piles Up, Rates have No Where to Go but Up, and Thus Markets No Where to Go but Down, Eventually…
Fists nearly pounding, I’ve written ad nausea that a market and economy supported by a debt bubble rather than productivity is mathematically, historically, and even gravitationally impossible.
It seems our great minds between NYC and DC have forgotten this, as if forgetting Newton’s law. There is a sense today that a system that borrows and spends (as opposed to earns) has no consequences, a faith akin to thinking that apples fall up, rather than down, when a tree shakes.
Trump inherited a $700B fiscal deficit for 2019 to which he quickly added $300B worth of tax cuts; thereafter he replaced $60B of domestic spending and another $100B in disaster relief for an additional $80B to our bloated military industrial complex and seemingly irrational permanent war on terrorism as if Syria was as important to Americans as Syracuse…
To pay for such budgetary wisdom, this year’s borrowing needs will demand the issuance of another $1.2T in Treasury bonds at just the same (i.e. wrong) time the QT-focused FED (rather the QE monster of the past) will be dumping (rather than buying) an additional $600B worth of Treasuries into a bond market where historical over-supply and decreased demand means only one mathematical thing
Lower bond prices, higher yields and rising rates are here and coming. Period.
The yield on the 10 Year UST has already flirted with the 3% marker; by 2019 it will break the 4% line.
For an economy driven by debt and a stock market driven by companies borrowing cheap to make dividends and buy back their own stocks at peak valuation, the debt roll-over party and earnings sham hidden behind the so-called US “recovery” is about to end, and end badly.
Why? Because rising rates kill financial bubbles, and we are sitting upon the greatest bubble in history.
Our bond bubble is rumbling folks; growling daily under the weight of its own massive distortion (thanks to our celebrated Federal Reserve) and sits bloated, drunk and tired today at a size 9X fatter (relative to GDP) than it was on the eve of the 08 Crisis.
A Country That Lives on Borrowing Needs Someone to Buy its Bonds
But who will buy our debt (the sole means by which we seem to “recover”) today and tomorrow to keep the US Ponzi scheme afloat?
Nope, they are looking embarrassed, head down and away. Why? Because even they know you can’t “print and buy” debt forever…Having printed trillions, they are back-stepping toward quantitative tightening rather than easing (i.e. bond dumping rather than buying).
The Chinese? Well, they used to buy our paper, but today, in the backdrop of a schoolyard trade war and US protectionism, Beijing will be an unlikely bidder. Somehow, the White House feels a $500B to $100B trade imbalance with China can be resolved like a Trump Real Estate “deal.
But as I’ve noted elsewhere, Trump’s methods in the real estate domain (itself a soon-to-be-dying bubble as rates rise) are in fact anything but inspirational…
In fact, if Xi Jinping wanted to fight dirty, he might just decide to dump a trillion or so worth of our US bonds in round 3 of our Chinese trade war, an act certain to add to rising US bond supply, yields and hence interest rates to come.
The US Bond Market: Too Big to Succeed (TBTS)
Either way, the coming years will see rates rise, as nothing and no one can stop the inevitable forces of supply and demand and the bond debacle ahead. In short, our bond market, fattened by central banks here and abroad for nearly a decade, is simply “too big to succeed.”
Keep in mind that we are now entering the tired end of a 124-month business cycle in which the interest cost on our American deficit is approaching nearly 10% of our GDP (in 2007, by contrast, this figure was just 1% as we hit our last business cycle top in 07, heading thereafter into the great Recession of 08).
The Other Horses in the Global Glue Factory
Of course, the rest of the world looks no less distorted. China, the “engine of global growth,” is itself a massive “Bernie Madoff” fund sitting on $40T of debt.
The bull case argued by many, and contemplated briefly by me, was that perhaps China’s eventual woes could mean a bull-case flow of Chinese money into US markets as the proverbial best horse in the global glue factory.
Perhaps. But equally, if not more, likely, the Chinese dictatorship masquerading as capitalism will aggressively cut its foreign exchange loopholes and keep the money within its borders and its new class of millionaires behind bars as scape goats for a sovereign policy of debt rather than income…
As for my beloved Europe, the land of my forefathers and home of my children and their beautiful mother, things hardly look inspiring.
