Tag Archives: credit

Gone Fishing Newsletter: The Inflation Edition

We are thrilled to present a recent article from Samantha LaDuc, the Founder of LaDucTrading.com and the CIO at LaDuc Capital LLC. 

Samantha LaDuc is known for timing major inflection points in equities, commodities, bonds/rates, currencies and volatility. As a Macro-to-Micro strategic technical analyst, educator and trader, she makes her insights available to active traders and investors who want to minimize risk while seizing year-making opportunities.  


Spoiler Alert: We have no inflation in commodities.

Healthcare, Education, Concert Tickets … absolutely.

Image

But what about the stuff we consume and use every day?

CRB Commodities is made up of the following weighting:

  • Softs (Coffee, Sugar, Orange Juice) 23.5%
  • Energy 17.6%
  • Grains 17.6%
  • Precious Metals 17.6%
  • Industrials (Copper & Cotton) 11.8%
  • Meats 11.8%

Commodities – Big Picture on a Monthly Time-frame – show that we are still in a multi-decade low.

“Yields have been falling, reflecting concerns about global growth, and also the dramatic change of direction by central banks, which was itself largely driven by fears for growth. The 10-year Treasury yield is now almost a full percentage point lower than it was two years ago, and its trend is clearly downward. Indeed, if we take inflation expectations into account, the real 10-year Treasury yield has just gone negative.

According to the Bloomberg commodity indexes, industrial metals have now under-performed precious metals over the period since Donald Trump was elected U.S. president; and the price of oil is collapsing anew relative to gold. These moves only make sense if people are worried about growth.” – John Authers, Bloomberg

Sounds dreary, and John’s commentary was before the CoronaVirus outbreak really grabbed American businesses’ attention.

Despite my bearish leanings as detailed here: Perfect Storm: CoronaVirus and Market Risks, from my vantage point, we ‘should’ bounce soon (yellow circle). If not, we have more serious deflation to deal with – not just disinflation in the commodity patch.

Now let’s drop the USD softly behind the same chart and add some annotations. We have potential for a bounce, but also a lot of resistance and indecision. No clean signal yet. Still chop. And a DXY that has been range-bound for 4 years! Clearly, the US Dollar makes the weather for commodities and Foreign Exchange volatility as at an All Time Low. You know my saying: Outliers Revert With Velocity. Watch the USD for The Tell.

I should also add to this Intermarket analysis with the Macro read: it’s bearish inflation.

 @ISABELNET_SA Chart is suggesting that M2 velocity YoY leads US core inflation by 21 months. It has been quite accurate for more than 20 years. And it portends lower.

Image

Commodities are Dead, Long Live Commodities?

So why fight the trend? Humor me for ‘the other side” of the argument. Let’s assume inflation catches a bounce, pulling up commodities and yields with it, what segments are most likely to rise?

Food – Softs, Grains, Meats: China is experiencing strong Food price inflation from drought conditions (Rice), culling of all that Pork (and soon Chicken?). But in the US, these input prices are declerating (Coffee, Corn, Hogs, etc). With the new Coronavirus shutting off the flow of goods into and out of China for the time-being – and I suspect until April/May – we could start to see a tick up in Food Prices. Worst case, as the pandemic spreads, people with be unwilling/unable to go to work which could also trigger supply chain constraints. Prices could accelerate quickly on supply contraction.

Energy: What’s the bull case for Energy? Oversold, “value” play with high trailing dividend yields? They are high for a reason and still major laggard of all SPY sectors for several years now. Oil investment is waning not expanding (given Trump’s energy policies). So aside from a geopolitical ‘flare’ to temporarily disrupt supply, like with Iran, the case for sustainable higher oil is weak. And if/when Venezuela comes back online, it would be a big hit to the bull case (more supply). In the meantime, we have demand destruction out of China as a result of the CoronaVirus and general trends in decreasing demand due to:

1) Deglobalization
2) Decarbonization
3) Debt saturation
4) Donald Trump

Industrials: Copper is the big one, and it is at 2016 levels, so not expressing an economic growth look. Translation: The Trump Bump (2017) has been Dumped.

Precious Metals: Here are two charts that sum up my frustration on the perception versus reality of bidding up precious metals.

(Separate from the whole Palladium and Platinum play, which I have written about since early November as a bullish thesis.)

Treasury yields are negative after adjusting for inflation so that is supposed to be a plus for gold….

But, Gold/Silver Mining stocks are looking weary and potentially rolling over.

OK, I may have talked you out of a Commodity bump, but stick with me.

Commodities, The New Bonds?

Just over a year ago, the Fed finished systematically hiking rates (after 8 of them) as ECB quit QE. Today, Fed has lowered rates 3 times in 2019 and market is pricing in 2 more cuts for 2020! Fed clearly seems to unwind their 2017 tightening to avoid what happened in Fall of 2018 where U.S. stocks collapsed nearly 20% from Oct 3 to Dec 31st. Basically, the Fed realized it had spent three years tightening into a low inflation, low growth U.S. economy, and the global economy was too fragile to handle the liquidity and tightening drain.

