The Morning Line

The Morning Line

Something’s Got to Give

For nearly a year, I’ve promoted the idea that the post-covid bull rampage would end when Microsoft shares hit $430. They effectively achieved that benchmark on Friday with a pre-dawn print at 428.95 that gave way to a $16 plunge. If this was not THE top, it certainly felt like A top, and a potentially important one. However, before we draw any conclusions, let’s see if the selloff gets legs, since we don’t want to underestimate the power of a market that has been in the grip of mass psychosis since October. If there were any doubt about this, consider how stocks have rallied into the Fed’s decision to stay tight even after investors had deluded themselves into expecting aggressive easing in 2024.

Originally I’d picked Apple as our infallible bellwether, because it is the most valuable company in the world, and because its shares are so heavily owned by institutions. But so are Microsoft’s, with a key difference:  Although iPhone sales are poised to implode in the severe economic downturn that’s coming, Microsoft is unlikely to feel much pain even in the hardest of times. That’s because revenues from Microsoft 365 will continue to flow from more than 60 million subscribers, regardless of the economy’s condition. The company’s earnings are nearly bomb-proof, and that it is why it is arguably the best stock in the world to own, as well as the most important stock to follow. When it is rising strongly, the broad averages cannot fall; if it falls, it will take the broad averages with it.

What If?

However, the technical picture is not complete without considering the very bullish chart of the S&P 500. It says that before the 15-year-old bull market ends, the S&Ps are likely to hit 6118.34, a 20% gain from current levels. How do we reconcile this with signs that MSFT may have peaked? A plausible answer is that both are topping but will resume their respective uptrends after significant corrections. A hard fall seems likely for Microsoft, if not necessarily for the S&Ps, because the software giant’s ABCD uptrend is so clear and compelling. It’s tempting to say there’s no way MSFT will simply blow past $430 without a struggle that features a punitive selloff and then a running start to new all-time highs. If so, the bull-market target would rise to 456.88, a Hidden Pivot derived from extending the pattern’s C-D leg to its maximum theoretical length. That would avoid having to use the bigger pattern’s puny December 2018 low at 93.96 as the starting point for the biggest bull market of them all. We’ll revisit this conundrum if and when MSFT gets second wind following a correction from these levels.

P.T. Barnum Would Have Loved Bitcoin

Bitcoin mania looks likely to blow itself out at somewhat higher levels. The bitcoin ETF chart above suggests buyers will encounter significant resistance at 64.95, a Hidden Pivot target that lies 5% above Friday’s closing price. If this impediment gives way easily or is exceeded for two consecutive weeks on a closing basis, however, you can expect more upside to the alternative target at 70.35.  That’s fully 14% above these levels, and although that might seem to portend a powerful move, especially if it occurs in a matter of days, it would probably come as a huge disappointment to countless bitcoin fanatics who have been weaned and nurtured on predictions of $100,000 or more.

I doubt we’ll see anything like that, especially since the shitballs who control bitcoin, Black Rock chief among them, will have reaped more than their directors could spend in a thousand lifetimes if it climbs ‘only’ another 14% . It is for their benefit that regulators approved bitcoin ETFs in the first place, making the cryptocurrency affordable to riff-raff who had been priced out of the market even at its bear-market low near $15,000 in January 2023.  Fractional ownership, including with leveraged options, made it possible for kids who were collecting Pokemon cards just a few years ago to become players in the global casino.

Virtual Tulips

It’s hard to imagine how high tulip-bulb prices would have climbed if Dutch teenagers had had access to virtual tulips in 1637, when the mania peaked. We are going to find out, though, when the crypto blowoff sputters out, as all manias eventually do, for lack of greater fools. In the meantime, here’s a link to a recent interview I did with Howe Street‘s Jim Goddard. It explains why bitcoin would be more reasonably priced at $1-$2 instead of $70,000-$80,000.

