If 2020 was dominated by the huge human costs of Covid-19, the years ahead will be all about the nasty and dismal economic aftermath, including the massive Tsunami wave of US debt and corporate debt.
During 2019, the assclowns spending fools in Congress
suspended the debt ceiling until after the 2020 presidential election (bless
them). While they sought to avoid a repeat of the 2011 and 2013 debt crises
during an election year, new spending contributed to King Trump’s new military
rearmament push. Now the new
Congress must decide the future of the debt ceiling by the summer
2021.
By the end of this year Covid 19
cases worldwide could be heading into the 80-100 million. As a result of utter
mismanagement, and we could easily exceed 20 million. While this nasty pandemic
continues to spread and the health system becomes more overwhelmed, the King-Trump
White House has taken upon themselves record amount of debt at
a record pace.
Remember that during his campaign, King Trump pledged to eliminate our national debt completely in 8 years. At the time, total public debt was closing in on $19.7 trillion. In the past 4 years, it has rocketed to more than $27.7 trillion, a staggering $8 trillion.
Of course, all major economies have taken record amounts of debt during this nasty global pandemic. But the United States is not like other economies. First, it has more Covid-19 cases relative to all other major economies. The US remains the world anchor economy. The, US dollar dominates international transactions. As a result, massive excessive US debt will have a disproportionate nasty economic global spillover.
Due to the lecherous enabling manipulative FED, depressing
interest to near “0” screwing over savers and others as a share of GDP, the
cost of servicing US debt has deteriorated since 2000, even as federal the
amount of debt has ballooned. The incessant manipulative environment
of low-interest rates has made it far easier that it should be to service
and pay down the massive debt
loads. Nevertheless, the likely policy stance of the Biden administration whether
implicit or explicit, will likely be predicated on unsustainable debt-taking
in the future.
According to the recent projections by the nonpartisan Congressional Budget Office, federal debt held by the public will surpass its historical high of 106% of GDP in 2023 and will continue to climb thereafter. By 2050, debt as a percentage of GDP (a vastly undervalues matrix) will amount to close to 200% of the GDP. Despite peaceful conditions, it is already at the level is seen during World War II; by 2050, it could be twice as high
Worse yet, our debt is likely to increase far faster than most so-called gurus anticipated (JMHO). Current projections do not include the actual costs of the pandemic stimulus packages, for one.
Deficits will more than double from an average of 4.8% of GDP from 2010-19 to excess of 10.9% through 2041-50 adding to more debt. As a result, net spending for interest will account for much of the massive increase in total deficits in the past two decades. In the CBO’s projections, growth in outlays will continue and accelerate to outpace growth in revenues, resulting in larger and larger unsustainable budget deficits over the long run...measured as a share of GDP, net spending for interest could increase 4x to 5x over the last 2-decades of the projection period.
The New Biden administration has promised to be tough on China, Russia, and several other countries, which could translate to rising defense and security costs which, in turn, would further amplify our ballooning a massive wave of debt, twin deficits and real interest rates. Remember what history has taught us repeatedly that when great powers fail to balance their wealth and their economic base with their military power and strategic commitments, they risk vast overextension. In the coming decades, that will likely become a US risk.
Meanwhile, the general investing retail crowd is partying like its 1999 donning massive rose-colored glasses on in both the stock and especially the massively growing option derivative markets. Historically, when these two combinations meet it does not end well for herd-chasing newbie investors.
In today's weekend report, I will dive into each of my premises as to why in greater detail, using both hard data and anecdotal reports. All signs point towards a mania on parity with the Great Dot-Com bubble. That leaves extraordinarily little long-term upside, and significant downside risks in today's overheated stock market.
Perhaps the most ironclad law of financial markets says that valuation is providence. While valuations cannot tell you what prices will do next month or even next year, they do a good job of providing information for the long-run return expectations for longer-term buy and hold investors.
One of the most reliable valuation
metrics for gauging future returns is the CAPE (cyclically adjusted price to
earnings) ratio. This ratio compares stock prices against their average
earnings over a trailing 10-year timeframe, also its adjusted for inflation.
Historically, the CAPE ratio provides an extremely accurate indicator of future
returns:
Thus, when the CAPE ratio is high, you can expect significantly
lower future returns over the next 10-year time horizon and vice versa. That is
bad news for anyone long the broader market today, given that the SPX-500 CAPE
ratio now exceeds the peak reached in 1929 just before the Great Depression ensued.
But wait, did not I say the most expensive stock market ever
and the chart indicates that the Dot-Com Mania was distinctively higher...well,
it all depends on which valuation metric you choose. Yes, it is true that the
CAPE ratio was briefly higher at the peak of the Dot Com bubble but there is
just one problem: what if the definition of real “earnings” changes over time?
