I live in the USA and I am concerned about the future. I created this blog to share my thoughts on the economy and anything else that might catch my attention.
This is the End and a New Beginning
-
I've been thinking about this for some time.
After 21 years of writing this blog almost daily, I've decided to stop
writing the daily updates on the blog.
...
Silver Deep Dive
-
Silver had a memorable year (+148%). Some of this can be explained by a
decline in the dollar. I decided to do some ML analysis to look for other
insights....
The following chart shows the natural log of U.S. wage and salary disbursements. When using natural logs, constant exponential growth is seen as a straight line.
The Fed does not need to deflate wages back into the long-term channel in green, but rather to return to the slope of that channel. What's done is done. Deflation to undo the high inflation is definitely not the goal.
Some progress is being made. We've noved from the steep slope of the red line to the more moderate slope of the yellow line.
I'm convinced that they can achieve their goal, one way or another. But at what cost? I can be a bit cynical, but there's a high risk here that we're still in the early stages of a no-win situation.
How high will the unemployment rate need to rise to get us back to the healthier wage inflation trend? I have no idea, but I can say with 100% certainty that 100% unemployment would do it. Can't have any wage and salary disbursements if nobody is working.
The bulk of my net worth sits in inflation-protected I-Bonds and TIPS. As of about a year ago, my IRA sits entirely in bonds without inflation protection (TLT). And here's where I sit until I see a reason to take on more risk. Near record unemployment expected to rise, falling house prices, and high interest rates are not things that make me excited about taking on riskier investments.
The following chart shows the natural log of the CPI for shelter. When using natural logs, constant exponential growth is seen as a straight line. I have added long-term trend lines in red.
With lofty housing prices and lofty mortgage rates, it seems very unlikely that we're going to make it back to the top of the trend channel anytime soon. Which, if you think about it, is kind of odd. I could swear that the Fed really wanted that. Just not all at once, apparently. Too bad.
If I were a gambling man, I would wager that there is more risk leaving the channel to the downside than to the upside. And maybe I am a gambling man, because I continue to hold TLT. Very encouraged by today's CPI report. One battle doesn't win the war though, of course.
So many consumer surveys, but none of them ask the key questions for the next year:
- How much did you accumulate in savings during the pandemic?
- How much do you have left?
- How much of that do you intend to spend?
Without the answers, forecast margins of error are *massive.*
The following chart shows the unemployment rate minus the 12-month percentage change in the median CPI. I have added long-term trend lines in red and a short-term arrow in green.
I looked at Earl and his eyes was wide
His lip was curled, and his leg was fried
And his hand was froze to the wheel
Like a tongue to a sled in the middle of a blizzard
I says, Earl, "I'm not the type to complain
But the time has come for me to explain
That if you don't apply some brake real soon
They're gonna have to pick us up with a stick and a spoon"
The following chart shows the natural log of the 30-year Treasury yield. When using natural logs, constant exponential growth (or decay) is seen as a straight line. I have added long-term trend lines in red and a short-term trend arrow in green.
Will the long-term trend ultimately prevail? Trapped in a world of nearly permanent ZIRP?
Will the short-term trend break everything? Housing! Stocks! Bonds! Employment!
Will it be a combination of both? Or neither?
Stay tuned for the next exciting and terrifying episode of...
Behold the household wealth creation of a pandemic combined with ZIRP. Broken window fallacies be damned. Break them, and break them good I say. It's a brand new era of unprecedented prosperity! And should this plan ever start to falter, look for plague, pestilence, and NIRP to save the day!!
Seriously. Other than recent bitcoin and stock market performance, there's absolutely no reason to fear downside risk or reversion towards the mean theories. Even in uncharted territory, the Fed always knows what it's doing. Always has your back!
I know I said I was serious in the last paragraph. It was gallows humor. Sorry about that. I actually just bought more I-Bonds. Not only do they track inflation as seen in the CPI, but they can never deflate. Not that many are all that worried about deflation again. Yet.