My dear Germany (forever caught between its historically fiscal conservatism and current debt profligacy to pay for the immigrants of American wars) has finally seen the light of tightening the belt of its fiscal Lederhosen.
The sound money policy for 2019 slowly coming out of Frankfurt means less rather than more bond-buying (aka less central bank drinking of its own debt schnapps). Sitting today upon a $5.5T balance sheet, the ECB simply can drink no more of its own debt paper. Instead, the credit hangover of all time loometh in a world of Debt Uber Alles…
In other words, the US central bank problem, as I’ve written here, here and here, is part of a global central bank problem. Since the central bank drinking binge of consuming their own sovereign and even private debts (i.e. “artificial demand”) began in 2008, the combined balance sheets of the world’s central banks have bloated from $5T to a staggering $22T.
That’s what I call a debt fiasco in the making.
And remember my favorite Austrian economist, von Mises? Had he not warned us generations prior that the bigger the debt bubble and “fake recovery” it buys, the bigger the recession it creates? That means we are likely heading into the greatest global recession of all time.
Who Got Us into This Mess?
Of course, the bankers and C-suite executives who have been living off (and profiting immensely and unconscionably from) government bailouts and central bank rate cramming in the wake of a crisis they alone created (the ironies do abound), do not care for (nor even understand) history in general nor von Mises in particular.
I know—I used to work and trade along side them.
After all, Wall Street “gurus” with 2nd and 3rd homes, Cabinet Posts and X-mas bonuses paid for by riding a rising tide have no interest in such things as history, merit, candor or salary ethics and have conveniently confused artificial tailwinds for market “savvy.”
Today’s “market experts” simply take bonuses and ride a market wave that only seems to go up in the wake of what the Fed and others gingerly call “accommodative policies” which amounted to little more than a market run (paid for to the tune of a central bank monetizing $4.3T of Treasury and GSE debt) on steroids (i.e. central bank bids) rather than real earnings, GDP growth, natural demand or sound balance sheets, from the FANGS to US Treasuries.
By the way, if you’re looking for a metaphor of today’s market over-valuation, just say: Amazon…
It’s a Debt-Driven Fantasy and Nothing More
As I’ve said and written elsewhere, this entire “recovery” and undeniable “bull-run” is nothing more than a debt-driven monster paid for by printed, fiat money and low-rates which only buy time, not solutions.
If you don’t want to believe this (or, due to the size of your 401K, don’t care), just consider the numbers rather than my opinions.
For example, since the pre-08-Crisis peak in Q3 of 2007, the non-financial corporate sector is up 34%. Not bad, Not bad at all…
But here’s the skunk in the room: during that same period, non-financial corporate debt increased by 85%, the vast majority of which was used to issue dividends and buy-back shares rather than improve corporate productivity.
In short: the entire “rise” in markets is based on debt, not capitalism.
If I gave my wonderful, handsome, charming yet college-age son full use of my credit card, he’d be an even bigger man on campus, buying kegs and sports cars—at least until the bill arrived and the girl friends scurried back to their dorm rooms laughing (sorry Andreas ;).
The same is true of our markets. They are literally sitting on (and temporarily enjoying) a big, fat, national credit card, not productivity nor income. When interest rates rise and credit no longer buys illusion, time or fun, that game ends abruptly.
Misguided Data Points
Furthermore, given that companies are using debt to buy their own shares, this has the distortive effect of shrinking the size of the share pool and thus dramatically increasing the so called “earnings per share” figures publically traded companies hand to Wall Street analysts (whose only advice–and expertise– always seems to be “buy!”).
2017 saw the greatest stock buy-back spree in history. These are just calms before a storm for anyone who remembers the last market crisis. Perhaps that’s why the last 12 months has also witnessed the greatest insider selling of stocks in decades.
Folks, the rats are leaving their own ships…
In short, such EPS numbers are the open lie (which insider “rats” know) that never gets discussed at your local advisory shop. After all, the markets are up, so who cares if they’re distorted or fake?
All of us will care if we don’t get out the way when they fall. In crazy times like these, it’s hard, reeeeeeaaaaalllly hard, to see this.