Full disclosure: I was involved in a crypto scam myself that promised to triple one’s stake in three years. It paid off not in dollars, but in crypto-credits that could be redeemed for Ethereum, which in turn could be swapped for actual money.  Unfortunately, when bitcoin collapsed from $70,000 to $15,000 in 2022, my credits, along with nearly all of the 2000 boutique flavors of cryptocurrency that had come to exist at that time, became worthless. I lost only a few thousand dollars, however, because I signed up mainly to see how the scammers, mostly young Asians, worked the grift rather than to make a quick buck.  I remain impressed to this day by how these ass-bandits were able to hang tough for long enough to rip off the public much worse this time and to vastly expand the pool of suckers far beyond anything P.T. Barnum or Bernie Madoff could have imagined.

The Dregs Take Flight

The endgame inched closer to singularity last week with rigged rallies in stocks that had rightfully been given up for dead.  There was the more than doubling in the price of Beyond Meat, for example.  Until last week, shares of the veggie-burger upstart seemed content to scuddle sideways on a tortuous path to death. At $7 a share, the stock had lost 97% of its value since peaking at $240 after its 2019 debut  When it was apexing, Wall Street incited the usual wack-jobs into believing that meatless burgers were the food of the future. Cattle ranchers parried this nonsense with a campaign that emphasized why real meat was better for you. They needn’t have worried, however, since most people had already discovered that real meat also tastes a lot better.

Carvana is another stock to have received premature last rites from Rick’s Picks. Consumer complaints about the used car dealer had been piling up mountainously, like grievances against the airlines, causing the stock to pancake from $376 to under $4.  Its clever handlers managed to waft it back up to $40, which eventually became a launching pad for an undeserved pop last week to $80. Watch for freaked-out shorts to continue covering their bad bets in the weeks ahead, giving the stock an artificial boost before it finds well-deserved obscurity in the low teens during the next recession.

Two Kinds of Sardines

Even so, if Carvana had just one Pontiac Aztek or an AMC Gremlin sitting on a lot, the company’s intrinsic value would exceed that of the world’s entire supply of bitcoin. This inconvenient fact seems not to have deterred speculators from bidding up BTC to $64,000 last week, where it sat poised to take on the all-time high at $70,000 recorded in November 2021.  We expect the price to hit $80,547 before the fact of cryptocurrency’s near-worthlessness begins to dawn on speculators, and not for the first time. Indeed, a friend who is a demon-genius with numbers calculated that bitcoin if correctly priced would sell for around $1.38 per copy. This valuation is based mainly on the blockchain’s usefulness for recording financial transaction securely. So far, though, the only other argument we’ve heard for why bitcoin should be worth anything is that it is scarce. But money it ain’t. It is universally hoarded rather than spent, recalling the old joke with the punchline: “These aren’t eatin’ sardines, these are tradin’ sardines!”  In any event, we’re inclined to agree with Warren Buffett, who evidently thinks cryptomania will not end well for those who own it at these heights.

The Fallacy of the Wall of Worry

So much for the wall of worry!  Optimists and visionaries supposedly climb it while ignoring troublesome signs that leave most investors on the sidelines, paralyzed with fear. Last week, as soaring shares of Nvidia tugged stocks higher around the world, speculators swarmed the wall like cockroaches gorging themselves on dried beer, glue and animal feces. Do insects ever pause to worry? More likely is that even the dark shadow of a size 14 shoe descending on their wretched banquet would not quiet the feverish din of a hundred thousand mandibles crunching away.

And so it is these days on Wall Street, scene of an epic wallow that is far removed not just from worry, but from reality. The so-called Magnificent Seven — we have always referred to these stocks, more appropriately, as the Lunatic Sector — all by themselves created more than a trillion dollars of ‘wealth’ in just the last week or so.  This occurred when stocks took volumeless leaps on earnings announcements whose details, whether bullish or bearish, were of scant concern. No one maintains any longer that this is rational behavior. But leave it to Wall Street’s hype machine to tell us that earnings eventually will catch up to the craziness. Really?

Celebrate This!