The following chart shows the natural log of retail trade. When using natural logs, constant exponential growth is seen as a straight line.
As the pandemic hit, the exponential growth of retail sales failed to the downside. Using massive and mostly temporary stimulus, retail sales then overshot the historical channel and failed to the upside. Look where it's headed next. Welcome to the world of barely damped harmonic motion.
A broken shock absorber will result in your car bouncing around, as well as excessive rolling, squatting and diving. In other words, it won't be comfortable. Plus, your car will be harder to control, especially at high speeds. For that reason, you should never drive a car with a broken shock absorber at high speeds and avoid sudden turns and abrupt stops.
If you aren't even a bit worried about the current state of the Fed's economic shock absorbers, then maybe you should be?
The following chart shows the natural log of the 5-year yield. When using natural logs, constant exponential growth is seen as a straight line. I have added two such straight lines in red for your amusement.
At its current yield of just 0.71%, at what point did it ever become abnormal? After all, its natural log is currently centered between the two trend lines. What could be more normal than that?
If the news says interest rates are rising, that's a forward looking opinion. It is not a fact. It is a prediction. In sharp contrast, if the news says interest rates have been rising, that’s a verifiable backward looking fact.
As examples, when the temperature recently hit 110 at my home, I would never have said that the temperature is high and rising. 110 was the peak. When a submarine reaches the surface of the ocean, no sane person ever says that the submarine is high and rising. The submarine is obviously done rising.
So why does the news do it with interest rates? It’s subtle. It’s biased. And I wonder if anyone else notices that an opinion often sneaks in there where a fact should go.
If it was so easy predicting where interest rates were truly headed then we could all become heavily leveraged bond day traders and never lose money. And yet, plenty of bond traders do lose money. I suspect most money is lost betting on what the news implies is obvious, while the professionals and algorithms take the other side of those trades.
One would think that since interest rates had been falling for 40 years, the burden of proof would be on those predicting the long-term reversal to rising interest rates. And yet, for at least the past 20 years, the burden of proof has always been on the “Japanificationists” as they continue to simply predict more of the same.
And on that note, I offer my opinions and predictions of more of the same.
1. Although inflation is running temporarily hot, we are not returning to 1970s style interest rates anytime soon, if ever, at least in my lifetime. Bet on long-term interest rates north of 3% over the long-term at your peril.
2. The recent growth of inbound loaded containers into Los Angeles and Long Beach (as seen here) is ridiculously unsustainable over the long-term. The recent growth of shipping costs into Los Angeles and Long Beach is therefore also ridiculously unsustainable over the long-term. Any price inflation seen inside those fully loaded containers due to extreme growth in the number of containers and their associated shipping costs is therefore also ridiculously unsustainable.
3. I don't want to sell anything, buy anything, or process anything inside those shipping containers when a sustainable reality hits. I don't want to sell anything bought or processed, or buy anything sold or processed, or process anything sold, bought, or processed, or repair anything sold, bought, or processed. Yes, I'm having a Say Anything moment. Pent-up demand can easily lead to pent-up demand destruction. I want no part of the latter. We did overshoot to the downside as the pandemic hit. We are overshooting to the upside now. We can easily overshoot to the downside again (like a pendulum with little dampening), especially if the Fed feels the need to fight transitory inflation.
This is obviously not fantastic investment advice. If it was so easy giving fantastic investment advice then we could all become heavily leveraged traders and never lose money. Right? Seriously.
Sorry to bring up heavily leveraged traders twice in the same post. I guess I just have historic margin debt as a percentage of GDP on my mind. Shouldn't be a problem in a temporarily overheating economy filled with sure things like SPACs, NFTs, cryptocurrencies, and Tesla though. What's the worst that could happen?
The headlines are dominated by talk of robust GDP growth during the recovery. Thought it might be a good time to offset that with a few charts of real GDP reality.