But rate cuts at this point have reached the law of diminishing returns and Repo operations to inject capital in the money markets seems inadequate to jump-start growth. Fiscal policies in combination may be the fuel that flame inflation, in which case, commodities could recover and rally, but there are some heady headwinds:

Headwinds:

  1. Demand destruction from slowing global growth from Coronavirus in particular, economic cycle and ‘protectionist’ trends in general.
  2. Lower yields pull commodities with it, (and vice versa), but right now Fed has their proverbial thumb on any increases.
  3. Global central banks have suppressed volatility by anchoring expectations with “lower for longer”, thereby enhancing the effect of rate cuts which suppresses commodities.
  4. A more dovish Fed also reduces the US-Foreign bond yield spread which strengthens the dollar, thereby suppressing local currency valuation while burdening thier USD funding obligations.
  5. A stronger dollar is tailwind to commodity run (inversely related since commodities are priced in USD).

Tailwinds:

  1. Local and Coordinated Global Fiscal Policies trigger global economic optimism; Debt and Deficit hawks be damned.
  2. Containment of CoronaVirus psychologically and financially allow for economic expansion. Both will drive yields higher.

Until these factors reveal themselves, yields are falling and at risk of breaking critical support.

Top 10 Reasons for Bond Reversal:

From Buy Bonds, Wear Zirconia:

  1. Yields are approaching my buy point just above All Time Lows.
  2. Bonds/Yields are on their respective Bollinger Bands/Keltner Channel bands (yellow circle on weekly chart) which often acts as resistance causing a rubberband.snap-back effect.
  3. Seasonal tendency to Sell Bonds starts Jan 31st.
  4. Nomura’s Charlie McElligott  “1m Price Reversal” trade has run its course (1.94 drop to 1.64 in 10 yr yield since Dec 18th)
  5. Duration infatuation” (the safety-trade) often kicks in at the first sign of trouble, but then unwinds.
  6. The “normal” viral drag on US10Yr has the following tendency – yields fall then bounce back sharply.
  7. Fed won’t want the yield curve inversion which already erased half of the Q4 steepening.
  8. UPDATED PRE FOMC: Fed may need to guide inflation above target … which in turn supports a steeper curve, SO there is strong potential for final 2020 rate cut to CAUSE inflation expectations to rise.
  9. And the best reason potentially of all: Stocks are now Yielding More Than Bonds Again

“In the early summer of last year, the 10-Year Treasury Note was bid up considerably, resulting in it yielding less than the S&P 500’s dividend yield. In fact, at the point of the largest divergence between the two in late August, the dividend yield of the S&P 500 was 56.9 bps higher than the yield on the 10-Year Treasury. Although the disparity between the two has shrunk from that August peak, that trend has generally continued in the months since then, though equities’ surge into the end of the year saw bonds briefly yielding more in December. Since the start of the new year, stocks once again hold a higher yield, especially today as worries about the coronavirus have resulted in the selling of risk assets (raising the S&P 500’s yield) and subsequent buying of safe-havens (lowering the 10-Year Treasury yield). Now, the spread between the S&P 500’s dividend yield and that of the 10-Year is at its widest level in favor of the S&P 500 since October 10th.” –  DATATREK

I am nothing if not persistent.

Here is my client post from January 24th on this related subject: All Alone With My Higher Yield Thesis:

High Yield corporate debt is in trouble with Oil dropping 20% since Jan 7th and Shale companies facing their biggest loan refinancing wall in 20 years. When HY credit passes 358 bp then Momentum will very likely sell off – like happened in early September 2019 – and Value will finally catch a sustainable bid! And when Hedge Funds cover their Value shorts,  they sell Bonds! And when bonds get sold, with momentum selling off too, rates rip and we have a perfect storm set up for a massive VIX spike and gamma flipping.”

That is still my baseline projection. Market just doesn’t see it yet.


LaDuc Trading/LaDuc Capital LLC Is Not a Financial Advisor, RIA or Broker/Dealer.  Trading Stocks, Options, Futures and Forex includes significant financial risk. We teach and inform. You enter trades at your own risk. Learn more.

Gone Fishing Newsletter: The Inflation Edition

We are thrilled to present a recent article from Samantha LaDuc, the Founder of LaDucTrading.com and the CIO at LaDuc Capital LLC. 

Samantha LaDuc is known for timing major inflection points in equities, commodities, bonds/rates, currencies and volatility. As a Macro-to-Micro strategic technical analyst, educator and trader, she makes her insights available to active traders and investors who want to minimize risk while seizing year-making opportunities.  


Spoiler Alert: We have no inflation in commodities.

