Hanging in the Balance

Stocks and bonds sink as $90 trillion worth of debt weighs on the markets

(Source: Getty Images)

Joel Bowman, checking in today from Buenos Aires, Argentina...

A pregnant woman goes to see her doctor. It’s been a few months since her last visit. The doc compares her charts and, alarmed, turns to face his patient.

“My dear,” he begins, visibly concerned. “If you keep growing at the rate you’re growing... in five years you’ll be the size of a house!”

We’ll come back to the inherent problem with infinite growth in a second, but first...

It was another rough spell in the markets. Stocks ended lower for their third straight week as the Fed’s impending rate hikes weigh heavily on investors’ shoulders. The Dow Jones Industrial Average fell by 2.5%, the S&P 500 dropped 2.7% and the Nasdaq closed out the week 3.6% in the red. The three major indices are down 14.4%, 18.2% and 26.5%, respectively, for the year. 

Ordinarily, investors would look to the bond market to help salve some of their equity market wounds. A traditional, “balanced” portfolio – that is, 60% stocks and 40% bonds – is designed to smooth out some of the inevitable market volatility through non-correlated asset allocation. (That is, when stocks sink, bonds are supposed to provide some measure of safety.) 

And for a long, long time, that’s been the case. Between 1926 and 2021, according to data from Vanguard, the annualized return of a 60% U.S. stock and 40% U.S. bond portfolio was 8.8%. By reinvesting dividends and allowing the magic of compounding to do its work, “balanced” investors have enjoyed what may fairly be termed a “Century of Plenty.”

Mt. Debtmore

Alas, as the bear market bounce in equities fades into memory, bonds too are lagging. Bloomberg has the numbers...

The Bloomberg Global Aggregate Total Return Index of government and investment-grade corporate bonds has fallen more than 20% below its 2021 peak, the biggest drawdown since its 1990 inception…

Meanwhile, gold is down 6.5% year to date... real estate is teetering... cryptos, tech fliers and meme stocks are piled sky high at the dump. What’s an investor to do?

Let’s take a step back... and take a look at whence we’ve come. As Bill Bonner reminded readers this week...

Since the 1990s, the markets – and the economy – have been under the spell of the Fed’s voodoo economics. It inflated everything – with its ultra-low interest rates for ultra-long periods. Now, with consumer prices rising uncomfortably, the Fed is forced to position itself as a steadfast, almost heroic, inflation fighter.  

Behind much of that “growth” stands a mountain of debt... one that has to be reckoned with, sooner or later. Like the subject of our little “dad joke” above (or was that a “mom joke”?), debt cannot continue to grow and grow, ad infinitum. Come birth or come death, something’s gotta give.

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Just how much debt are we talking about here? Dan Denning provided some context to the number Bill often cites in his note to members yesterday. It’s a doozy. Here’s Dan, chart in hand…

New readers to Bill Bonner’s daily essay often ask where the $90 trillion figure for total debt he quotes comes from. It used to be $88 trillion, by the way. But what’s a few trillion here or there these days? The number comes from the US Federal Reserve. Take a look…

Source: US Federal Reserve

It’s a combination of state, local, and Federal government debt, along with corporate and household debt. The chart above is a linear chart and not a logarithmic one. The logarithmic chart would smooth out the rise over time. The linear one tends to exaggerate the slope of the line. It makes the growth in American debt look unsustainable.

That’s because it IS unsustainable. The Treasury Department puts out a report every year called The Financial Report of the US government. In last year’s report, there’s an entire section called ‘An Unsustainable Fiscal Path.’ And there is this gem hidden in the high-lighted items: ‘The debt-to-GDP ratio was about 100 percent at the end of FY 2021. Under current policy and based on this report’s assumptions, it is projected to reach 701 percent by 2096. The projected continuous rise of the debt-to-GDP ratio indicates that current policy is unsustainable.’

In The Dollar Report, I wrote about what levels of debt-to-GDP or deficit-to-GDP precede a crisis. Once total government debt is over 130% GDP, and once annual deficits are 15-20% of GDP, two kinds of crisis can happen. The first is a sovereign debt crisis, where interest rates spike and bond prices crater. Or, if the government intervenes in the bond market (as the Fed has been doing since 2008), you get a currency crisis.

This is what we’re preparing for. Fortunately, we don’t have either yet in America, although you could argue that inflation is a slow-motion currency crisis. After all, a strong dollar doesn’t make much difference to Americans who are not vacationing in Europe this summer. Other than rising food prices, rising energy prices, rising rents, and the relentless rise of college tuition and health insurance, there’s no dollar crisis at all.

I mention all of this because there’s no easy public policy fix to $32 trillion in debt. Both parties in Washington are committed to the status quo and the perpetual expansion of the Welfare State and the Warfare State. Voters keep sending the same clowns back to the DC circus. Your only defense against that is to try and keep or accumulate as much wealth and financial independence as possible before the inevitable crisis.

Given this rather uninspiring macro backdrop, it’s Tom Dyson’s job, as Bonner Private Research’s Investment Director, to keep us in Maximum Safety Mode... that is, until he sees opportunities to put our cash to better use. Dan and Tom will be updating The Strategy Report later this month, in which they’ll revisit their allocations to the various asset classes you can use to protect yourself from the “inevitable crisis” (cash, gold, stocks, bonds, and real estate). 

If you’re not already a member, but would like access to their twice weekly market updates and growing archive of in-depth research reports, including The Strategy Report, The Gold Report, The Dollar Report and more, you can join us today right here...

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And now for Bill Bonner’s missives from the past week...

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And that will do us for today. Please join us tomorrow for your regular Sunday Session. This week we bring you our latest Fatal Conceits Podcast conversation with Mr. Christopher Mayer. As long time readers will know, Chris is the Portfolio Manager of the Woodlock House Family Capital Fund, a project he co-founded with Bill Bonner back in 2018.

Over the course of an unhurried 45 minutes or so, Chris offered us his insights on everything from his own portfolio to the reveries of Rousseau, deals from hell in the mergers and acquisitions space and thoughts from his new collection of essays, Dear Fellow Time-Binder: Letters on General Semantics.

We’ll have all that and more in tomorrow’s Session.

Until then...

Cheers,

Joel Bowman