Here is a short-term chart of the natural log of real GDP. When using logarithms, constant exponential growth is seen as a straight line.
Note that, thanks to the virus, we failed to stay in the green channel. We're currently throwing everything at real GDP, including the kitchen sink, just in an attempt to get back to where we were. Also note that real GDP growth was weakening before the virus even hit. The Fed raised rates in 2017 and 2018. In 2019, the Fed was forced to backtrack on that plan. In hindsight, a rate of 2.4% was too draconian. The Fed ended the year at only 1.6%. And then, the virus hit.
So, in the short-term, we're definitely attempting to claw our way back to that green trend channel. But what about long-term?
The red channel is where we once were. That ship has sailed. No hope of ever getting back to it, especially now that we have a Covid baby bust. That exponential trend failed spectacularly, leaving us with a new green channel. The green channel then failed too. Cascading exponential trend failures. That's where we are now.
Here's the good news. We're all in this perma-ZIRP handbasket together and some of us strongly suspect where we are headed. Brush up on your Japanese and enjoy the ride! We might not like the ultimate destination all that much, but the path to get there is filled with easy money. And when I say easy money, I'm not expecting retired savers patiently waiting for interest rates to "normalize" to someday make out like bandits. This isn't a Hollywood movie. If anything, it's more like Gilligan's Island. Being stuck at zero is normal. Interest rates have been exponentially decaying for 40 years. It's just more of the same.
The following chart compares the annual percentage change in personal consumption expenditures of food and services.
Looking forward to a return to normal.
There are three reasons we spent more money on food since the pandemic started. First, we have more food stockpiled. Second, our food has been delivered. Third, we have not been as price conscious. Taking advantage of sales hasn't been nearly as important to us over the past year. All of these things will soon reverse once we are vaccinated.
There is a disturbing fourth reason that food expenditures are up for others.
Weight change is a common symptom when people are having difficulty coping with mental health challenges. A majority of adults (61%) reported experiencing undesired weight changes, since the start of the pandemic, with more than 2 in 5 (42%) saying they gained more weight than they intended. Of this group, adults reported gaining an average of 29 pounds (with a median gain of 15 pounds), and 1 in 10 (10%) said they gained more than 50 pounds. For the 18% of Americans who said they lost more weight than they wanted to, the average amount of weight lost was 26 pounds (median of 12 pounds).
50 pounds is a lot to gain in one year, and a surprisingly large number of people managed to do it. Ouch.
For what it is worth, I intentionally lost about 10 pounds. It wasn't from eating less. I chose to walk more. I've averaged 6.7 miles per day during the pandemic. Trying to make a permanent habit out of both walking and cycling. Bought a bicycle late last year and will soon be riding it again. I'm optimistic that even more weight will be lost this summer.
I'm more optimistic in general. I do think inflation will be transitory. I do think interest rates will remain low. If true, I'm not even that concerned about debt. I don't currently see a stock market bubble or a housing bubble (although I do see pockets of great excess). Like Japan, it won't be a great era for savers, but that's okay. There are worse things than ZIRP. Not expecting the roaring twenties, but perhaps the meowing twenties? Could that be a thing?
I'm basing my optimism on a reversion to the mean, or lack thereof. We are continually told that when interest rates normalize, blah, blah, blah. I am arguing that rates have been normalized. They've been decaying exponentially for 40 years. That's what has been normal. Unless someone can give me a good reason why rates will soon stop decaying then I'm going to continue to believe that they will continue to decay. More money deposited in banks certainly won't lead to higher interest rates. Any counterargument based purely on excess money makes no sense to me at all. And man, has there ever been more excess money than right now?
This is not investment advice. My optimism is tempered. A friendly reminder that this is still an Illusion of Prosperity blog. The meowing twenties could easily become the hissing thirties. Sustainable and stable is not the long-term path we find ourselves on. Each economic crisis has been worse than the last.
