Trump Says the Fed is Loco … Here's Why He May be Right

Trump Says the Fed is Loco … Here’s Why He May be Right

Over the last 2 weeks the stock market has been on a wild ride, and for the most part a downward slope.  Last week the Dow dropped for 6 straight days, including an 831-point drop which was the 3rd largest of the year, and the biggest since February.

Long ago we reported to you that the stock market had decoupled from the main economy.  This occurred during the previous Administration in the wake of the 2008 financial crisis.  Banks did not lend into businesses for the purpose of business expansion, but used government bailouts to trade bank stock and financial paper.  This was great for the stock market – which continued to rise and allowed your 401K to rebound from the collapse.

But it was lousy for the economy – GDP grew at less than 2% for that 8 year period … wages remained stagnant … job growth was non-existent.  The unemployment rate came down, but because more people went on government assistance in all forms, including disability, and stopped looking for work.  Bottom line – instead of stock market gains from a new invention, a new drug, or increased demand, we instead had artificial inflation due to money printing and quantitative easing.   The market had decoupled from main street.

Fast forward to the Trump Administration – tax reform and massive deregulation allowed the stock market to not just go up, but explode skyward!  This was on the back of real GDP acceleration – main street was creating jobs again … wages expanded 2.8% – first time in a decade … businesses were expanding … this is real economic growth, the vibrancy of capitalism unleashed from government intervention.

All of those upward trend-lines are at risk, however, if non-market factors return as the dominant player, and that is happening as the Federal Reserve continues to raise interest rates, and hint there are more to come.  It was that decision that prompted the most recent sell-off, and remains the primary concern of traders on Wall Street.

Our readers know the Fed raises rates when the economy appears to be overheating, or if the value of the dollar begins to significantly decline.  Since we remained at zero interest rates for virtually the entire post-financial collapse period of 2009-2017, it was natural to begin to see the Fed move off their accommodating policy and begin to tighten the money supply.  This began in the final year of the previous Administration.

This was a sign of a healthy and strengthening economy, and a normal process to undertake.  Federal Reserve rate policy helped price the dollar at a stronger position, and despite raising the cost of borrowing, the economy continued to expand.  This was the Trump-Bump effect!

But taking long-overdue steps to normalize rate policy does not mean the Federal reserve is making the right decision to continually raise rates in such short time span.  It could derail the expanding economy as jittery business owners spooked by rising borrowing costs slow their hiring decisions and potential investment back into the business.  Trump says the Fed is “loco” … here is why he may be right!

 WHY TRUMP MAY BE RIGHT – LONG-SUPPORTED FED RATE HIKES MAY BE COMING IN TOO FAST FOR NOW:

 1. “Fed’s dual mandate could cause both to get worse”: The Federal Reserve has a dual mandate – keep inflation in check and keep unemployment low.  So monetary policy – and what the Fed does with interest rates – is to serve these two policy objectives.  The problem is both are impacted and driven by a myriad of factors beyond just what the Fed does, and often times they are their own driver of particular outcomes in the economy.  Raising rates to stem the tide of inflation can result in higher costs for government debt service … which in turns drives the government to borrow more money to service that debt …  which in turn leads to a larger money supply… which in turn – you guessed it – drives up inflation.  Inflationary pressure squeezes profits – and that squeezes wages and hiring.  That also leads to greater unemployment.

2. “Fed rate increases have not hurt the economy – yet”: Markets remain elevated at record-setting levels and the US economy has been on over-drive during the last 2 years.  The Fed has increased rates 8 times since December 2015 – taking us off zero and bringing the fed funds rate to 2.25% as of September of this year.  This remains historically low – the federal reserve has typically maintained rates between 4 and 6% when experiencing expanding GDP.  We have been in a government created expansion between 2009-17, and market driven expansion the last two years, but the rates have remained historically low.  So increasing rates is bring them within the normal historical range.

However…..

Raising rates too quickly in such a volatile environment runs the risk of off-setting the gains of the last two years.  25 basis point is not a huge number, but the market is pricing in more rate hikes and higher rate increases thanks to commentary coming from the Fed.  That lays the groundwork for a correction.

3. “The evidence confirms fed rate hikes are slowing housing and auto sales”: Despite an on-fire economy, sales in housing and autos were down year-over-year in the last quarter.  These two data points are the “canaries in the coal mine” for potential negative downturns in the economy.  The Fed right now has a direct hand in the potential negative shift in the market, and in the GDP numbers.