Healthcare, Education, Concert Tickets … absolutely.

Image

But what about the stuff we consume and use every day?

CRB Commodities is made up of the following weighting:

  • Softs (Coffee, Sugar, Orange Juice) 23.5%
  • Energy 17.6%
  • Grains 17.6%
  • Precious Metals 17.6%
  • Industrials (Copper & Cotton) 11.8%
  • Meats 11.8%

Commodities – Big Picture on a Monthly Time-frame – show that we are still in a multi-decade low.

“Yields have been falling, reflecting concerns about global growth, and also the dramatic change of direction by central banks, which was itself largely driven by fears for growth. The 10-year Treasury yield is now almost a full percentage point lower than it was two years ago, and its trend is clearly downward. Indeed, if we take inflation expectations into account, the real 10-year Treasury yield has just gone negative.

According to the Bloomberg commodity indexes, industrial metals have now under-performed precious metals over the period since Donald Trump was elected U.S. president; and the price of oil is collapsing anew relative to gold. These moves only make sense if people are worried about growth.” – John Authers, Bloomberg

Sounds dreary, and John’s commentary was before the CoronaVirus outbreak really grabbed American businesses’ attention.

Despite my bearish leanings as detailed here: Perfect Storm: CoronaVirus and Market Risks, from my vantage point, we ‘should’ bounce soon (yellow circle). If not, we have more serious deflation to deal with – not just disinflation in the commodity patch.

Now let’s drop the USD softly behind the same chart and add some annotations. We have potential for a bounce, but also a lot of resistance and indecision. No clean signal yet. Still chop. And a DXY that has been range-bound for 4 years! Clearly, the US Dollar makes the weather for commodities and Foreign Exchange volatility as at an All Time Low. You know my saying: Outliers Revert With Velocity. Watch the USD for The Tell.

I should also add to this Intermarket analysis with the Macro read: it’s bearish inflation.

 @ISABELNET_SA Chart is suggesting that M2 velocity YoY leads US core inflation by 21 months. It has been quite accurate for more than 20 years. And it portends lower.

Image

Commodities are Dead, Long Live Commodities?

So why fight the trend? Humor me for ‘the other side” of the argument. Let’s assume inflation catches a bounce, pulling up commodities and yields with it, what segments are most likely to rise?

Food – Softs, Grains, Meats: China is experiencing strong Food price inflation from drought conditions (Rice), culling of all that Pork (and soon Chicken?). But in the US, these input prices are declerating (Coffee, Corn, Hogs, etc). With the new Coronavirus shutting off the flow of goods into and out of China for the time-being – and I suspect until April/May – we could start to see a tick up in Food Prices. Worst case, as the pandemic spreads, people with be unwilling/unable to go to work which could also trigger supply chain constraints. Prices could accelerate quickly on supply contraction.

Energy: What’s the bull case for Energy? Oversold, “value” play with high trailing dividend yields? They are high for a reason and still major laggard of all SPY sectors for several years now. Oil investment is waning not expanding (given Trump’s energy policies). So aside from a geopolitical ‘flare’ to temporarily disrupt supply, like with Iran, the case for sustainable higher oil is weak. And if/when Venezuela comes back online, it would be a big hit to the bull case (more supply). In the meantime, we have demand destruction out of China as a result of the CoronaVirus and general trends in decreasing demand due to:

1) Deglobalization
2) Decarbonization
3) Debt saturation
4) Donald Trump

Industrials: Copper is the big one, and it is at 2016 levels, so not expressing an economic growth look. Translation: The Trump Bump (2017) has been Dumped.

Precious Metals: Here are two charts that sum up my frustration on the perception versus reality of bidding up precious metals.

(Separate from the whole Palladium and Platinum play, which I have written about since early November as a bullish thesis.)

Treasury yields are negative after adjusting for inflation so that is supposed to be a plus for gold….

But, Gold/Silver Mining stocks are looking weary and potentially rolling over.

OK, I may have talked you out of a Commodity bump, but stick with me.

Commodities, The New Bonds?

Just over a year ago, the Fed finished systematically hiking rates (after 8 of them) as ECB quit QE. Today, Fed has lowered rates 3 times in 2019 and market is pricing in 2 more cuts for 2020! Fed clearly seems to unwind their 2017 tightening to avoid what happened in Fall of 2018 where U.S. stocks collapsed nearly 20% from Oct 3 to Dec 31st. Basically, the Fed realized it had spent three years tightening into a low inflation, low growth U.S. economy, and the global economy was too fragile to handle the liquidity and tightening drain.