Today, average investors forget that fortunes are not made by riding to the tops. Rather, fortunes are made by not driving straight into a market iceberg and getting caught without a lifeboat. The iceberg looming off today’s market bow is massive.
Poor Main Street, Suckered Again…
As for our fragile Main Street and US consumer (whose savings rates are in the cellar at 3% of disposable income), don’t believe the political fluff that “wages are rising.”
In fact, they are rising less than the inflation rate as measured by even the patently dishonest CPI scale/lie…handed out to us by the BLS, as much of a propaganda pulpit for US financial data as Pravda was for Soviet growth fictions…
As for the so-called “job growth” which is forever making our increasingly less credible headlines and MSM clown-den of “financial reporting,” there has in fact been no acceleration at all outside the cyclical averages.
Meanwhile, the under-employed or no-longer-seeking-employment figures are left intentionally absent from the statistics churning out of the DC swamp at the BLS.
Sadly, and yet more to the point, today’s American poverty rates are the highest they have been in 50 years.
Currently, 11 of the 50 states now have populations where those receiving government hand-outs outnumber those who have actual jobs. Furthermore, across all 50 states, the number of Americans on welfare outnumber those Americans with full time jobs. According to the US Census Bureau, 1 in 4 Americans (25%) live below the poverty line.
So, if you believe the “recovery” hype, you are probably reading this from a comfortable zip code rather than the fly-over states, many of whose residents have been left behind the American dream. I know, because I was born there.
Apropos: our neighbors in Kansas, Iowa, Ohio and Nebraska are about to feel the full brunt of the “trade war” as China aims its tariff missiles at their hogs and soybeans…
This disconnect between the Wall Street bubble and Main Street pain has never been higher. It’s frankly, well: appalling.
This is not a rant folks; just fact.
Wall Street: The Best Performance a Central Bank Can Buy
So, let’s look at our so-called Wall Street success story…
As of this writing, the major indices are all up in record-breaking territory, rising 30% and more since the central banks rather than actual investors bought our markets and pushed PE multiples (and speculative “hope”) to the moon while the VIX (or fear index) trembled at coiled lows waiting to explode when the big bad market wolf returned.
Nevertheless, the financial media of Ken and Barbie “expertise” at prompt reading continues to “hail Caesar” to the Fed and brag about earnings growth.
The LTM earnings for December 2017 came in at 110 per share for the S&P, representing a 2.5% annual growth rate from the heights of our last market top in 07. Measured against even dishonest inflation, the net gain amounts to decimal points…
Given that it cost the Fed a 5X expansion of the money supply and the US trillions in added deficits to get there, such percentages are hardly worth bragging rights.
In order to pay for our debts, the Wall Street cheerleaders and White House economists (at least the ones still employed there) are now projecting 24% annual growth for the next decade.
Are they serious?
If anyone believes we can accomplish another 10 years without a natural recession, let alone believes we can do so at 10X the rate of the last decade of complete dependence upon Fed-stimulated growth/training wheels, well, then I just shake my head in awe.
Essentially, such optimism assumes a Wall Street priced for perfection, something seasoned traders like myself (who traded through the dot.com bubbles of 2000 to the CDS trenches of 08 and onward) know is fantasy.
A perfect Wall Street, like a healthy body, needs an occasional illness. Today’s markets and media hairpieces, however, smile into the camera and tell you Santa Claus is real and markets just go up.
If Eisenhower, however, were alive today, he’d be angrier than a D-Day landing. As the last Republican to balance a budget, he understood that victory requires casualties, and budgets require pain, even at the cost of political unpopularity. Today’s era thinks markets don’t require recessions.
The current mood on TV and in 401K land is one that pretends deficits (and bond yields) don’t matter and rhetoric does. In short: if the “experts” and Fed bankers say not to worry, because tomorrow will look the same as yesterday, the masses believe it. Why? Because they want to believe.
“Buy and hold,” they smile, and ride out the “dips.” But if the investing public understood math and bubbles, they’d re-think such boiler-plate advice.
Blinded by the Hype—Sobered by the Data
It seems the current mood and hope trickling down from DC and Wall Street has just made America blind, not great.
History and numbers should matter more than advisory pabulum, media pomp and politics, yet the financial and political populism today seems to gorge itself on the later and burry its collective head in the sand as to the former.