Bagger 293 is 96 metres (314.9 feet) tall (Guinness World Record for highest terrestrial vehicle, shared with Bagger 288). It is 225 metres (738.2 feet) long (same as Bagger 287), weighs 14,200 tonnes (31.3 million pounds), and requires five people to operate.
At what point are these fully-automated and/or self-replicating?
This chart is one reason why I am mostly comfortable holding VPU over the long-term. I say mostly comfortable because:
1. Past performance is not necessarily indicative of future returns.
2. Exponential trends eventually fail. This one will be no exception.
3. VPU's distributions held up great during the Great Recession. However, had the fund existed during the dotcom bubble collapse, it would not have done well. XLU investors buying utilities in 2000 were no doubt greatly disappointed in 2003. Both the price and the distributions fell over the period, and not by a trivial amount. See data here.
4. A return to the 1970s era, which I am not at all predicting, could make the dotcom bubble's utility pain potentially seem tame by comparison. My comfort level is therefore tied to the belief that rising inflation will be transitory and that long-term yields will begin to fall again at some point in the next few years.
My expectations are low. Not trying to hit a home run here. I'd be perfectly happy walking to first base. This investment is mostly just a bond replacement in a TINA world, at least to me. Anything more than that is just a bonus. That said, there is a definite possibility of a substantial bonus, assuming the wheels don't fall off.
I'd be tempted to predict a rate between 1.0% and 3.3% based on the "Cone of Decaying Monetary Policy" channel (and using the inverses of the natural logs to predict the rate in the future). However, that would assume we can even get back into that channel and stay there for any appreciable length of time. Can you say exponential trend channel failure?
I therefore predict that the Fed Funds Rate at some point in 2020 will be a mere 0.25%. Think ZIRP + Japan. It just feels right (and oh so wrong). Can it go higher between now and then? Maybe, maybe not. The higher it goes the more likely a monster will be unleashed though. I have few doubts about that.
Dare I double down with the exact same rate prediction for 2030? I do dare! 0.25% at most.
When milk sours over time, more time just means more sour. At no point does the milk start becoming fresh again. Interest rates have been exponentially decaying for 40 years. Old money won’t soon be turning fresh again.
I might sound like a broken record, but this economy can’t afford to reward savers with vast riches any longer. If you are a saver, don’t panic though. This economy also can’t afford stagflation or hyperinflation. The only temporary safe harbor is to keep following Japan’s lead. Won’t work forever, but it may delay the inevitable for far longer than most think possible, in theory.
My opinion and a dollar could pay off the total credit market debt outstanding, if repeated 83,523,750,000,000 times. Unfortunately, I'll run out of dollars long before I run out of opinions!
The music has been playing and fixed-income investors have been enthusiastically dancing since 2008. During the past six years the Federal Reserve’s dovish stance has pushed interest rates to all-time lows...
It's true. I can't argue with that. The past six years have been especially brutal for short-term savers. Perhaps things truly will change when the Fed stops the music.
Torsten Slok, PH.D and Chief International Economist at Deutsche Bank Securities believes fixed income investors might be partying today but their hangover will be both abrupt and long term. This hangover will not be the typical frontal lobe variety but instead will be painful for the entire fixed income market. He believes, “the violence of the Fed turning hawkish will depend on positioning at the time and how long it will take fixed income investors to recognize that this will be a regime change away from the carry trade that has worked so well for the past 5 years”.
Scary stuff, to be sure. Combined with a screaming headline, that clever description of a hangover not of the typical frontal lobe variety is enough to send chills down a person’s spine, I must admit.
Where will you be six years later? Some might argue that there's no way to know. Some will argue that rates can only go up. I am not such a person, for I know something with 100% certainty that Torsten Slok, PH.D did not know as he wrote this. The 10-year Treasury yield will fall 1.90%. I know you are skeptical. How can I possibly know with such certainty and precision? It’s easy, actually.
This article was published on June 24, 2014! The 10-year Treasury yielded 2.59% on that day.