The megastocks have gone vertical at a particularly unsettling time.  Commercial real estate is collapsing, government is doing most of the hiring, brutal price increases for nearly everything have crushed middle-class purchasing power; and borrowers, led by the U.S. Treasury, will need to refinance more than eight trillion of debt this year at significantly higher rates. To make matters worse, inflation is poised to take off again, in part because of higher costs incurred by shippers avoiding Houthi missiles in the Suez.

Under the circumstances, it is far more likely that the next move by the Fed will be to tighten, not loosen.  This should have caused investors to knock down stock prices by at least 10%-20%, especially since they began the year expecting the FOMC to ease credit seven (!) times. Wall Street, Europe and American businesses have been counting on it, but Powell has stood firm.

So how do we explain the hyper-bullish reaction to the most negative scenario investors could have imagined just a few months ago?

Mass Psychosis

Let’s start by ruling out the idiotic notion that stocks have been climbing a wall of worry. It could not be clearer that mass psychosis, currently at a civilizational apogee, is behind the bullish rampage; that it is oblivious to economic data, no matter how grim; and that it is as clueless about the future as Wall Street’s shills and media lackeys. We’ll also need to ratchet down AI hubris, since, let’s face it, the technology has yet to elevate two widely used applications, Spellcheck and Autocorrect, to the level of imbecile, let alone produce a driverless car.  To be sure, AI’s laughable mediocrity won’t hold back its commercial success, since it has the potential to replace half the drones in our workforce. In practice, though, we’d be stuck with massive unemployment and the realization, even in the greediest precincts of Wall Street, that jobless people don’t buy enough goods and services to keep the economy afloat.

If Nvidia is perceived as having all the answers, as its $2 trillion valuation would seem to suggest, investors are not asking the right questions.

The Coming Crash of Bigness

[Globalism has peaked, says my colleague James Howard Kunstler, and with it a trend toward corporate bigness that has all but extinguished quality and vitality from the marketplace.  Bloated corporatism is about to come crashing down, he says, in a process of creative destruction that will allow us to rescale the economy so that it better serves our needs as individuals.  With his permission, I have reprinted his most recent essay, Think About It, from Clusterfuck Nation.  On Amazon, here’s a selection of his brilliantly insightful books, many of them bestsellers  RA ]

***

“It’s not enough to be against globalism or the WEF, we have to also be for something better.” — Tom Luongo, Gold, Goats ‘n Guns

Mr. Luongo makes an important point. I want you to think about this: There is a reason that the WEF-Globalist cabal is losing the battle to control and dominate the rest of us. They are trying to power straight into the opposing currents of reality. Above all, they seek to centralize power and decision-making. But the world is moving in the opposite direction. All of the WEF’s aims founder on the macro trends unspooling in history.

The rising rule for human affairs now is that anything organized at the giant scale is going to wobble and fail. There will not be any world government run by the creatures of Davos or Brussels, or Washington DC, or any other place that the grandiose imagine would be their seat of global power. It’s not going to happen, so you can stop worrying about it. But you’d better prepare for what is happening: everything in our world wants to get smaller, slower, finer, and more local. Anything that opposes these trends is pissing into the wind.

Since every activity we humans practice has to move in that direction, we are seeing colossal industries, institutions, and arrangements crack up: everything from national government to long-distance supply chains to giant retailing outfits to worldwide business networks to overgrown universities and high schools to transport matrices to metroplex cities to mega-farms to political parties.

Where the Rot Is Greatest

Where the rot is probably greatest, but more veiled for the moment, is in the operations of organized capital, the banks and money systems, including financial markets. When these monsters blow, as they must, all the others will shake, rattle, and roll. They have to blow because the fuel tank is emptying.