But rate cuts at this point have reached the law of diminishing returns and Repo operations to inject capital in the money markets seems inadequate to jump-start growth. Fiscal policies in combination may be the fuel that flame inflation, in which case, commodities could recover and rally, but there are some heady headwinds:

Headwinds:

  1. Demand destruction from slowing global growth from Coronavirus in particular, economic cycle and ‘protectionist’ trends in general.
  2. Lower yields pull commodities with it, (and vice versa), but right now Fed has their proverbial thumb on any increases.
  3. Global central banks have suppressed volatility by anchoring expectations with “lower for longer”, thereby enhancing the effect of rate cuts which suppresses commodities.
  4. A more dovish Fed also reduces the US-Foreign bond yield spread which strengthens the dollar, thereby suppressing local currency valuation while burdening thier USD funding obligations.
  5. A stronger dollar is tailwind to commodity run (inversely related since commodities are priced in USD).

Tailwinds:

  1. Local and Coordinated Global Fiscal Policies trigger global economic optimism; Debt and Deficit hawks be damned.
  2. Containment of CoronaVirus psychologically and financially allow for economic expansion. Both will drive yields higher.

Until these factors reveal themselves, yields are falling and at risk of breaking critical support.

Top 10 Reasons for Bond Reversal:

From Buy Bonds, Wear Zirconia:

  1. Yields are approaching my buy point just above All Time Lows.
  2. Bonds/Yields are on their respective Bollinger Bands/Keltner Channel bands (yellow circle on weekly chart) which often acts as resistance causing a rubberband.snap-back effect.
  3. Seasonal tendency to Sell Bonds starts Jan 31st.
  4. Nomura’s Charlie McElligott  “1m Price Reversal” trade has run its course (1.94 drop to 1.64 in 10 yr yield since Dec 18th)
  5. Duration infatuation” (the safety-trade) often kicks in at the first sign of trouble, but then unwinds.
  6. The “normal” viral drag on US10Yr has the following tendency – yields fall then bounce back sharply.
  7. Fed won’t want the yield curve inversion which already erased half of the Q4 steepening.
  8. UPDATED PRE FOMC: Fed may need to guide inflation above target … which in turn supports a steeper curve, SO there is strong potential for final 2020 rate cut to CAUSE inflation expectations to rise.
  9. And the best reason potentially of all: Stocks are now Yielding More Than Bonds Again

“In the early summer of last year, the 10-Year Treasury Note was bid up considerably, resulting in it yielding less than the S&P 500’s dividend yield. In fact, at the point of the largest divergence between the two in late August, the dividend yield of the S&P 500 was 56.9 bps higher than the yield on the 10-Year Treasury. Although the disparity between the two has shrunk from that August peak, that trend has generally continued in the months since then, though equities’ surge into the end of the year saw bonds briefly yielding more in December. Since the start of the new year, stocks once again hold a higher yield, especially today as worries about the coronavirus have resulted in the selling of risk assets (raising the S&P 500’s yield) and subsequent buying of safe-havens (lowering the 10-Year Treasury yield). Now, the spread between the S&P 500’s dividend yield and that of the 10-Year is at its widest level in favor of the S&P 500 since October 10th.” –  DATATREK

I am nothing if not persistent.

Here is my client post from January 24th on this related subject: All Alone With My Higher Yield Thesis:

High Yield corporate debt is in trouble with Oil dropping 20% since Jan 7th and Shale companies facing their biggest loan refinancing wall in 20 years. When HY credit passes 358 bp then Momentum will very likely sell off – like happened in early September 2019 – and Value will finally catch a sustainable bid! And when Hedge Funds cover their Value shorts,  they sell Bonds! And when bonds get sold, with momentum selling off too, rates rip and we have a perfect storm set up for a massive VIX spike and gamma flipping.”

That is still my baseline projection. Market just doesn’t see it yet.


LaDuc Trading/LaDuc Capital LLC Is Not a Financial Advisor, RIA or Broker/Dealer.  Trading Stocks, Options, Futures and Forex includes significant financial risk. We teach and inform. You enter trades at your own risk. Learn more.

Bonds Are Stocks Without A Circuit Breaker

We are thrilled to introduce Samantha LaDuc, the Founder of LaDucTrading.com and the CIO at LaDuc Capital LLC. 

Samantha LaDuc is known for timing major inflection points in equities, commodities, bonds/rates, currencies and volatility. As a Macro-to-Micro strategic technical analyst, educator and trader, she makes her insights available to active traders and investors who want to minimize risk while seizing year-making opportunities.  


Don’t Overthink The Market. It’s Not That Smart.

That is what those with Consensus Opinions have done if they have stayed bullish. After all, there is evidence to support their claims:

  • Earnings on the S&P 500 almost tripled between 2009 and 2018 ($56.86 to $143.34) and the dividend grew by 144% ($21.97 to $53.61). The actual index price has more than quadrupled (4.6X) from $666 to $3060!
  • The S&P 500 index (excluding dividends) has compounded at over a 16% annual rate in that time, although the return from 2000 has only compounded 4.5% (and that is including dividends).