Despite some correction numbers occurring in the stock market over the last two weeks, the economy has been humming along.  Decoupled from Wall Street, businesses no longer prioritize their stock broker when looking for funding.  The market dip does affect balance sheets, portfolios and retirement accounts, and the raising of interest rates right now is beginning to take its toll.

Want protection from market downsides such as in the recent negative dip?  Call now for protected principal alternatives. (877) 912-1919

Don't Forget About The Debt

Don’t Forget the Debt!

Two years of economic positives have been the regular headlines in the nation’s financial news media.  The “Trump Bump” has seen a stock market boom, unparalleled economic growth, massive business expansion and much more. We have seen for the first time in 10 years wage growth exceeding 2% and outpacing inflation.  Job growth has been exponential, with the longest period of sub-4% unemployment in decades.

Imports are up, exports are up … fears of trade wars hurting US markets have been disproven (which we all knew, since trade wars negatively impact the country with the trade surplus, not the country with the negative trade balance). It is not just an over-heated economy with the good times rolling – this has all occurred while the Fed continues to raise interest rates, which is historically a market depressant.  That means it is durable, and substantive.

Without question,  what goes up always comes down.  The growth fueled from 2009-2017 occurred from government intervention, not natural market performance.  Zero interest rates, quantitative easing, inflationary fiscal policy … ALL contributed to artificial GDP growth: stock market appreciation without wage and job growth.  Nonetheless, combined with the robust Trump pro-growth policies, we have enjoyed an historic bull run.

But one subject, of many, that could derail the good times is the mounting US federal debt.

Yes, this sounds familiar.  This is the proverbial “boy who cried wolf” story coming from the “gloom and doomers.” Skeptics rightly point out that those conservatives in the Republican Party have been complaining about the debt for decades.  But whether in OR OUT of power – and they are currently in power – Republicans still continually vote for more government spending.

Our readers are smart enough to know that being a Republican “politician” is quite different than whether they actually vote on true, conservative economic orthodoxy that recognizes the risks from liberal spending habits with the taxpayer dime, regardless of party.

The debt is a danger not just to economic growth and economic good times, but to our very way of life.  We have already passed the point of dealing with it with just a little pain – moving forward the solutions will be difficult and costly.

Here are some debt figures – US debt “by the numbers”:

  1. “Total Federal Debt”: $21 trillion and rising.
  2. “Unfunded liabilities of the Federal Government”: $114 trillion.  These are future obligations of the federal government, such as pensions, government retirees and future social security recipients.
  3. “Federal Debt as owed per capita within the United States”: $65,000+.
  4. “Federal debt as owed per taxpayer”: $176,000.
  5.   “Projected year of Social Security insolvency”: 2034. Although this projection, like so much of the government’s accounting gimmicks, is not really an accurate estimate.  Social Security is already bankrupt – there is no trust fund, just $2 trillion of “IOU’s.”  The US pays social security from existing tax revenue and borrowing.  The year 2034 is simply the date it is projected that tax revenue will not support the current payment obligations, and the US will have to raise taxes or lower benefits to satisfy our social security obligations.

These numbers are merely accountant entries as compared the tsunami of state and local debt, personal debt, and blue state pension obligations all taken together.  The chance we can reasonably pay-off these obligations grows smaller and smaller each day.  More than likely, the risk of default and non-payment is increasingly the most likely outcome, with unknown consequences as the result.  It will not be easy or pretty when the day of reckoning arrives.

What does a solution look like?  Massive cuts in government spending, an increase in the age you can receive social security benefits, means-testing social security and Medicare, virtually eliminating disability, increasing the collection of tax revenue in some capacity or another … these are just the beginning steps that will need to be taken and soon if they are to make a difference.  The American people have always been willing to sacrifice for the greater good – but this plan could not pass if recommended to the voter by our current crop of leaders.  Government sacrifice must come first – cut Congressional pay, cut staff, cut staff pay, no retirement, healthcare like the public has – take those steps and the goodwill could be found for some compromise on debt reduction.  But Congress and the President taking such steps feels like the “snowball’s chance” as it approaches the gates of hell.