That's precisely what's happened in recent years, given an massive epidemic of
fake engineered (through stock buybacks)! As far-far-too many firms are addicted to
making creative accounting modifications that increase operating profits known
as EBITDA (due to self-serving greedy CEO’s and CFO’s) and investors are again turning
a blind eye...as I have repeatedly pontificated about!
In months/years past a growing proportion of reported profits have been blatantly engineered and manufactured by adjusting away very real costs of doing business and using stock buybacks fueled by debt. We saw a similar ploy in the final years of the Dot-Com bubble, in the form of earnings restatements (I use to cringe when I saw such). As the herd of locoweed feeding investors were led to believe in 1998 into the 2000 period that profits were rising, but when future revisions were considered, they had in fact been lackluster at best or falling.
One way to avoid falling prey to such a trap involves simply valuing stocks on sales instead of earnings. The reasoning is of course logical and straightforward: it is much more difficult to massage revenues than it is for earnings (trust me). Using the basic price to sales ratio, the SPX-500 today trades at its richest valuation ever - even exceeding the Great Dot-Com bubble peak!
The CNBC hyping bullish cheerleaders argue that the market is a forward-looking mechanism, and the data points presented so far are all backward and present conditions looking.
So, let us consider the forward
earnings outlook. Coming into this year, the FactSet consensus analyst estimate
pegged 2021 SPX-500 profits at $196.70. Today, the same analysts forecast 2021
earnings of just $169.20, per the latest FactSet
data.
Meanwhile, the S&P 500 is up more than 10% YTD despite the forward earnings outlook dropping by 14%. If the market were rationally pricing in future earnings at a constant multiple, you would expect prices to be roughly 25-30% lower. And even then, we would still be at the high end of the historical valuation spectrum. Of course, I have talked about lofty valuations as a reason for caution since at least 2018... and yet, the market continues marching ever higher. But the key difference between 2020 and the past few years of stretched valuations is the sea change in market sentiment and overall speculative fervor has become rampant
For the prior several years, the market has been missing one
key element needed to mark a potential euphoric top: the “cabbie” indicator.
You know it is time to sell when cabbies give you stock tips that cannot lose
and are perceived to only rise into the stratosphere (when this happens this
bull market is over). As market manias do not die due to massive overvaluation;
they only die when speculators can no longer find another willing bag holder “greater-fool” to buy at ever-higher prices. When
every marginal speculator has ventured into the shark-infested pool and is basically
fully committed to this one-directional FED manipulative market. When you can
no longer walk down the street without getting a stock tip, it is an obvious
sign that the supply of new locoweed infested/induced herd of speculators is
running extremely low as everyone is already in the game (believing no one can
lose).
Remember that it was common
knowledge that stocks were grossly overvalued for several years before the peak
of the Dot-Com bubble in March of 2000 (I issued my
world-class SHORT / SELL alert [I was early by 3+ months the day after
Thanksgiving of 1999) even Fed-head Greenspam famously called out
the stock market's “irrational exuberance” in 1996...but we were not constantly
hearing about our so called neighbors or their kids getting rich on the latest
Dot-Com IPO, or your co-workers quitting their jobs to become day traders....fast
forward to 1999, and all of these things were now happening. I remember reading a TIME article referencing
that Barton Biggs, an analyst at Morgan Stanley Dean Witter, confirming wherein
he laments the story he sent to clients about his plumber, who is so busy
trading he will not come to his house to fix a leaking pipe. He also spoke
about the guy “cabbie” leafing through Barron's for that day's stock trade. It
was an epidemic, which was extremely alarming to me. And as I have mentioned
that was the “cabbie” indicator I often relief upon flashing bright RED in
1999, and that is exactly what is been missing from the current bull market
monster rally until now.
But before you can fully appreciate the speculative fervor I am speaking about here as we close out 2020, it helps to first step back and consider the massive driving forces that are propelling the markets here. And once again, we can draw lessons from the Greenspam massive liquidity pumping into Y-2K that fueled the Dot-Com era.
Also, remember before the internet, trading stocks meant
physically calling your stockbroker and paying hundreds of dollars for each
transaction. If you wanted live stock quotes, you had to pay thousands of
dollars, or call up your broker to manually check prices one stock at a time.
These barriers effectively prevented an entire class of Americans from
speculating in the market. But everything changed with the rise of the “Al Gore”
internet in the 1990s. For the first time, the vast majority of average Americans
could monitor their favorite stocks and trade instantly with the click of a
button. Online trading also helped as they dramatically reduced overall brokerage
commissions from around $70 per trade in the early 1990s down to
around $14.99 by 1999 so my slippage dropped considerable. The combination of vast
lower transaction costs and greater ease of access unleashed a record “speculative”
boom in retail participation in the markets by “cabbies, stay-at-home-moms, and
others”. By 1999, almost 10.5 million Americans were now trading stocks online.