But there are those who feel strongly that ignorance is not bliss. We think and overthink the markets against the weight of evidence that is somewhere between Risk-Aware and Risk-Averse. It’s not a fair comparison, but I will use it anyway: Even Bernie Madoff had fabulous returns until he didn’t. In the same way, investors who are full of fear that the next correction will be “The Big One’ feel in large part this way because, like Madoff, there is no real price discovery. There is no way in fact to price risk!

As such, volumes have been historically low which means it is quite easy to move markets in either direction, especially if you are an Algo. The direction, just happens to be up. Nice for bulls that the designers of these algorithms programmed it this way! And that beats the alternative. Bears are not wishing for the markets’ demise. They are just having a hard time to trust these markets as corporate profits are declining, economic data is declining (labor market data are trailing indicators.), debt and deficits are exploding and inversion of yield curve shows big concerns from big investors.

Be Careful What You Ask For Bulls

A higher stock market could actually be its undoing. Money has flown out of equities and into bonds ever since the global financial crisis of 2008/2009, but especially since 2018 when Trump started the Trade War with China. This year has seen this trend continue:

Year-to Date (through October) Capital Flows per Bloomberg, EPFR Global

  • Cash: +$475B
  • Corporate Debt: +$320B
  • Government Bonds: +$60B
  • Global Equities: -$225B

But just as bonds have been bubbly, equities have risen in large part due to stock buybacks, fueled by cheap money made available from Fed monetary policy:

Ned Davis Research: S&P 500 would be 19% lower between 2011 and the first quarter of 2019 without buybacks. The broad market is up more than 125% in that time while net buybacks have totaled about $3.5 trillion.

So equities have risen strongly from a “generational low” in 2009 when Fed introduced QE. Combine higher earnings with consolidation of buying in Large Cap and Tech from passive investing (and a few central banks like Switzerland) and part of the advance can be explained. Include the availability of ‘cheap money’ made available from QE liquidity and Large Cap/Tech heavily weighted in the indices and we have the other part of the equation explaining the 10-year bull run. Now add in stock buybacks, which reduce the number of shares outstanding which inflates a company’s EPS contributing to its P/E expansion, which in turn triggers analysts to recommend these stocks to funds. And yet, actual fund flows favor bonds and cash over equities!

CEO Confidence is at historic lows and why wouldn’t it be? Why would they seek to expand production, risk not getting the return from that investment, when the Fed is communicating danger and Trump’s Trade War represents danger and global trade and earnings are both contracting without a trusted resolution in sight? Same thing goes for chasing all-time-highs in the stock market. So why wouldn’t both fall together in a deleveraging liquidity event?

There are plenty of wealth managers who understand this underlying dynamic and as a result have little to no trust in a market based on a closed-loop system of Fed money, Passive Investment, Algos and Stock Buybacks. Until now, there was also very little reason to jump in front of this train.

Bonds Are The New Stocks

At some point this momentum-driven bond bubble will be unwound. Granted, it is like a fully-loaded locomotive that needs miles and miles of track to even come to a stop so as not to derail, but wouldn’t it be logical, and somewhat ironic, if it is in fact higher equities that triggers the selling of bonds that causes the next market correction?

It’s going to plan perfectly when bonds roll over, structurally forcing rates to pop, then oil spikes with the Reflation trades (think inflation spike), while Momentum stocks are sold off because they’re overvalued relative to Value…and cause indices to correct. This move could be quicker than folks think as liquidity is ‘challenged’ in bonds sell off and Volatility in the bond market spills over into equities.  Samantha LaDuc 

Now let me add some more non-consensus opinion for a Bond Sell-Off: Impeachment prospects pick up and with it Elizabeth Warren’s chance of becoming President.

At risk: the practice of buying back shares as perceived by Presidential candidates to artificially raise prices for the benefit of management. Should this practice be limited or banned by an incoming President opposed to this practice – like Warren or Sanders, as both filed bills to do so and have announced as part of their economic platform in their election campaign – then the market should start to price this in. It hasn’t yet. But unlike stocks, there are no circuit breakers for bonds. And fixed income folks move together in large part so sudden moves can upend markets. Consider even below-investment grade bonds. They don’t trade anywhere near the volume the ETFs they populate. In a fast-moving bond market, those ETFs can sink hard and fast as the underlying collateral moves. But unlike their ETF equivalent that trades on the stock market with a ‘limit-down’ circuit breaker, the bonds will be under more pressure and settle with huge mark downs. Credit spreads will be widened and funding markets can freeze.


Ignorance Is Not Bliss

For over a decade, money has been coming out of equities and going into the bond market as investors continue to anticipate imminent market collapse. Investors were full of fear at the March 2009 lows and they are full of fear at the 2019 highs. Investors are so fearful that today they are willing to accept a 1.8% return on a 10-year U.S. treasury note rather than a near 2% return on the S&P 500. So in essence, ‘risk free money’ has been parked at the same time ‘risk free money’ from Fed policies of monetary easing has flooded markets with liquidity, which in turn has fueled stock buybacks and speculation.