American oil production may be at an all-time peak now at about 13-million barrels-a-day, but most of that — about 8-million — is shale oil, which is a manifestation of our tremendous debt roll-up since 2009. Now that we’re at the absolute limits of debt, we’re also at the limits of shale oil. The production of shale oil paralleled the accumulation of all that debt both in size and rate of increase, and as the debt goes bad — meaning, unpayable — the organized capital sector will blow and shale oil production will fall as sharply as it rose. It is also a fact that shale oil is subject to natural limits — we’re out of “sweet spots” to drill.

That’s America. Europe is way worse because aside from whatever oil is left in the North Sea (not much), Europe has no oil. Europe’s largest gas field — Groningen in the Netherlands — is scheduled to cease operations in October of this year. You all know what happened to the Nord Stream pipelines. And then Germany, in some psychotic fugue state, shut down its entire nuclear power industry, while France is just not replacing its nuke plants as they age-out. Europe is completely screwed. They won’t have anything we might call modern industry. In the meantime, the WEF is playing them like a flügelhorn, keeping them distracted with “green” politics, an unchecked immigrant invasion, and sexual confusion.

The ‘Secret’ About Biden

A lot of the same nuttery afflicts us in the USA, of course, but none of that alters the real macro trends. Our federal government is not really getting more powerful, it’s cracking up, starting from the very top, with a mentally incompetent president — the secret that everybody knows. Agencies like the DOJ and Homeland Security may seem more tyrannical for the moment, but they are actually breaking as institutions because in their lawlessness they’ve lost the trust of the people — and nothing is more fundamental to a civilized society than trust in the law. That’s what consent of the governed  means.

So, the period of disorderly transition we’re in is not moving toward greater dominance by giants, but to the survival of the small and nimble. We will not see capital formation like the orgy of recent times; rather the vanishing of things falsely presumed to be capital, contraction not expansion. You’ll be struggling to identify and preserve real wealth, which you’ll find in unexpected places, like the friends you can count on, your reputation for honesty, your dependability, acquired skills, and your health, physical and psychological.

The WEF won’t be able to impose its Globalist nightmare of elite transhumanism and surveilled bug-eating serfs, and they know it now. They’re running scared. The vile Yuval Noah Harari has even said so publicly. The political figures and agents serving that cabal will be lucky if they are not hanged in the public squares. The political criminals here in America, the hoaxsters, the grifters, the seditionists, the Lawfare agents, the election fraudsters, know very well the danger of their looming prosecutions, and that’s exactly why the Democratic Party and its blob henchmen and flunkies are acting like desperate lunatics.

Failed…Everything

Expect: failed national governments, maybe even state governments; failed supply lines; failed electric supply, failed trucking, failed big box stores, failed supermarkets, failed giant companies; failed banks, failed investments, failed money, failed news orgs, failed airlines, failed car dealers, failed hospitals, failed colleges, and much more. But don’t discount human ingenuity and resourcefulness, our ability to work-around and reinvent systems for daily life, even if it’s on a downscaled and more modest level.

Expect rebuilt local economies from production to wholesale to retail. Expect smaller stores, fewer things to buy but much of it better quality. Expect a lot less long-distance travel but a lot more happening in your locality. Expect the rebirth of local culture — theaters, live music, news-sheets, dances — to replace all the canned entertainments we’re used to. Expect small private academies to rise to replace the shuttered central schools. Expect small, local clinics to appear from the ashes of the medical conglomerates. Expect Americans to return to churches as an organizing mechanism for community relations. Expect more formality and less slobbery in public. Expect all of us to feel a renewed sense of gratitude for being here instead of rage, resentment, and grievance, because it’s likely there will be far fewer of us around.

Even Bulls Are Getting Nervous

However high stocks climb, there will always be an earnest, bespectacled egghead on Wall Street ready to tell us why shares are likely to keep on rising. Here’s Yung-Yu Ma, chief Investment officer for a firm called BMO Wealth Management and a finance professor at Lehigh University: “A better economy, healthy profits and lower inflation,” he avers, are what have powered the stock market to its fourteenth gain in the last 15 weeks (a feat last accomplished 52 years ago), Better, healthier and lower than what? one might ask.  If Mr. Yung is comparing the U.S. economy to that of Venezuela or West Virginia, then he is more or less correct: We are living in a relative economic paradise.