These new retail traders and the FED provided the critical fuel for inflating
the Dot-Com bubble, and of course, we all know how that story ended...
Now fast forward to 2013, a mere 4-years after the great TBTF banker led Great-Recession a new hyped incessantly new bull market was emerging just as the Millennial generation began entering the workforce. We saw that significant progress was made lowering trading fees, but investors were still paying $4.99 to $9.99 per transaction. Then a market disruption came in April of 2013, when a service called Robinhood launched its zero-commission mobile trading platform, with no minimum deposits required (they just allowed others who paid a fee to see order flow and step in ahead of their clients) Interestingly Robinhood also offered the unique ability to instantly trade even as deposited funds were supposedly being processed. So a psychological instant gratification system was built into the platform, including the highly gamified trading interface, which many describe as addictive and encouraging of speculative behavior (how could that happen by chance 😊) within a mere five years, Robinhood had amassed over 3 million users, or roughly the size of E-trade. This parabolic rise forced a competitive industry into making a simple choice: follow Robinhood's lead, or risk losing even more market share. The industry relented in October 2019, when Schwab matched Robinhood's zero commission fee structure and within mere weeks, Fidelity, TD Ameritrade and E-Trade all followed Schwab’s lead. Then bang almost overnight, free stock trading went from a niche product to industry standard.
The result: by late 2019,
practically all remaining cost barriers to stock market speculation had been
erased. For the first time ever, anyone with a few dollars and a smartphone
could download an app and begin instantly trading stocks, options, and even cryptocurrencies.
And they believed it to be child’s play. That was some of the fuel along with
the FED’s free-flowing liquidity that sat waiting for a spark... and it was a
short wait for the spark...as when King-Trumps and the various governors
started their lockdowns in response to the Covid-19 pandemic which started in
March 2020, millions of newly unemployed Americans found themselves without a
job, a government $1,200 stimulus
check and extremely generous unemployment benefits ($600 a week over and above state benefits) and few if any solid
options for leaving the house and to be in potential harm’s way of Covid-19. As
far too many found themselves out of a job without benefits, and extremely
limited options for replacing that lost income. And the government was handing
out bailout checks to any firm that wanted one whether they needed it or not,
and the FED was backstopping reckless debt issuance... It was the perfect force
5-hurricane storm that unleashed a record flood of new money, and importantly retail
money into the stock markets and it was aided by the hyping financial media who
projected Dow 50,000 and Nasdog 40,000 and the SPX-500 should rise to 6,000 and
I am not just talking about a Robinhood phenomenon. Every major brokerage firm
reported record new account openings in the first quarter of 2020:
Basically, the Covid-19 pandemic
produced the “cabbie” moment that transformed a bull market into an outright raging
incessant mania.
I am quite certain that the recent boom in retail trading has been turbocharged by the elimination of retail commissions. Interesting that for far too many Americans the stock market has become an economic lifeline for replacing lost income during the Covid-19 pandemic. It is not just the younger generations catching day trade fever. A Wall Street Journal reporter recently described how the pandemic turned her parents into day traders:
During my four years writing about financial markets for The
Wall Street Journal, my parents and I almost never discussed stock trading...
When I returned to Iowa to visit them in August, it was all they wanted to talk
about. I hope that you get the picture. For the first time in this very long in
the tooth long bull market, the “cabbie” indicator is flashing red. We are now at that point in my
opinion in this highly manipulated bull market when novice investors are
aggressively speculating in some of the market's riskiest plays; and for the
most part they are playing a game that's unwinnable as they speculate on
short-term stock price movements. Sure, some will succeed but 90%
of those who try will fail. Unless it's different this time, when any
amateur can suddenly become a “master” successful day trader overnight, it's
almost certainly an indicator of a massive type of mania. If only 10% of day
traders succeed in the stock market, you can probably cut that number in half to
5% in the options market the deep end of the riskiest cesspool pool, where
retail traders have recently piled into in mass. Once upon a time, the options
market was originally designed to provide institutional investors the
opportunity to hedge portfolio risk. It also provides the opportunity for
speculators to make leveraged bets on stock prices. However, the odds are
heavily stacked against the options speculator, for many reasons as the
speculative option buyer is always fighting both time and the spread between
the underlying stock price and the option strike price. But during a mania, the
pay-off in call options can be huge as we have seen of late. So do to the GREED
emotion we have seen that this upside potential has attracted the same
speculative fervor among retail traders that we are seeing in the stock market.
In many ways, this record call buying activity adds more fuel to the melt-up in
the underlying stock market.
My premise is simple: it is not different this time. When the price momentum ultimately reverses, and it will there is major downside risks 30-50% in today's stock market. I advise that you all exercise extreme caution is advised.
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