The data, as opposed to the media and sell-side cheerleading, suggests that we are in trouble. Perhaps one of the most alarming points to consider is the trend in real final sales, as it is an undeniably significant indicator of economic strength (as opposed to Wall Street spin).
Since the last market peak in 07, the peak-to-peak trend in final sales has grown by just over 1% a year, which is 2/3 less than its historic growth rate. That’s, well, a bad sign…and makes today’s PE multiples all the more scary, for the are flying high over empty ground.
Yet perhaps nothing is as scary (and admittedly shocking to me, who would have never guessed it) as the 35% rise in the S&P since the Donald’s election to the January 26th high.
Those who missed this rise (including some less than happy acquaintances of mine…) feel miffed; those that passively, luckily or actively caught it, feel brilliant.
Neither are correct.
In fact, such irrational spikes (based on words, trends and headlines rather than balance sheets) are historically a very, very, very bad sign of things to come. Given that markets were already dangerously over-valued before this spike, such a dramatic 2nd rise portends a far greater correction to come.
In fact, such spike upon spike is a tape eerily similar to the 1929 “Uh-Oh” moment…
How It All Ends
The bubble discussed above (and in many other places in my last 12 months of written warning bells here, here, and here) will end when the bond bubble ends, and bond bubbles end when interest rates rise, and rise they shall, regardless of what the central bankers scurrying through the Eccles Building think.
Remember this always: the bond market, and not the Central Banks, determines long-term rates. As bonds sell off (for all the reasons cited here and elsewhere), bond prices drop and yields rise. When yields rise, rates rise. It’s that simple.
When that happens, the increasingly impotent Fed (arriving with too little too late) will pivot from QT to QE and ring the alarm bells for more bond buying and money printing—the very “magic” that saved us in 08.
Or I should say, saved the stock market, not Main Street, whose real median income in the last 30 years has grown by just .4% a year, while Wall Street’s bankers, including those who ran Lehman Brothers and Bear Sterns, sit on hundreds of millions in personal “earned income.”
Such an America, in my opinion, is not, well: “great.”
Many of us traders, hedge fund managers and economists have been warning of yet-to-be-seen volatility and popping market bubbles for years, and as such, seem more and more like chicken littles rather than market navigators.
I get this. In the last five years, and save for a few early-year “dips,” markets seem to just chug up and to the right as whiny folks like myself marvel in awe at the tape’s blind faith in central banks and sell-side cheerleading yet blind to distorted balance sheets at both the sovereign and corporate levels.
Truth is, I never thought markets (or central banks) would or could play chicken with supply and demand or the imbedded dangers of monetary engineering and fiat-currency Band-Aids for this long. I never thought we’d risk America’s future for short term gains.
In short, I, like many other market veterans, underestimated the desperation of a global class of central banks and investors fighting like mad to avoid recessions and corrections with the fervor of Napoleon fighting to avoid the defeat at Waterloo.
But markets, like armies that are stretched too thin, too wide and too blind, inevitably succumb to the fruits of their delusion. They will enjoy years of grandeur merely to suffer a catastrophe whose pains far out-pace prior glories.
The post-08 market rise is no different. Having enjoyed a glorious ride on the backs of debt, central bank steroids (QE and ZIRP) and media spin, this bull market, like a Lance Armstrong riding from fame to disgrace, will eventually run out of “dope.”
At that time, chicken-littles like myself won’t be smiling, but merely hoping a few of you headed the warning to at least consider the data rather than the dicta.
As for market bubbles and the destruction the next one will bring (greater in likely depth and duration than anything prior based mathematically on the size of the debt bubble beneath it), it is always better to be early, even years early, than a minute too late.
Moreover, real fortunes are historically made by those who avoid corrections and have money to wait for, and buy at, the market bottoms, rather than nervously chase after market tops with the rest of the herd.
Again: history matters.
Like many of you, I’ve seen those rare yet visible days where there is no bid for your ask, no liquidity, no exit door in the market fire. Unless you know how to trade volatility and monitor trends (or subscribe to Signals Matter), far better to be in cash than a burning theater, however distant the smoke may seem.
So, keep your eyes on that bond yield (and not the talking heads), and, as always, be careful out there.