K-Winter End Game Marked by Surreal Conditions
No end in sight for negative interest rates, ever-expanding QE and more
Since our last posting in January, global stock markets have rallied sharply for all the wrong reasons. However of all the warped rallies the past few years, this one takes the cake. It began on February 11th when the US retail sales figures that exceeded expectations were released and investors reasoned that maybe things werenʼt so bad after all. As it turns out no they weren’t so bad- they were in fact more awful than knew. in fact the revisions for these came a month later and showed retails sales had actually plunged over 2% instead of rising over 1% as reported. Such a huge miss was ignored by the markets since then as most of the worst fears in mid February have abated- for now. How appropriate it is that the launch was born on news that tuned out to be as bogus as a four dollar bill.
Such are the times we are now living in where nothing seems to matter except central bank printing and promises of zero or negative interest rates for the rest of our lives. Yes, nothing is real in the world of economics because it is in fact surreal. Soon after the bogus retail sales numbers were released then the Bank of Japan committed monetary arson with through negative interest rates and the ECB announced a major ramp in their QE program by targeting corporate bonds, a first. Such draconian measures reflect their desperation to stem a deflationary wave now almost a decade old that shows no signs of abating anytime soon.
In mid-March the Federal Reserve moved the goal posts again for the umpteenth time by in a complete reversal from their previous meeting and walked back their stance of four rate hikes they proffered in December, proving again that the Fed and most other central banks are truly awful at economic forecasting.
Such lunacy already compounds their ever growing problems formulating a coherent policy to address the worst ten years of global growth since the 1930ʼs. Their incoherent policies has failed so miserably since 2009 by misallocating our financial resources, concentrating our wealth to all-time extremes, and fostering more bubbles than you can imagine. And sadly our world is even more polluted now than at the peak of the crisis seven years ago as central banks, corporations and sovereign and municipal governments have altogether added more than $80 trillion in aggregate debt. The total now is a mind blowing level that exceeds $300 trillion in total debt, not even counting any derivatives.
The backdrop for central banks is that they are nearing the end of an awfully conceived policy that assumes that record low rates combined with QE in tens of trillions will somehow promote growth. The reasons for their abysmal failure are too long to recount here but the primary causes of such an epic failure center on the idea that if the bulk of the recipients of QE donʼt need it then they will just wonʼt use it. And the law of diminishing returns assures that each additional measure will provide less af a boost than the last one much like your fourth cheeseburger in one sitting does not match the first in taste or satisfaction.
So why do these central banks insist on sticking to a policy so many regard as doomed to fail? Simple- the Federal Reserve and itʼs global peers have only one playbook for battling deflation and have made it clear they arenʼt open minded to consider anything else. Itʼs just not in their DNA. But thereʼs a far more ominous reason supplants that one to be the key driving force- these central banks are now “all in” on QE stimulus and ever lower rates as they keep doubling down and praying for a miraculous economic recovery that cannot and will not ever occur until most of the trillions of toxic global debt is allowed to default as it should have in the 2008-9 financial crisis. They seem to be willing to risk a ruinous economic depression and stock market crash to preserve a small glimmer of hope it may work. But they still remain as delusional as Hitler was in his final days in the bunker in Berlin as the city was destroyed.
The 2008-9 period was the proper time for all the necessary defaults and the needed restructuring that should have occurred but sadly did not. And soon it will all too clear that all those in the US Treasury and the FED should have read a primer on Kondratieff Wave theory as they could have meaningfully lessened the pain to come. Perhaps Brazil and Russia would not be on the verge of a Depression or even worse to be considered a failed state. These two countries, together with a few others, were riding so high until the critical turning point five years ago when silver topped at $50/oz and the Fukishima disaster ruined hopes for a resurgence in uranium.
Since those events five years ago combined with oilʼs dramatic plunge since late 2014 from $120 to the mid 30ʼs level the commodities sector has crashed almost 70% and the multi-billion defaults are making headlines each day. But sadly the Putinʼs misplaced confidence that oil would remain over $100/barrel lead him to believe they could maintain an economy solely dependent on the energy sector without any industry diversification. Russiaʼs dollar reserves now continue to plunge with oil mired in a protracted tailspin and US the lead sanctions damaging their fragile economy.
Brazil likewise squandered their fortunes by massively increasing the debt loads of so many mining projects completely oblivious to the notion of K-Wave theory and it shows now in their current disastrous state. Their arrogance and naivety in long wave cycles however was eclipsed by the upheaval in their handling of their largest national project of all- the state owned oil giant Petrobras which has become nothing short of a national nightmare that should result in the largest bankruptcy ever recorded.
