Tuesday, March 27, 2012

Wrong Way Siegel Strikes Again

March 26, 2012
Fed to Raise Rates `Well Before 2014' Siegel Says

To what? 0.62%? See chart below. When is Jeremy Siegel going to figure out that a heavily indebted/leveraged economy cannot tolerate higher interest rates?


Click to enlarge.

Note that the chart above looks like the inverse of the following one.

Our Astronomical Debt

Click to enlarge.

In my opinion, this is is not a coincidence. Look what happens when we multiply them together.


Click to enlarge.

We must keep the total in that chart down to a reasonable level if we are to have any hope of kicking the can further down the road. If it seemingly worked for Japan, then I guess we think it will work for us too.

September 6, 2007
Let Them Eat Cake!

In 2000, then-BOJ Governor Masaru Hayami was widely derided for raising rates from zero to 0.25 percent. Pundits called him Japan's answer to Herbert Hoover. Yet Hayami was trying to force Japan Inc. to implement structural reforms. It didn't work and rates returned to zero in March 2001.

July 26, 2011
The Real Math Behind Siegel's Mythical 3.5% Real Yields

As economic growth recovers and real rates rise, the price of Tips will fall leaving Tips investors with large losses in the face of accelerating inflation. - Jeremy Siegel, February 2, 2011

How are we doing on that economic growth recovery theory of his? I would argue not so good. I would also point out that his rising real rate theory isn't doing so well either. 30-year TIPS rates have fallen 0.5% (from 2.1% to 1.6%) since he said that.


As of yesterday, the 30-year TIPS yields 0.93%. Interest rates are not rising like he predicted last year. They've fallen dramatically.

Nearly my entire investable net worth has been sitting in long-term TIPS and I-Bond ladders.
Contrary to the opinion of Wharton School economics professors, I will not be financially ruined if interest rates rise. I wanted to lock in rates in case they fell and I'm holding to maturity. I root for rising interest rates so that I can reinvest at higher interest rates as my bonds mature. Can stock investors say the same?

Let's find out. Here's a thought experiment.

If 5-year maturity bond prices go down a little bit if interest rates rise evenly across the board (not often the case), 10-year maturity bond prices go down about twice as much as that, and 20-year maturity bond prices go down 4x as much, then what might infinite maturity stocks do? Perhaps there's a Chinese curse that Jeremy Siegel should study.


"May you find what you are looking for."

And lastly, I'm not suggesting that interest rates can't rise. I'm simply saying that our economy cannot tolerate higher interest rates. I'm very bearish on our long-term future. There are plenty of things that our economy can't tolerate. Take higher oil prices for instance.

Source Data:
St. Louis Fed: Effective Federal Funds Rate
St. Louis Fed: Total Credit Market Debt Owed

15 comments:

Stagflationary Mark said...

I should mention that the first chart's starting point is the week that interest rates peaked. It's been downhill ever since.

Mr Slippery said...

I am not sure how it would work, but what if we could figure out a way to pay people interest on their debt, to encourage them to take on more debt?

The Fed and banks could charge negative interest on savings, and pay interest on credit card balances, auto loans, and mortgages. Congress could bring back income tax deductions on all interest paid.

Maybe something modeled on the cash back credit cards now? That would give us a system with room for more debt growth, which is the only kind of growth we've had since 1980.

I CAN HAZ MOAR DEBT?

Stagflationary Mark said...

Mr Slippery,

Awesome idea. Let them take cake!

The more you take the more you make!

There's just one problem. I'm not sure our system is designed to distribute the prosperity like that. Maybe there needs to be a mechanism that can undo it after the feeding frenzy. I know. Windfall profit taxes!

The more you make the more we take!

Now combine them.

The more you take the more we take!

Perfect. Now, in the words of Bush, we simply need to make the pie higher, lol. Sigh.

Skye said...

That FF x TCMDO chart is absolutely terrifying. Thanks!

AllanF said...

Very interesting post Mark. I've not seen the economy shown this way anywhere else.

As for FF*TCMDO scary? Ha! Are you kidding? We'll never have another recession ever again. Since recessions only come after higher highs, and we've clearly fallen off the TCMDO exponential, ergo no more higher highs and no more recessions.

Well, no more higher high short of any thing but a bout of hyper-inflation, but the Fed would never let that happen. They are much more sophisticated at monetary controls than they were in the 20's or 30's or 70's.