But now there is a sense the Fed may be losing control. Now, Fed liquidity is going into Repo markets to backstop bank liquidity requirements (and concerns) to the tune of $1T to start over the next year, driving up the cost of collateral in their overnight financing activities. Fed liquidity is also needing to be printed to fund ever-growing fiscal deficits which are exploding and showing no signs of slowing. If it wasn’t for the Fed, and corporate stock buybacks, and a mountain in cash which private equity has leveraged, our markets wouldn’t be pushing through all time highs. They would be cut by a third. That is the growing body of fundamental evidence that the bears can point to when growling at the status quo of bulls’ complacency.

The great rotation out of bonds will probably be tested before proven. When bonds roll over, structurally forcing interest rates to pop, look for commodities to spike and the reflation trade to move higher in place of momentum trades. Be aware that as bonds sell off, unlike equities, they don’t experience controlled pockets of selling or slow distribution over weeks and months, and there is no backstop for ‘limit down’ selling which triggers halts. There is but one very teeny, tiny exit door. And their hedging strategies of shorting VIX will not help them. The unwind of the short VIX trade (currently at all time highs) would be unwound violently causing a sudden equity sell-off.

Forced Liquidation will beget forced liquidation in both bonds and equities. Favorites like AAPL and MSFT will need to be sold to meet margin calls. Shorting will not be a six-month ride down the waterfall like in 2008. A liquidity freeze is one thing, but a panic for USD, aka CASH, where there isn’t enough of it, globally, can morph into a liquidity flash crash event and convulse for both stock and bond sell-offs within weeks not months. Risk premiums will be so quickly elevated in this race for liquidity and in this time of quant funds and algos that even those who try to short, let alone protect, in the thick of this downdraft will be played by market makers.

And that’s why Bears are not ready to capitulate, as the risk is too great that a true liquidity crisis – for CASH – creates panic and in panic everything sells off – Even gold and bitcoin are not safe. Only those who are sitting on the sidelines will be in a position to pick up shares on the cheap.


LaDuc Trading/LaDuc Capital LLC Is Not a Financial Advisor, RIA or Broker/Dealer.  Trading Stocks, Options, Futures and Forex includes significant financial risk. We teach and inform. You enter trades at your own risk. Learn more.

America’s Debt Burden Will Fuel The Next Crisis

Just recently, Rex Nutting penned an opinion piece for MarketWatch entitled “Consumer Debt Is Not A Ticking Time Bomb.” His primary point is that low per-capita debt ratios and debt-to-dpi ratios show the consumer is quite healthy and won’t be the primary subject of the next crisis. To wit:

“However, most Americans are better off now than they were 10-years ago, or even a few years ago. The finances of American households are strong. 

But, that’s not what a lot of people think. More than a decade after a massive credit orgy by households brought down the U.S. and global economies, lots of people are convinced that households are still borrowing so much money that it will inevitably crash the economy.

Those critics see a consumer debt bomb growing again. But they are wrong.”

I do agree with Rex on his point that the U.S. consumer won’t be the sole cause of the next crisis. It will be a combination of household and corporate debt combined with underfunded pensions, which will collide in the next crisis.

However, there is a household debt problem which is hidden by the way governmental statistics are calculated.

Indebted To The American Dream

The idea of “maintaining a certain standard of living” has become a foundation in our society today. Americans, in general, have come to believe they are “entitled” to a certain type of house, car, and general lifestyle which includes NOT just the basic necessities of living such as food, running water, and electricity, but also the latest mobile phone, computer, and high-speed internet connection. (Really, what would be the point of living if you didn’t have access to Facebook every two minutes?)

But, like most economic data, you have to dig behind the numbers to reveal the true story.

So let’s do that, shall we?

Every quarter the Federal Reserve Bank of New York releases its quarterly survey of the composition and balances of consumer debt. (Note that consumers are at record debt levels and roughly $1 Trillion more than in 2008.)

One of the more interesting points made to support the bullish narrative was that record levels of debt is irrelevant because of the rise in disposable personal incomes. The following chart was given as evidence to support that claim.

Looks pretty good, as long as you don’t scratch too deeply.

To begin with, the calculation of disposable personal income (which is income less taxes) is largely a guess, and very inaccurate, due to the variability of income taxes paid by households.

More importantly, the measure is heavily skewed by the top 20% of income earners, needless to say, the top 5%. As shown in the chart below, those in the top 20% have seen substantially larger median wage growth versus the bottom 80%.

(Note: all data used below is from the Census Bureau and the IRS.)

Furthermore, disposable and discretionary incomes are two very different animals.

Discretionary income is what is left of disposable incomes after you pay for all of the mandatory spending like rent, food, utilities, health care premiums, insurance, etc.