If only someone in Brazil could have stood up and shown them the K-Wave charts and empirical evidence that proves that you donʼt make such large directional bets like they did on oil and mining against a backdrop of aggregate global debt that now exceeds some $300 trillion combined with this occurring at the tail end of the K-Wave credit cycle that is now almost seventy years old and long overdue for the past 8 years. Anyone who knows K-Wave theory could see the demise of Brazil would be prolific and sure to happen sooner than later.
A Petrobras BK could perhaps be the gravest economic ever to befall Brazil and itʼs scars will last more than a generation. I am very concerned now that both Russia and Brazil are soon to enter new and uncharted waters of pain and a Depression that will be awful for their people and will roil the global capital markets in a profound way. And letʼs remember too that Saudi Arabia is not far behind. Through these three large scale disasters we can see the seeds being sown for the end game of this very extended K-Wave cycle that is so long overdue. In the next few years the global Kondratieff Winter will give the capital markets and global economies a spanking they will never forget and that can be taken as a mathematical certainty. Servicing the interest and principal of most of the trillions in toxic debt outstanding will prove to be oh so futile.
In fact, the great unwind of the final stages of this economic winter has already begun with so many tens of billions lost in all the bankruptcies already seen in the energy sector and yet we are only in the second inning in that process with several hundreds of billions more to come in the near term. The WSJ has recently reported also that more than 43% of all student loans are either in default or behind on their payments. Given that student loans exceed $1 trillion we can be sure that many waves of defaults are likely soon to come- itʼs just an arithmetic certainty much like the energy and sovereign bond defaults soon to come. I expect the prevailing PE multiple of global stocks to plunge well into the single digits from the lofty levels now near twenty that assumes no fallout whatsoever to come from a world drowning in hundreds of trillions in toxic debt.
In my post last summer I began to emphasize the enduring and nasty currency wars occurring everywhere as a key component in comparing the current winter phase and the last one in the 1930s. Turns out there is more substance here than I could have ever imagined so letʼs examine this some more.
In my last few postings I have advanced the notion that the currency wars that have been advanced by the global central banks are a proxy of sorts of the trade wars of the 1930s. The tariffs of the last winter are being mimicked by the beggar thy neighbor currency wars since 2010 in that each reflect by outright and wholesale desperation by individual market participants to save their ass and to hell with the rest. However both scenarios inevitable leads to a much worse outcome for all because it destroys confidence and credibility which are much harder to regain.
To compound matters to be even worse is the ever stronger rhetoric by some of our Presidential candidates who are uninformed on long wave economics or even the most basic themes of modern economics. I believe they all need some remedial courses in modern economics so they donʼt keep putting their foot in their mouth. We all know that Donald Trump is a primary culprit here by picking a fight with the Chinese by accusing them of de-vauling their currency for so long.
Yet in fact only since last year have they even begin this in a very modest way and that pales in comparison with the policy of our Federal Reserve who has championed currency debasement from its inception in 1913 and has since 2009 has been the poster child for monetary arson by piling one QE after another and also lowering interest rates to near zero during the same period. So calling them out on currency debasement is the epitome of the pot calling the kettle black.
On the other side, Democrat challenger Senator Bernie Sanders has made income inequality the hallmark of his entire campaign. While I am despondent over the vast gap of wealth of our society, I also realize whoʼs to blame- not the President, not Congress but the Federal Reserve. Their policies for so long have been the equivalent of a reserve RobinHood- stealing from the poor and giving it to the rich on a very big scale. How can seniors with limited income survive if they canʼt make a dime of interest on their accumulated savings and yet face inflationary pressure that are oh so real and so absurdly understated by our government.
The conclusion to much of the material I have laid out so far leads to one major conclusion that is sad and foreboding- leaders of the major industrialized nations in the government, banking, corporate and other key sectors are clueless and incapable to understanding the root causes of our ultra dysfunctional economic system. Naturally they are all also unable to remedy such an enormous problem because they donʼt even understand it themselves. The natural result of such a condition is the occurrance of the inevitable- a global crash of stocks and bonds and a severe recession that soon morphs into a real economic Depression.
It may have possibly been avoided by some clever maneuvering in 2008 if QE had only been used temporarily to unlock the frozen credit markets, but no the Federal Reserve bit off way too much in their subsequent QE programs which lead to the current bubble in stocks and bonds which is now the biggest in world history. Global debt levels are at present several standard deviations above the threshold for stable markets and simply put the gig is up soon. Global stocks peaked over two years ago and law of diminishing returns is proving less bang for the for each new program. Global stocks and bonds, together with global economic output, now resemble the gambler who is blissfully unaware his markers are about to be called because he doubled down too many times. Letʼs see how long it takes before Mr. Market gets his markers called.