Is our Crash Alert flag still flying? We hope so. It’s been up the pole for so long, waiting patiently for the stock market to fall, we’d hate to miss it when it finally happens.
Stocks sold off after the 30-year Treasury bond hit a record high and the yield curve well and truly inverted. The Dow-to-Gold ratio sank below 17.
The index measures the fundamental inclination of the economy, by comparing gold to stock prices.
When the economy is healthy and growing, people buy stocks and the index generally goes up. When it is fearful and correcting its mistakes, they buy gold and the index goes down.
It now takes 16.8 ounces of gold to buy the Dow stocks…down from 40 in 1999 and 22 in 2018. Our guess is that it will continue going down until you can buy the Dow stocks for less than 5 ounces of gold.
A further guess is that this long decline in the Dow-to-Gold ratio (aka the Greed/Fear gauge) over the last 20 years marks not only the decline of America’s leading companies, but of America itself…
Long fuse
History books will record that by 1900 the US was the world’s largest economy. By 1950 it led the world by almost every measure. By 1989 it no longer had any serious rivals. And by 1999 it reached its peak.
Since then, it has been losing market share, losing wealth and power, and losing the small-government, open-market, free-enterprise spirit, customs, and institutional advantages that made it such a success in the first place.
But we’ll come back to that tomorrow…
Today, let’s look at the yield curve and what it means.
Ten times since 1950, an inverted yield curve (with yields on long-term bonds lower than those of shorter-terms) has signalled a recession.
But don’t worry, say the stock pushers on TV. A recession has a long fuse.
Between the time the fuse is lit by an inverted yield curve…and the time the stock market blows up…investors usually have 18 months to take their profits. And it’s not unusual for stocks to hit a new high during that period. So it’s still Party On!
But this is now the longest economic expansion in US history. Having delayed and denied a correction for so long, and having caused so many absurdities and abnormalities, a real bust may not be willing to wait.
And in any case, when a theatre burns down, it’s better to leave the show early rather than later.
Simpleton’s faith
An inverted yield curve is an odd thing. Time is inherently a destroyer. It degrades everything…Milk goes sour, buildings crumble, machines rust, mountains dissolve, and people grow old and die.
When the interest rate on long-term loans is lower than the interest rate on short-term money, it implies that fewer things can go wrong over 30 years than over the next 30 days.
But there it is…The 30-year US bond now trades at barely more than 2% — less than consumer price inflation. In other words, a buyer, if he holds to maturity, is guaranteed to lose money.
Worldwide, another $16 trillion worth of bonds now trade at negative yields in nominal terms.
That is not just a market oddity; it is an outrage.
With a simpleton’s faith in their own hocus-pocus, central banks all over the planet have mispriced the world’s capital, pushing rates into negative territory. Of the world’s major government bonds, only the US still offers positive (in nominal terms) yields.
Large, institutional players — pension funds, trusts, insurance pools — need to get some yield on their money. So they go to the US bond market…thereby raising US bond prices and lowering yields.
This causes the yield curve to ‘invert’…which causes stock investors to sell in anticipation of a recession.
Blame the Fed
Meanwhile, Donald J Trump has used the stock market as a proxy for his own performance.
We predict that he will continue to do so…as long as stock prices are going up. When they go down, he will blame the Federal Reserve. Bloomberg:
‘President Donald Trump called Federal Reserve Chairman Jerome Powell “clueless” and blamed his policies for signs in the bond markets that a recession is looming.
‘The president tried to deflect criticism that his trade war with China is harming the economic outlook, as stock markets tumble and bond yields show signs of an impending global slowdown.’
He is surely right that the Fed is ‘clueless.’ But they are all clueless…Democrats and Republicans.
They — including the ‘low-interest-rate guy’ in the White House — have created a world that depends on more and more inflation…lower rates, more credit, bigger deficits, more fake money, and more debt.
The arguments between them are only on matters of technique: Did the Fed cut rates soon enough? Did the Chinese let the yuan fall too much? Should Congress provide more money for the military…forgive student debt…or give everyone a guaranteed income?
Awaiting the barbarians
But the real problem is not a lack of inflation. It’s a lack of integrity.
The feds can add as much fake money as they want. Zimbabwe tried it. Venezuela is trying it. At one point or another, almost all countries give it a go.
But as we’ve seen, the more they inflate the money supply, the more it distorts prices and disfigures the economy.
GDP growth rates go down. ‘Inequality’ goes up. Debt increases. Savings go down. Capital disappears.
This is not a sustainable model for growth and prosperity. It leads only to a bubble…and a bust…and worse — including a breakdown of civilised behaviour.
What the economy really needs is neither more fake money nor less fake money, neither higher interest rates nor lower interest rates…
What it needs is honest interest rates — discovered by savers who offer their real savings…and borrowers who bid for it with real money.
In the meantime, we watch the markets…and await the barbarians. We get the news like the homies in Rome in 454. The Vandals are on their way, say the headlines.
But don’t worry, our armies will meet them…and give them a good thrashing.
Stay tuned…
Regards,
Bill Bonner