There is some good news – ALL current US assets are priced at $138 trillion – that is above the total of unfunded government obligations for the first time in years.  In other words, we have a net worth!  Tax reform has increased revenue into the government – pro-growth and strong dollar policies will increase money for the government to pay our bills.  But our willingness to step back from international affairs is signaling the US is okay with other powers taking the lead in hotspots around the globe.  This is the prevailing sentiment of US voters and Trump’s preferred foreign policy position.  BUT … that is also leading other world powers to reconsider the use of the dollar.  The American people do not seem to connect that “exorbitant privilege” also came with the responsibilities of maintaining global order.   Replace the dollar and our ability to run deficits of their current size becomes nearly impossible.

So many issues are going our way, it would be a shame to squander this moment in history.  But political will is needed to address the debt – it is growing while our ability to pay it is shrinking.

 These events have consequences.  Call now to get your money into a principal protected product. (877) 912-1919

The Day Lehman Died – The 10th Anniversary of the Financial Crisis of 2008

The Day Lehman Died – The 10th Anniversary of the Financial Crisis of 2008

The month of September has some chilling reminders that the world is not immune to global catastrophe.  We took time this week to remember the fallen from the cowardly terror attacks on September 11, 2001.  That day, much like Pearl Harbor, will always be a day of infamy in American and world history.  The “Global War on Terror,” continues to this day and wartime operations continue in Afghanistan, making it the longest war in US history.

But September also is the month of the most momentous economic calamity of this century, and perhaps second only to the Great Depression.  We have described the events leading up to the “Financial Crisis of 2008” in previous blogs in July and August, and they reflected a rolling crisis over an extended period dating back to the 4th quarter of 2007. However, the grand tsunami of financial catastrophe can be traced to the bankruptcy filing of Lehman Brothers on September 15, 2008.

The Day Lehman Died – The 10th Anniversary of the Financial Crisis of 2008

 Lehman Brothers had been an American banking icon on Wall Street since 1850.  It is hard to understate its role in American finance. They were involved in some of the most important and most lucrative deals in US history!  Just consider Lehman’s history:

The History of Lehman Brothers included some of the biggest moments in global finance:

  1. It issued the stock for some of America’s most iconic brand names: W. Woolworth Company, Macy’s, Gimbel Brothers, Inc., The Studebaker Corporation, B.F. Goodrich Co., RCA, Compaq Computers, among many others.
  2. Lehman arranged the first financing for major oil companies often in the news such as Kerr-McGee and Halliburton.
  3. Famous merger in 1983-1990 with Shearson/American Express in 1984 and then Shearson/Lehman merged with EF Hutton in 1988 (“When EF Hutton talks, people listen.”)

The Day Lehman Died – The 10th Anniversary of the Financial Crisis of 2008

  1. Lehman backed the take-over bid by the management team of F. Ross Johnson and RJR Nabisco, ultimately losing the bid to Kohlberg Kravis Roberts in what was then one of the largest “leveraged buyouts” in Wall Street history. It was dramatized in popular culture by the famous book and then movie – “Barbarians at the Gate.”

The Day Lehman Died – The 10th Anniversary of the Financial Crisis of 2008 

Lehman was in the same category as Salomon Brothers, Goldman Sachs, KKR, during Wall Street’s hey-day.  They were among the giants of Wall Street.  Their movement into mortgage origination in 1997 would become the most profitable department within the bank.  By 2006, mortgage loans and mortgage backed securities were generating almost $250 million a month in revenue.

Lehman, however, was exposed to – and some would say helped create – the contagion of sub-prime mortgages.  The government’s reduction of lending standards, requirements to lend into poor credit neighborhoods, and the government’s willingness to underwrite the paper on many sub-standard loan packages, led to a collapse in credit quality and underwriting standards.  We created an over-sized market of bad credit debt.  When adjustable rates adjusted upwards, people stopped paying.  Foreclosures commenced, the value of the mortgages dropped, the values could not be priced as they all dropped at the same time.  In the first quarter of 2008, Lehman was sitting on $680 billion of mortgage notes, and only $22.5 billion in firm capital to back it up.

