Debt Trifecta at All-Time Highs – Billionaires Panic
The
“trifecta” of national, corporate, and consumer debt has reached all-time
highs, and could prove to be catastrophic if a recession hits.
Let’s start
by quickly bringing each part of this debt trifecta up to date as much as
possible…
U.S.
National Debt
In just the
short decade since 2008, the debt has
jumped from $10.6 trillion to $22 trillion. It also comes with a deficit that’s
currently over $1 trillion currently. The interest payments alone may be
forming a “black
hole” from which the U.S. may never escape.
These facts
alone should raise concern in any interested observer.
Corporate
Debt
The total
amount of corporate debt has never stopped rising since 1950. Corporations have
taken on a record level of debt since 2007.
One of the
main problems with this type of debt, aside from getting repaid, is that some
corporations are using it to buy back
shares of stock. Instead of this “sleight of hand,” you’d think that they should
be using it to fund growth and create jobs.
But one
thing is certain, the piper will need to be paid at some point. When that
happens, who knows what can happen to the economy.
Consumer
Debt
Total
consumer debt is near $4 trillion, and has been rising steadily since 1975. But
it has risen a
staggering 47%since 2008, and shows no signs of stopping.
When
interest rates rise, as they have been thanks to the Fed’s
recent spat of rate hikes, they will eventually get high enough that
consumers won’t be able to get loans, or repay them.
Economic
growth requires that consumers buy things and obtain credit. If they can’t do
either, the consequences could be dire.
Now, this
debt-fueled trifecta has caused panic among some billionaires.
Billionaires
Sound Big Warning Alarm
Mainstream
media almost never hype a financial crisis, so it’s significant when they do.
But when billionaires are sounding the alarm, you might want to pay close
attention.
At least
two billionaires are doing just that, starting with Baupost Group’s Seth Klarman. Baupost
Group is a $28 billion hedge fund, and Klarman normally positions himself out
of the limelight. His fund is only open to private investors, so he has little
incentive to promote his brand to the public.
But
recently, he felt the need to write a warning to investors about the global
debt, with specific reference to the U.S., according to Sovereign Man:
In a 22-page letter to his
investors, Klarman warned that government debt levels, particularly in the US
(where debt exceeds GDP), could lead to the next global financial crisis.
“The seeds of the next major
financial crisis (or the one after that) may well be found in today’s sovereign
debt levels,” he wrote.
In the same
letter, Klarman continued…
“There is no way to know how
much debt is too much, but America will inevitably reach an inflection point
whereupon a suddenly more skeptical debt market will refuse to continue to lend
to us at rates we can afford…”
Since
the U.S. spends almost a third of its revenue on interest
payments alone, it doesn’t seem like it can afford to pay much more.
And Klarman
isn’t the only billionaire expressing unease. At the World Economic Forum in
Davos, Switzerland, Ray
Dalio, founder of the world’s largest hedge fund, said that
debt would be to blame for the next downturn, which he believes will be bigger
than the Great Depression.
“The
biggest issue is that there is only so much one can squeeze out of a debt cycle
and most countries are approaching those limits”.
You might
think the U.S. government would do everything to curb this problem. But
according to the Congressional Budget Office, the debt is projected to skyrocket to $33 trillion by 2029
(emphasis ours):
Uncle Sam’s total debt is
rapidly approaching $22 trillion, and according to the Congressional Budget
Offices latest ten-year projection, it will be more than $33 trillion by
2029, with $1
trillion annual deficits set to begin again and stay above
that for as far as the fiscal eye can see.
Skyrocketing
debt, check. Deficit to match, check. Or will it be checkmate?
Time to
Prepare Your “Exit Plan”
The
debt-fueled “growth” the U.S. has seen in recent years seems to be facing its
biggest test.
That’s
precisely why now is an ideal time to consider fortifying your savings. The
U.S. has a long enough history to show that market optimism is pushed until
it’s too late. If you want to hedge against that, don’t wait to start
preparing your exit plan.
Don’t Rule Out a Stock
Market Crash in 2019 Yet; Just Look at the Earnings
Earnings Point to a Possible
Stock Market Crash in 2019
Don’t rule out a stock market crash in 2019 just yet. What we
saw in December 2018 could just be the preview for what’s ahead.
Since the beginning of 2019, we have seen some buyers come in,
making for a lot of the “buy the dip” mentality coming in. What’s more,
mainstream stock pickers are saying “buy everything” once again.
It
can’t be stressed enough: don’t get too complacent.
Let’s
begin by asking one question: Why do we get a stock market crash or a bull
market?
Earnings
are hands down one of the most critical factors in markets moving higher or
lower. If earnings are bad and expected to get worse, a stock market crash
follows. In contrast, if earnings are good and expected to get better, you get
a rally.