From this view, the “cost of living” has risen much more dramatically than incomes. According to Pew Research:

“In fact, despite some ups and downs over the past several decades, today’s real average wage (that is, the wage after accounting for inflation) has about the same purchasing power it did 40 years ago. And what wage gains there have been have mostly flowed to the highest-paid tier of workers.”

But the problem isn’t just the cost of living due to inflation, but the “real” cost of raising a family in the U.S. has grown incredibly more expensive with surging food, energy, health, and housing costs.

  • Researchers at Purdue University recently studied data culled from across the globe and found that in the U.S., $132,000 was found to be the optimal income for “feeling” happy for raising a family of four. 
  • Gallup also surveyed to find out what the “average” family required to support a family of four in the U.S. (Forget about being happy, we are talking about “just getting by.”) That number turned out to be $58.000.

So, while the “median” income has broken out to highs, the reality for the vast majority of Americans is there has been little improvement. Here are some stats from the survey data which was NOT reported:

  • $306,139 – the difference between the annual income for the Top 5% versus the Bottom 80%.
  • $148,504 – the difference between the annual income for the Top 5% and the Top 20%.
  • $157,635 – the difference between the annual income for the Top 20% and the Bottom 80%.

If you are in the Top 20% of income earners, congratulations.

If not, it is a bit of a different story.

Assuming a “family of four” needs an income of $58,000 a year to just “make it,” such becomes problematic for the bottom 80% of the population whose wage growth falls far short of what is required to support the standard of living, much less to obtain “happiness.” 

This is why the “gap” between the “standard of living” and real disposable incomes is more clearly shown below. Beginning in 1990, incomes alone were no longer able to meet the standard of living so consumers turned to debt to fill the “gap.” However, following the “financial crisis,” even the combined levels of income and debt no longer fill the gap. Currently, there is almost a $3200 annual deficit that cannot be filled.

Record levels of consumer debt is a problem. There is simply a limit to how much “debt” each household can carry even at historically low interest rates.

Data Skew

While Rex’s analysis is not incorrect, the data he is using in his assumptions is being skewed by the “wealth and income” gap in the top 20% of the population. This was a point put forth in a study from Chicago Booth Review:

“The data set reveals since 1980 a ‘sharp divergence in the growth experienced by the bottom 50 percent versus the rest of the economy,’ the researchers write. The average pretax income of the bottom 50 percent of US adults has stagnated since 1980, while the share of income of US adults in the bottom half of the distribution collapsed from 20 percent in 1980 to 12 percent in 2014. In a mirror-image move, the top 1 percent commanded 12 percent of income in 1980 but 20 percent in 2014. The top 1 percent of US adults now earns on average 81 times more than the bottom 50 percent of adults; in 1981, they earned 27 times what the lower half earned.

Given this information, it should not be surprising that personal consumption expenditures, which make up roughly 70% of the economic equation, have had to be supported by surging debt levels to offset the lack wage growth in the bottom 80% of the economy.

More importantly, despite economic reports of rising employment, low jobless claims, surging corporate profitability and continuing economic expansion, the percentage of government transfer payments (social benefits) as compared to disposable incomes have surged to the highest level on record.

This anomaly was also noted in the study:

“Government transfer payments have ‘offset only a small fraction of the increase in pre-tax inequality,’ Piketty, Saez, and Zucman conclude—and those payments fail to bridge the gap for the bottom 50 percent because they go mostly to the middle class and the elderly. Pretax income of the middle class (adults between the median and the 90th percentile) has grown 40 percent since 1980, ‘faster than what tax and survey data suggest, due in particular to the rise of tax-exempt fringe benefits,’ the researchers write. ‘For the working-age population, post-tax bottom 50 percent income has hardly increased at all since 1980.’”

Here is the point that Rex missed. There is a vast difference between the level of indebtedness (per household) for those in the bottom 80%, versus those in the top 20%. 

Of course, the only saving grace for many American households is that artificially low interest rates have reduced the average debt service levels. Unfortunately, those in the bottom 80% are still having a large chunk of their median disposable income eaten up by debt payments. This reduces discretionary spending capacity even further.

The problem is quite clear. With interest rates already at historic lows, the consumer already heavily leveraged, and wage growth stagnant, the capability to increase consumption to foster higher rates of economic growth is limited.

With respect to those who say “the debt doesn’t matter,” I respectfully argue that you looking at a very skewed view of the world driven by those at the top.

The Next Crisis Will Be The Last

For the Federal Reserve, the next “financial crisis” is already in the works. All it takes now is a significant decline in asset prices to spark a cascade of events that even monetary interventions may be unable to stem.

However, to Rex’s credit, households WILL NOT be the sole catalyst of the next crisis.

