Payday Loans Payday Loans

Get Adobe Flash player

October 20, 2017

The $230 Trillion Dollar Question

Will high debt levels ever hurt stocks & bonds?

Saying that debt has expanded a lot since the 1970’s is a bit like saying the Hindenburg had a rough landing in Lakehurst, New Jersey. Zerohedge recently estimated that the aggregate levels of state, local, sovereign and corporate debt to exceed $230 trillion USD and to be growing exponentially under the arithmetic of compound interest. Just the interest alone on all this debt is expected to be over $14 trillion in 2017 alone and this is with interest rates at all time lows. In fact the amount of interest paid would be even higher if were not for the 19 European countries that now have negative interest rates.

So staggering are these debt levels that the mind cannot truly conceive of their relative levels. It is my belief that central banks and large countries like the US and Japan have benefited from this in that it is hard to fathom how much worse off we really are with an additional $10-15 trillion here and there so what the heck, let’s borrow so more. Only two things can cause this to occur- if inflation spikes higher suddenly or if the bond vigilantes force the hand of the central banks.

More Mind Boggling Stats

Here’s more from Zerohedge: More than 75% of the Nikkei ETF has been bought by the Bank of Japan, which is a blatant attempt at goosing the primary industrial market average in Japan. The Swiss National Bank this year has bought $84

billion in US stocks and their holdings were listed on their website. Current global stimulus is $300 billion USD per month and over $2 trillion from central banks alone so far in 2017.

Those who study the Kondratieff Wave cycle theory are not surprised that core inflation has remained muted since the 2008-2009 financial crisis because the end of long wave credit cycles are deflationary by nature, despite the tens of trillions in QE and ZIRP and negative rates enacted by global central bankers. I don’t expect that to reverse course suddenly.

Keeping interest rates low is another matter. It is likely that once interest rates hit a certain level, perhaps just over 3% on the ten year US bond, that selling will pick up far faster than anyone can dare imagine. Any why not? For those holding bonds with such historically puny yields there is far more downside and just not enough incentive to hold them.

If a spike higher in rates were to occur it would be a disaster for stocks. This is all due to one thing- leverage. But not your daddy’s leverage. Rather, today’s stock and bond markets are leveraged to a degree that is several standard deviations higher than at any time in history. This is due to a seemingly endless kick the can down the road approach by global central banks for such a long period of time. It is only when the history books are written and our children are learning in their economics courses the mentality that pervaded our practitioners of monetary and fiscal policy was both reckless and devoid of any understanding of long wave economics.

This brings us to the question posed in our title- if and when will the time of pain come for stocks and bonds? I proposed in July that were were close to a market top based upon the work done by David Knox Barker of whose model showed the S&P topping around 2486. I also said we could have a technical overthrow of a relatively small degree, say 2% or less, and still be within the confines of his model. As of today we are just over 1% higher than the Barker target so we expect a reversal soon. As everyone knows, there are untold potential sources for this reversal- nuclear brinksmanship with North Korea, central bank policy mistakes, growing unease with the Trump Administration, etc.

Or a sell off in global bonds or a bursting of China’s massive property bubble could also be a catalyst. In fact, in recent weeks several high profile people have sounded off by warning we are now in a band bubble, most notably Jamie Dimon and former Federal Reserve Chairman Alan Greenspan. I think they would both qualify as experts in this area.

Still More Mind Boggling Stats

Here’s more from ZeroHedge: More than 75% of the Nikkei ETF has been bought by the Bank of Japan, which is a blatant attempt at goosing the primary industrial average in Japan. Swiss National Bank bought $84 billion in US stocks and their holdings were listed on their website. Current global stimulus is $300 billion per month and over $2 trillion from central banks alone so far in 2017.

One area that could serve as a clear marker for a significant reversal is the wrangling of the debt limit extension. In mid-September, President Trump cut a deal with Congressional Democratic leadership to extend the debt limit to early December in yet another kicking the can down the road event.

This cut loose the shackles on the markets and since then the Dow Jones Industrial average has gone up almost 1000. Surely the weeks preceding the December deadline will be felt in the markets. The last time we entered this uncertain period preceding the debt limit extension was in October of 2013 when the markets tumbled over 10% until President Obama got the blank check he was seeking. Since government spending as a percentage of GDP is now at historical highs this extension served as a de facto source of fiscal QE to the tune of trillions.

On September 10th another dubious milestone of the Kondratieff Winter was reached when we hit $20 trillion in the current US budget deficit. Of course the real total deficit is much higher as it includes underfunded pensions and all the entitlement programs such as Social Security, Medicare, Medicaid etc. that must be paid. Hitting the $20 trillion level may not seem so awful except when you consider that only 15 years ago it was around $6 trillion.

So what is so alarming about the $20 trillion number is the trajectory the debt levels are currently on. At present entitlements and defense are the top two areas of spending with interest paid on the debt third. However in the coming years interest payments will grow exponentially and crowd out future spending in other areas and this is just purely deflationary. There’s just no escape from the horrific arithmetic.

Paying it Forward

There is also no escaping the staggering transfer of wealth between generations that has been going on for decades but has been accelerating since the financial crisis. The older generations have been blessed to no end since the early 1980s with monetary policy that has kept credit loose, interest rates very low, and since 2009 even bought stocks and bonds with fake money, i.e., QE.

Compounding this has been fiscal policy doing the same more or less with ever bigger deficits for nearly all sovereign, regional, state, and local governments everywhere. And thus the correlation between this debt expansion and stock and bond performance and valuations is so painfully obvious is hardly worth declaring. Since the early 1980s what has occurred has been the reverse of the idea advanced in the 1990s movie “Pay it Forward.”

Instead of leaving the next generation better off we have left them devastated just so we could keep the stock and bond markets churning higher for almost forty years. The hundreds of trillions owed will be paid back in depreciated currency that will usher in an era of inflation that will be the highest in our history. Unlike the end of the last K-Winter coming from the debts accrued from World War II, the Kondratieff Spring that follows will likely be marked by a landscape of negative growth, global conflicts and volatility that are the hallmarks of elevated inflation.

Yet few seem to realize it now. There is one thing still not yet declared that should be — justice for all those on this earth under the age of 50 years old. For these people will bear most of the burdens when the trillions of debt accruing during come due in the coming years.

They will be the ones paying high taxes at a time when the fastest growing component will be interest payments which of course provide nothing tangible in return.

They will be the ones burdened with historic rates of defaults of bonds of all kinds and they will be burdened with negative returns on stocks.

My question is this: When will this generation wake up to evils done to them by those in power today and demand changes to be made that are so draconian that an upheaval is the likely outcome?

One thing is certain — there will be a point one day when $230 trillion in debt does matter. By then, will you have cashed out your 401K?

Leave a Reply