But at what cost?  It has taken $2.5 trillion in fiscal stimulus to keep the U.S. out of statistical recession. This sum unfortunately has not slowed the commercial real estate market’s inexorable drift toward collapse. The coming plunge is certain to be steep, since more than $1 trillion in commercial mortgage loans will have to be refinanced over the next two years, at significantly higher rates and with property values already eroding dramatically.

To add force to the incipient downturn, layoffs are growing not just among world-beaters like Amazon and UPS, but in Silicon Valley. It is hardly reassuring that an ostensible offset — a supposed 353,000 jobs created in January  — came mainly from a sector that produces exactly nothing: government.

Permabulls Nervous

Small wonder, then, that the stock market’s unjustified rise should have begun to worry even permabulls. Like the rest of us, they understand that the revelry has to end sometime, probably sooner rather than later. It is foreseeable that a top in the market will bring these illusory boom times to a halt, pushing the economy — and with it, let us hope, Taylor Swift hubris — into eclipse. What could be more quintessentially American than having a blowout Superbowl mark the end of the party?

At the same time, MSFT has climbed to within $10 of a $430 bull market target Rick’s Picks has been drum-rolling for months. We are still predicting that this is where the bull market will end, but with a caveat: a headline forecast from some guru will never, ever get it exactly right, at least not in a way that is going to make everyone rich. The vintage IBM chart above describes an alternative scenario that will remain viable as long as there is a Mr. Market to severely rebuke the sin of hubris.

Notice that IBM initially turned down from within a millimeter of a bull-market Hidden Pivot target at D. A tumble ensued as expected, but after a short while, Big Blue bounced with the kind of manic vigor one expects from bear rallies fated to die. Lo, two months later, it feinted to a marginal new, record high, forcing bears to cover and bulls to believe the stock was blasting into outer space. The devastating avalanche that followed could only have occurred if investors were all-in.  Keep this chart in mind if MSFT appears to top at $430. I am confident that a tradeable peak will occur at or near there. If it does so in the deceptive way IBM did, at least you won’t be caught unawares.

Wall Street Guns Its Perpetual Motion Machine

Here are a couple of headlines concerning the economy that appeared atop Bloomberg’s front page on the same day last week. Taken together, they could make one’s head spin. First the happy news: IMF Lifts World GDP Outlook on U.S. Strength. But here’s the article just beneath: UPS to Cut 12,000 Jobs. A case of schizophrenia on the copy desk — or were they just trying to be provocative? Since no mainstream news outlet save USA Today out-cheerleads the economy (and crime-infested Gotham) more obnoxiously than Bloomberg, we can assume that the UPS layoffs were simply too important to bury on an inside page. The company is one of America’s biggest employers, and its ubiquitous delivery trucks are a visual bellwether for the economy — so much so that it would not exaggerate to say, “As UPS goes, so goes the nation.”

Amazon has been laying off as well, but it is predictable that both stories will ultimately get less ink than Facebook’s whoopee-cushion leap Thursday triggered by an earnings beat and some other smiley-face ‘surprises’ from Zuckerberg.  The glorified advertising firm’s shares tacked on an instant $66 after the close, adding a reported $200 billion to the global ledger and $50 billion to Zuckerberg’s

s piggy bank. We’ve discussed these wild but frequent effusions before, and how they contribute enormous sums to the ‘wealth effect’ without altering the economy in any real or constructive way. Sure, a few of the big winners will reward themselves for all their hard work by buying ocean-going yachts and Lamborghinis in crazy colors. But most of the money will get plowed right back into the market, the better to pump still more gaseous wealth into a handful of stocks held unto death by portfolio managers.