 

The Timeline of the Lehman Brothers collapse:

  1. “August 2007 – closure of sub-prime office BNC Mortgage”: Twelve-hundred positions and 23 branch offices were all eliminated due to “deterioration” in the mortgage market.  Lehman would continue underwriting mortgage backed securities.
  2. “September 2007 – the last gasp of profitability”: The stock price jumped 46% on a report that Lehman would still conclude its 55th straight quarter of profitability.  The moves out of sub-prime were being rewarded by the market.
  3. “June 9, 2008 – the days appear numbered”: Reporting a substantial loss for the first time in years, major staff shake-ups were announced.  CEO Richard Fuld, who had been with the company since starting in the basement as an intern, remained in his position, but was isolated from other management staff.  The stock got a bump in August when reports of the Korean Development Bank (KDB) were considering buying into the company.  But when talks broke off in September, there were signs of storm clouds closing in, as KDB officials were quoted in the Wall Street Journal as saying they “….could not properly price the firm’s capital holdings, and therefore could not make an informed decision on an offer sheet.”
  4. “September 9, 2008 – KDB is out, stock plunges”: When the news hit the public, Lehman’s stock price collapsed, dropping 45% in one day and driving the S&P down 3.4%.  It was clear that Lehman’s size would have a direct and proximate impact on the overall marketplace…. the original “Too Big to Fail” bank.
  5. “9/11 – Down Goes Lehman”: A very sad day indeed.  Lehman Brothers had occupied several floors in the Twin Towers 7 years earlier when the terrorist attacks occurred.  Hundreds of employees lost their lives.   9/11 would be another dark day in Lehman’s history, as the stock price dropped 40%, and the Federal Government announced they would not bail out the company.
  6. “9/13 – Paulson, Geithner, steal Lehman’s deal”: In an emergency meeting at the New York Federal Reserve offices, a deal was negotiated to save Lehman through a merger/acquisition by Barclay’s Bank in England and Bank of America.  The Brits, however, after agreeing in principle, backed out, under pressure from their own government.  Bank of America, fearful of taking on a deal they could not underwrite, went to the Hank Paulson, the US Treasury Secretary, and Timothy Geithner, Chairman of the New York fed, asking for a bailout, or another partner.  Fearing problems with Morgan Stanley, the Feds let the BOA withdraw, leaving Lehman without a bailout savior.
  7. “9/15 – The Board votes to liquidate”: Infuriated that the Feds would not grant a bailout, despite doing so in the past (Bear Stearns, Long Term Capital Management), and blaming Paulson and Geithner for not keeping Bank of America at the table, the Board of Directors for Lehman voted at 1 AM, on September 15th, to put the company in bankruptcy.  The collapse of real estate prices had destroyed the value of the mortgage securities market, and Lehman did not have the capital to support what it owed.  Thousands of employees would be laid off the next morning.Lehman Board votes to liquidate
  8. “September 2008 and what followed – The Financial Fallout”: The bankruptcy filing announcement precipitated the worst intra-day drop in the stock market’s history (over 1000 points) and finished down 554 points.   While the volatility continued with up and down days through the remainder of the year, the downward trend and sense of dread in the larger economy was a constant feeling.  The market would drop again 449 points on 9/17 … again dropping 774 points on 9/29 … the Dow would end up down 13% by the end of October.

Lehman’s employees were immediately let go on the day of the bankruptcy filing.  Scenes of employees leaving with personal items in boxes was an indelible portrait of the fearful times which followed.  Although the stock market would continue to decline until reaching bottom in March 2009 (Closing at 6443, a 50% drop since October 2007), the hinge-point in the Financial Crisis was the Lehman Brothers collapse.  The Feds – so willing to bail out banks and everyone else on Wall Street after Lehman – most likely could have prevented the entire crisis by saving Lehman Brothers that September 2008. 

 Since then, Congress enacted a great deal of regulation to help prevent the next crisis from occurring.  But most analysts will tell you – big banks are bigger than ever, they are too big to fail, and the next crisis we may not be able to bail ourselves out of.  The public will not be in the mood to bail out anyone, and much of our political division comes from the Financial Crisis:  bankers were bailed out by Main Street – the taxpayer.  Now, the same people are richer than ever, but Main Street lost their homes, their savings – no one bailed them out.

Our financial system is the greatest system of wealth creation ever conceived by mankind.  But that does not prevent the system from malfunctioning thanks to government intervention.  Policies that force banks to lend to poor credit quality note-holders was doomed to fail, and it did.

Capitalism and the free market are the only systems that work for a free society, but what goes up will come down.  We have been in a 9-year bull market, super-charged by the pro-economy policies of the current Administration.  History, and common sense, suggest we are due for a correction.  Is your money protected? We may be able to help. Give us a call at (877) 912-1919 or visit TyJYoung.net.