As it
stands, earnings are starting to look weak. We are still in the midst of
earnings season for the fourth quarter of 2018, and it looks like things are
turning for the worst.
As of
January 25, just 22% of S&P 500 companies have reported earnings for the
fourth quarter of 2018. So far, earnings growth rate is around 10.9%. At the
end of 2018, analysts and strategists forecasted a growth rate of 22.2%.
Here’s the thing: we are hearing a lot more negative earnings
guidance as well. So far, for the first quarter of 2019, 15 companies have
issued negative guidance, while only one company has issued positive guidance.
That’s scary.
So, what are analysts predicting?
Well, for the first quarter of 2019, analysts expect S&P 500
companies to report earnings growth of 0.7%. For the second quarter, the
earnings growth is expected to be 2.4%. The growth rate is 3.1% for
the third quarter and 11.1% in the fourth quarter.
For the entire year of 2019, analysts are expecting an earnings
growth rate of 6.3%
Assuming an earnings growth rate of 10.9% in the fourth quarter
of 2018, in every quarter of last year, S&P 500 earnings grew by double
digits. What’s more, the estimates we see for 2019 may be too optimistic and
way too early, meaning they could get revised lower.
Don’t Ignore the Global Economy
There are risks that could hurt earnings.
One of the biggest is the global economy. It’s becoming very
evident that global economic health is deteriorating. Even the Federal Reserve
is starting to believe this could be the case.
Keep in mind that S&P 500 companies generate a lot of
revenue from outside of the U.S. In 2017, 43.6% of the revenue of S&P 500
companies was obtained internationally. (Source: “S&P 500 Global Sales,” S&P Dow Jones
Indices, last accessed January 31, 2019.)
Should the global economy slow, $0.43 of every $1.00 of sales at
S&P 500 companies could be impacted, which could hurt their earnings too.
Given how earnings are looking and where they could go, I can’t
be too bullish on the stock market. We may see indices move a little higher in
the short term, but the long-term outlook looks dismal at the very best.
I will end with what I said earlier: don’t get too complacent.
More selling could be ahead in 2019.
This $207.0-Trillion
Market Could Trigger the Next Financial Crisis
Derivatives Markets Could Cause a
Financial Crisis
A financial crisis could be looming and investors could be in a
world of hurt in the coming years.
You see, a call for a financial crisis may sound like an
out-of-this-world idea at the moment, and there isn’t anyone talking about it.
But there’s one place that says it could be possible and not many are paying
attention to it.
Look at
the derivatives market. Warren Buffett calls derivatives financial weapons of
mass destruction. But over the past few years, we have seen banks get more
active in this market.
Remember,
it was derivatives that caused the previous financial crisis. This time around,
they could do the same.
Consider
that at the end of the third quarter of 2018, the top 25 banks in the U.S. had
derivatives that had a notional value of close to $207.0 trillion. Please
note that is not a misprint.
The U.S. gross domestic product is roughly around $19.0
trillion. So, the notional derivative amount is roughly 11 times bigger than
the size of the U.S. economy.
One could ask, “Aren’t the derivatives used to hedge portfolios
and business transactions?”
Yes, surely, derivatives could be used as a hedging tool.
But know that derivatives are essentially a contract between two
parties. The funny thing is, both parties think they are correct until the time
of maturity of the contract comes.
So What’s Really the Issue?
Of the $207.0 trillion worth of derivatives, nearly 76% are
based on interest rates.
If you even remotely follow the financial world, you would know
that the Federal Reserve is raising interest rates. As this is happening, we
are seeing yields on bonds and other interest rates sensitive instrument moving
higher as well.
This is where the problem comes in…
If we assume just a small portion of these derivates go “bad,”
given the uncertainty around interest rates, what will happen?
Dear reader, I believe derivatives are worth watching closely.
I know $207.0 trillion is just the notional value and their
actual value is completely different. However, derivatives are very
complicated. Remember the famous “Whale trade” by a trader at JPMorgan Chase & Co. (NYSE:JPM)?
It was a derivative trade where a trader lost a massive amount of money for the
bank. And that was just one trade going bad.
If just 10% of these derivatives go bad, that’s $20.7 trillion
on the line. I think that amount would be more than enough to do a lot of
damage. We could see a bunch of bank failures and have a financial crisis
at hand.
Know that the top 25 banks in the U.S. don’t even remotely have
enough assets to cover for all the derivatives out there. At the end of
the third quarter of 2018, their assets amounted to just $11.04 trillion.
So for every $1.00 of assets, they have derivatives of over $18.00.
I will end with this; in case there’s a financial crisis, it
could be much more severe than the last one. I reiterate, be very careful.
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