A Dollar Krakatoa

Actually, even hydrogen has more substance than the dollars created when stocks get short-squeezed as Facebook did the other day. Such rallies leave huge gaps on the chart, air pockets within which neither money nor shares has changed hands. If that’s not a perpetual motion machine, I don’t know what is. Under the circumstances, the temptation is irresistible for Wall Street’s adroit mechanics to stimulate and reproduce the effect whenever possible. AAPL’s manipulators do it all the time, goosing the stock at the opening several times a month on zero volume. Until Facebook’s huge move, Apple shares held the record for the most wealth-effect dollars created in a single day. Records are made to be broken, of course, and so we shouldn’t be surprised if some other stock in the lunatic sector one-ups Facebook’s monetary Krakatoa before the current mania ends. It’s so much easier than trying to expand the money supply the old-fashioned way — i.e., by having the central bank tinker with interest rates. That requires the sought dollars to be borrowed into existence. The short-squeeze method accomplishes the same goal without effort or even any buying, literally in the blink of an eye.

One record that is certain to be broken and which will make Facebook’s $200 billion tumescence look like small change will be the dollars that vanish into hyperspace when the bubble finally pops. There will be no dollar figure in Bloomberg’s headline that evening, since the losses will be far too large and all-encompassing to calculate, presumably in the many hundreds of trillions of dollars. The good news, if you could call it that, is that most of those dollars don’t even exist; they are just Monopoly money, but with twelve zeros added to each and every bill.

Gold Stocks and the Coming Judas Swing

[This week’s commentary was written by David Isham, a longtime Rick’s Picks subscribers from Northern California who has been investing in bullion since he was in grade school four decades ago. RA ]

Although gold appears to have broken out of a triple top and recently hit fresh all-time highs at $2152, the gold miners are trading at the same prices they were 20 years ago. I believe this strange disconnect is going to change this year, since gold is finally starting to outperform the CRB commodities index, oil in particular. Because energy makes up 60% of a mining company’s costs, this implies the miners are about to become more profitable.
Every bull or bear market has three phases — accumulation, manipulation and distribution. We are in the accumulation phase now, where smart money is accumulating gold mining shares for the coming, multiyear bull market. Next will come the manipulation phase, also known as ‘The Judas Swing’.  Aptly named for Judas’ betrayal of Jesus, in the stock-market world it is defined as a false move preceding a real move in the opposite direction.

Telltale Sign

One of the telltale signs that the miners have embarked on a new bull market will be a show of relative strength if the price of physical gold drops significantly in the months ahead. If mining stocks don’t fall as much percentage-wise, gold investors should take encouragement, since the rise that follows will mark the likely resumption of the long-term bull market begun nearly two decades ago.  Finally, there will be a distribution phase where miners go parabolic and the public jumps in belatedly, buying stocks at or near the top.

No one can say for sure how deeply gold will correct before it turns to embark on a spectacular run-up, but I wouldn’t be surprised to see it take out October’s lows near $1600. That is an obvious place to run stops and clear out long-suffering gold bugs so that bullion can rise with a lightness that is unimpeded by their too-eager profit-taking.

A Date in July

As to when this might occur, there’s an interesting cycle date to watch in July. It is based on an 8.6-year pattern that rules many things in this world, including weather and human behavior.  It’s no coincidence that the average length of marriages ending in divorce is approximately eight years. Add in legal proceedings and you get 8.6 years from beginning to end. Why is 8.6 years a special number? It is equal to 3141 days. Recognize that number? It is pi, so 8.6 years is a circle expressed in time.  Half a cycle is 4.3 years, or 1570 days. If we extend the March 2020 lows in the metals forward by 4.3 years, it takes us to July 2024.  If the metals head lower into early July and then reverse, you can therefore infer that the bull is back.

