WINTER IS COMING
Too much debt eventually gets us all: personally, corporately, and nationally. I have made this mistake many, many times. For example, in 2010, amidst the regulator backlash following the Financial Crisis, I spent our cash and debt on acquiring financial practices from Merrill Lynch, UBS, and Morgan Stanley. Taking advantage of the market dislocation, I was able to provide our MICG shareholders a $4 increase in equity value for every $1 spent on acquisitions.
But, I didn't keep enough "powder dry" for our own Black Swan, which by definition I never saw coming. If I had saved $10 million in the war chest, I could have written a large "settlement" check to the government regulators and had them move onto the next target. Instead, I demanded arbitration to defend our people, and a terrible spiral, cyclone, ensued. I should have saved the money.
The United States is finally bumping up against the wall of too much debt, and extreme consequences are on the way unless radical changes to entitlement spending are enacted quickly (which isn't going to happen in this environment where everyone has lost their minds). So, let's first clarify for our JAM Views members the difference between debt and deficit. The talking heads interchange these terms all day long, and this confuses most observers and obfuscates the dire station we are in.
The DEFICIT is the yearly amount we are dipping into our credit line (we have no savings) to pay our current bills. This is your Wells Fargo overdraft for small items, or credit line secured by the house for the big items (the country's credit line is secured by your future life wages and the anticipated taxes on those wages = "the full faith and credit of the United States"). The last balanced budget was under Bill Clinton, so we have been dipping into the line ever since, up to the tune of $900 billion just this year!
The NATIONAL DEBT is the total mortgage, to which the annual deficits keep increasing the balance, or which is also increased in large chunks by the Federal Reserve printing more money to fund the Iraq Wars, or when the Obama Administration bailed out the banks with trillions of newly printed dollars. (All of this printing eventually, always, creates significant inflation, but we will cover that another day). The U.S. now owes $22 Trillion in Treasury debt (the country's mortgage), with the majority of principal due to bondholders over the next 8 years, and with $6.5 trillion owned by China, Japan, and Saudi Arabia. Also, don't forget that the true national debt is over $70 trillion once we include our unfunded liabilities (the commitments we have made without saving the money to cover).
Now, debt is only a problem in relation to revenue; with our household, our company or our country. Unfortunately, our national debt has ballooned to 80% of GDP (revenue) and in the next few years will equal 100%. Very, very soon, with this tenuous balance sheet, America's creditors (buyers of U.S. Government bonds - home and abroad) are going to demand much higher interest rates due to risk of default, "cram down" or other political options. (Don't believe it will never happen, as we have done it multiple times before, and President Trump has mentioned these options more than once).
The Perfect Storm current possibility, or probability, comes from the fact that after the 2008 Financial Crisis, the Obama Administration decided to use monetary stimulus (lower interest rates and printing money) instead of fiscal stimulus (lower taxes and reduced regulations). Therefore, instead of reducing the mortgage-bank debt, we greatly increased and redistributed the debt to the U.S. Treasury, corporations, and personal consumers. We piled on more and more debt to solve a debt crisis; and the world followed us.
Over the past 10 years, total global debt (sovereign, corporate, household) has risen 75%. Countries owe $60 trillion, and corporations owe $66 trillion, with McKinsey reporting that 40% of U.S. companies are rated only one notch above "junk bond" rating or lower! Pause for effect. The Bank for International Settlements estimates that 10% of long-term companies in the developed world are now "Zombie Companies," meaning earnings before interest and taxes don't even cover the interest expenses. They are just sucking in more capital to survive. (Lyft IPO?).
Why do you think everyone in Washington calls for a public execution of the Federal Reserve Chairman whenever he now mentions raising interest rates? A 1% increase in rates will be disastrous on this huge debt load. These higher interest payments will crowd out business investments and the nation's growth rate will stall; which in turn will mean less tax revenue, lower household incomes and a higher debt to GDP ratio, and the cycle, or cyclone, will feed upon itself.
The only two answers, again, are to increase growth (pro business) and to actually reduce entitlement spending (Medicare, Medicaid, & Social Security). Don't follow the talking head's misdirection about defense and discretionary spending. Those numbers are down in the noise and at historical lows. At current defense budgets of only 3.1%, we have already given up the world to the Chinese.
So, which politician on TV lately has the guts, or the brains, to raise the social security full benefits age to 70, and then index it to increasing life expectancies? Stopping the growth of entitlements is the only answer, only answer; even strong growth cannot eclipse this tidal wave. As educated JAM Views members, we would be extremely naive to believe a politician could pull this off in today's environment, so the prudent decision would be to plan for the more likely scenario.
Remember, in investing, always do opposite what feels good at the time, and always do opposite what everyone else at the cocktail party is doing.
"The race to zero fees and zero advice is the next scheme to gather and control capital, and people, and is the unfortunate result of an industry which forgot that 'price is only a concern when value is in question.'" - Bob Vukovich, Just One More
* Many thanks to the WSJ, Forbes, & Fortune for the above statistics and quotations.
** For more information on Jeff's Books, Blog, and Legal Challenge, please visit www.jeffmartinovich.com.
** To access JAM Views directly please visit jeffreyamartinovich.blogspot.com
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