The real crisis comes when there is a “run on pensions.” With a large number of pensioners already eligible for their pension, the next decline in the markets will likely spur the “fear” that benefits will be lost entirely. The combined run on the system, which is grossly underfunded, at a time when asset prices are dropping  will cause a debacle of mass proportions. As noted above, it is going to require a massive government bailout to resolve it.

But, consumers will “contribute their fair share.” Consumers are once again heavily leveraged with sub-prime auto loans, mortgages, and student debt. When the recession hits, the reduction in employment will further damage what remains of personal savings and consumption ability. The downturn will increase the strain on an already burdened government welfare system as an insufficient number of individuals paying into the scheme is being absorbed by a swelling pool of aging baby-boomers now forced to draw on it. Yes, more Government funding will be required to solve that problem as well. 

As debts and deficits swell in coming years, the negative impact to economic growth will continue. At some point, there will be a realization of the real crisis. It isn’t a crash in the financial markets that is the real problem, but the ongoing structural shift in the economy that is depressing the living standards of the average American family. There has indeed been a redistribution of wealth in America since the turn of the century. Unfortunately, it has been in the wrong direction as the U.S. has created its own class of royalty and serfdom.

The good news is that it can all be solved by the issuance of more debt.

The bad news comes when there are no buyers willing to continue to fund fiscal irresponsibility.

The next “crisis,” will be the “great reset” which will also make it the “last crisis.”

What Can We Learn From A Shutdown?

As we are now in to day 26 of the government shutdown, the 800,000 federal employees and contractors being used as political pawns go without their first paycheck. This whole ordeal, while unfortunate, is a great reminder of what can happen to any of us: missing a paycheck:

Luckily many financial institutions have stepped up to the plate and done the right thing for the furloughed employees to modify loan agreements, waive late penalties and overdraft charges, but some may not be so forgiving.

What happens if you find yourself in this scenario? If you miss a paycheck, would life go on as you know it? The numbers say that for most, it’s doubtful. The Federal Reserve Board issued a report on the Economic Well-Being of U.S. Households last May and although most households are better off than they were a year ago, missing a paycheck could still make many cry or cringe. According to the study, only 4 out of 10 could meet a $400 emergency expense, or would do so by borrowing or selling something.

This takes us back to Personal Finance 101:

  • Spend less than you make.
  • Build an emergency fund.

We typically recommend that a dual income household have at least 3-6 months of expenses set aside in an emergency fund and a single income household 9-12 months. It always helps to know you have these funds to fall back on until things turn around. Life happens: people get laid off, companies or governments miss paychecks, and people get sick.

If these numbers seem lofty, don’t worry; they were lofty to everyone at one point.  Everyone must start somewhere. If you don’t have any savings now, start by trying to save $1,000. It’s amazing how many things that will fall into the “I need cash quick” range are under $1,000. Think about this: To save $1,000 in a year, you need to save $83 a month, or roughly $2.75 a day.  I notice that once people get on the right path to savings, they typically accumulate cash much quicker than they would have previously thought.

Do yourself and your family a favor and start an emergency fund or solidify it if you already have one. Don’t be afraid of holding cash, but also don’t leave it in an institution that won’t pay you any interest.  You can find banks that will pay you for holding your cash. Check out www.bankrate.com or www.nerdwallet.com as they are both good aggregators that will show you rates and rankings institutions that actually want your money.

Another alternative and something we have done for clients is find a money market that actually pays. We are currently finding rates north of 2%, but you have to look.  Short term bond funds, individual bonds or Treasury’s, while not as liquid, can also provide a boost to your savings with little risk.

If you have any questions, please don’t hesitate to email me.

How America’s Wealth Bubble Is Boosting Consumer Confidence

ZeroHedge posted an interesting chart a few days ago showing how affluent Americans (those making over $50,000 a year) have not been more confident since the dot com bubble:

Affluent Consumer Confidence

While strong consumer confidence may seem like a good thing when taken at face value, the contrarian in me sees it as a warning of the kind of over-exuberance seen during bubbles like the dot-com bubble and housing bubble. Unfortunately, I believe that the U.S. is experiencing an unsustainable, artificial household wealth bubble that is causing affluent consumers to be over-optimistic despite the fact that our economic boom is largely driven by cheap credit and is going to end in a painful bust.

As I explained in a recent presentation, U.S. household wealth has surged by approximately $46 trillion or 83% since 2009 to an all-time high of $100.8 trillion. Since 1951, household wealth has averaged 379% of the GDP, while the Dot-com bubble peaked at 429%, the housing bubble topped out at 473%, and the current bubble has inflated household wealth to a record 505% of GDP (see the chart below):

Net Worth As Percent Of GDP

Please watch my presentation “Why U.S. Wealth Is In A Bubble” to learn more:

We at Clarity Financial LLC, a registered investment advisory firm, specialize in preserving and growing investor wealth in times like these. If you are concerned about your financial future, click here to ask me a question and find out more.