Exactly six years later, I was confined to my home during a pandemic, sitting in cash, wondering how and when to redploy recent Treasury bond profits, and staring at an unacceptably low 10-year Treasury yield of just 0.69%! That's where I frickin' was!
You really should have seen it coming. Some of you probably did. If I was willing to tease our beloved German Shepherd in the last post, then I'm certainly willing to tease Torsten Slok, PH.D.
As for any others teased along the way, sorry about the collateral damage! :)
It's tough to make predictions, especially about the future. - Yogi Berra
The following chart shows how much interest would be generated if the M2 money supply earned the same interest as the 10-year Treasury bond.
The M2 money supply is growing exponentially. The 10-year Treasury yield has been decaying exponentially. Ignoring volatility, the end result has pretty much been a constant for 40 years. Behold the power of falling off the gold standard.
Although correlation doesn't imply causation, I don't believe this is a coincidence. Deep down, I think we all know what would happen to our economy if interest rates rose to 10%. Saying that it would not be pretty would be an understatement.
Those expecting interest rates to increase because the money supply has suddenly increased may be very disappointed. To support my belief, why would banks raise interest rates to attract more deposits when they are already flooded with deposits?
As a side note, should we be worried that the chart has become more volatile over the past 20 years?
The following table shows the annualized inflation rate in the 2 years before each recent recession, the inflation rate in the 2 years after each recent recession, and the differences between them.
I am not a believer in the economy will soon overheat theory. A $1.9 trillion stimulus package might sound like a shockingly large sum of money, but let's put this in perspective. Household net worth now stands at $123 trillion and has grown $63 trillion since the Great Recession in 2009. By comparison, $1.9 trillion is like loose change found in the couch.
Our exponentially growing monetary addiction requires ever increasing sums just so the wheels don't fall off. Has anyone actually considered that $1.9 trillion might not be enough?
Ten Rhetorical Stimulus Questions
1. Are we supposed to be shock and awed by a $1.9 trillion stimulus package that's only equivalent to 1.5% of household net worth?
2. What if savers continue to save?
3. Are we counting on savers to spend?
4. Are we counting on spenders to spend what they've already spent?
5. How does one hoard services?
6. If there really is pent-up demand for haircuts, will people be getting twice as many over the next 2 years?
7. How much of a $1400 stimulus check would we need to save to earn $4.20 in annual interest in an online savings account that only has a 0.3% interest rate?
8. Should we use the $1400 instead to buy 100+ fast food meals, 2 shares of Tesla @ $674, or 5 shares of GameStop @ $247?
9. Easy come, easy go. Am I right?
10. Human sacrifice? Dogs and cats living together? Mass hysteria?
Humans needlessly sacrificed, dogs and cats living together, mass hysteria. It's been quite a year.
The following chart shows nonresidential construction employees divided by residential construction employees.
With record low housing inventory, record low mortgage rates, a Fed committed to ZIRP for the foreseeable future, and a potential permanent increase in working from home, an acceleration of the downward trend in the chart seems inevitable to me.
Will history repeat? Will 2010 to 2027 play out exactly like 1990 to 2007? Will our next financial crisis be another housing bubble disaster? Will the Fed step in to save the economy with even more ZIRP in 2027? Will long-term Treasury yields continue to temporarily scream higher in a futile effort to resist the overwhelming long-term deflationary forces?
Tune in next week for another exciting episode of Soap Bubble!
It is very interesting, at least to me, that prices have consistently been growing linearly (and not exponentially). On average, the consumer price index has been growing by about 4.4 points per year. Was true when the index was only 100. Was still true when the index exceeded 250.
Should the trend continue, the average growth rate of 1.72% per year over the last decade will fall to 1.56% over the next decade.
Of course, the trend won't necessarily continue. And if it doesn't continue, which way will it fail?
I'm leaning heavily towards eventually failing to the downside like Japan. Even if I am ultimately right (certainly not a given), eventually is a very hard thing to time. *shrug*
Posts