Troy said...

It's my thesis that the 1970s & 1980s inflation was simply the baby boom establishing dual-income households.

Double household income instantly like that and we're going to get massive housing inflation.

The housing inflation became a wage-price spiral, and food & energy came along for the ride, especially after OPEC started insisting on getting paid in real dollars and not the 1960s royalty rates.

http://users.rcn.com/jkimball.ma.ultranet/BiologyPages/B/BabyBoom75.gif

Shows how total household income was going to more than double as the baby boom filtered into the workforce, 1970-1985.

Not helping matters was that systemic debt leverage had been held extremely low in the 1950s & 1960s -- we were running a tight ship back then, just didn't know it.

AllanF said...

Well, Troy, if you're right (and I think you're easily more right than wrong) what does that bode for the 2010-20's, with the baby boom ratcheting down to 1 and 0 income households? 10-20 years of skipping recession at best or depression at worst?

Stagflationary Mark said...

Skye,

That FF x TCMDO chart is absolutely terrifying. Thanks!

I'm a big fan of H.P. Lovecraft. I'm not even in his league. Hahaha! ;)

Stagflationary Mark said...

AllanF,

Since recessions only come after higher highs, and we've clearly fallen off the TCMDO exponential, ergo no more higher highs and no more recessions.

You got a serious laugh out of me. The sarcasm is so thick I can't even cut it with a chainsaw!

Oh wait. The chainsaw's made in China, it's got quality issues, and I'm out of gas.

I'll try to think up a better analogy next time. ;)

MaxedOutMama said...

Mark - even the first graph made me burst out laughing.

The Fed will do its damndest never to raise rates - ultimately Mr. Market will raise them.

There is a limit to how much of the debt that even the Fed can buy, but we haven't reached it yet and currently we are in the land of the "Fed Fix".

History suggests that changing trade surpluses in Asia will have more to do with eventual US rates. 46% of the debt is owned outside the country; a relatively small change in demand there could push US rates up quite a bit over a few years.

So we all have to run out and buy Japanese/Chinese products. Quick!

Stagflationary Mark said...

Troy,

If I had been able to put the pieces together better I might not given myself a stagflationary name.

That said, Stagnationary Mark doesn't have a nice ring to it. Fortunately, stagflationary type investments have done well (oil, precious metals, TIPS, I-Bonds).

Deflationary type investments have done well too though (treasuries without inflation protection). Go figure.

Behold the power of stagnation.

Stagflationary Mark said...

MaxedOutMama,

The Fed will do its damndest never to raise rates - ultimately Mr. Market will raise them.

I hear you. Picture what would happen if the Fed raised interest rates to 0.25% tomorrow though. Wouldn't that be a fireworks show!

I've used this argument before when interest rates were even higher but... I am part of Mr. Market. I'm about as far from being a bond vigilante as they come. Nobody is holding a gun to my head forcing me to own TIPS and I-Bonds. I do so willingly because the alternatives seem worse. It is our debt that's propping everything else up.

History suggests that changing trade surpluses in Asia will have more to do with eventual US rates. 46% of the debt is owned outside the country; a relatively small change in demand there could push US rates up quite a bit over a few years.

My opinion would be different if I could be bullish on those savvy Chinese or those austere Europeans! I could be wrong of course.

Stagflationary Mark said...

MaxedOutMama,

I forgot to mention one more thing.

So we all have to run out and buy Japanese/Chinese products. Quick!

Nicely played. THAT will surely help our economy over the long-term, lol. Sigh.

Stagflationary Mark said...

Bonus thought from my post just because I think it needs to be repeated.

And lastly, I'm not suggesting that interest rates can't rise. I'm simply saying that our economy cannot tolerate higher interest rates.

Stagflationary Mark said...

March 9, 2012
Getting Real in China

It’s a red letter day for China’s savers: For the first time since the beginning of 2010, real interest rates have edged into positive territory.

Get out the party hats.

If savers have a way to beat inflation without piling into property, that also has significant implications for the real estate sector.

You think?

Average house prices rose just 0.7% in the year to January. Anyone opening a 1-year deposit account in January 2011 could have earned a 2.75% return without the trouble and expense of dealing with real estate agents and mortgage brokers.

Yeah, stick it to those pesky real estate agents and mortgage brokers! Just say no!

*cringe*