Onward and Upward for Perhaps a Little Longer

When forecasting stock prices, it helps to view the market as a crazed creature driven by fear, greed, and most of all, stupidity. Of course, everyone but the “theme”-obsessed chimpanzees who purport to manage your money understands that the stock market’s heedless ascent into horrifying news is rock-bottom stupid.  In this case, the very bad news coming is already known: Treasury borrowing over the next twelve months will dwarf anything that has ever been attempted before. “The volume to be financed in U.S. Government debt is staggering, historically unprecedented, and absolutely impossible,” writes my colleague Jim Willie. Nearly $1.6 trillion will be needed to finance outlays for fiscal year 2024, and an additional $7 trillion of maturing debt must be rolled, much of it into paper of shorter duration.  “That comes to around $800 billion per month, when $100 billion has been difficult on a monthly basis,” Willie notes. It will occur at a time when sovereign buyers of U.S. debt, particularly China, have been dumping T-bonds. The extremely heavy auction calendar portends a sharp rise in interest rates that threatens to crush corporate earnings, create a tsunami of bankruptcies and trip the U.S. economy into deepest recession. The shock of it would be made worse by the brazen statistical lies The Guvmint has fed us concerning GDP growth, hiring and the supposed health of the economy. All have been egregiously overstated in an election year, gobs of bright lipstick on a pig.

Triggering ‘Stupid’ 

This grim picture, in contrarian fashion, appears to have triggered the ‘stupid’ factor into overdrive, sending stocks soaring on Friday as though the U.S. and global financial picture were just peachy. How long can this gusher of mass hysteria last?  Once again, I turn to a chart of Microsoft shares for the answer. It still says the bellwether stock, currently trading for $397, is likely to hit $430 before the bull market ends. I first published the chart and target a few months ago, and nothing has changed. The rally went a little wobbly in December, but this gave bulls a chance to stage for a push that has tacked on a 6% gain in the last 10 days.  That’s why I am sticking with a major top at 430, although we’ll need to be alert to a possible stall at 419, the ‘Hidden Pivot target of a lesser pattern. Going public with this target and drum-rolling it for months has probably queered its voodoo magic. But the ABCD pattern from which the target was extrapolated is sufficiently compelling to imply it is highly unlikely to be off by much. Caveat emptor!

Deflating a Weak Argument Against Deflation

Reader Scott Baker took issue last week with my unsettling prediction of a deflationary bust. The mountain of debts that I believe will cause this is really no big deal, says Baker. He quotes economist Michael Hudson to back him up: “Debts that can’t be repaid, won’t be.” That certainly doesn’t sound very menacing. So who will lose if a global banking system holding $2 quadrillion in hyper-leveraged securities implodes?  According to Baker, the pain will fall mainly on supposedly sophisticated investors who failed to perform due diligence.  And fortunately for them, the damage won’t be nearly as bad as I’ve calculated, he says, since the value of all derivatives is probably less than half of the $2 quadrillion figure that is accepted widely, if not universally. Well, okay, I’ll give him a little slack on that. But even if one allows that the size of the market is ‘merely’ $1 quadrillion, that’s still nearly ten times as much as the world produces in goods and services. That can only mean that the collateral backing the market is dangerously thin.  Baker believes the economy could survive the hit anyway, but for a reason that sounds like something Yogi Berra might say: ‘Because derivatives are on all kinds of things…they literally cannot fail all at once.’

A Debt Bomb

The clock is ticking on this debt bomb, and optimism is not going to prevent it from triggering. Nor will any of us escape the effects. The late C.V. Myers, whom I’ve quoted here before many times, has provided the simplest explanation of why deflation is so likely:  Ultimately every penny of debt must be paid — if not by the borrower then by the lender.  To understand why, you need only consider that if, say, students skip out on $1.8 trillion in college loans, or Biden ‘forgives’ them, it is the bondholders who would take the hit. And if you walk way from a house whose value has fallen below what you paid for it — ‘leave the key in the mailbox,’ so to speak — it is your mortgage lenders who will take the loss, as well as every other party to the loan. The derivatives market effectively ties all of us to the loan, even if Baker (and, apparently, many economists) seem not to understand this.

My friend and frequent contributor Richard Charles, of Alpine Capital, clearly does. Here’s what he had to say in response to Baker’s comments:  “Consider the talented man who received the first PhD in Economics from Yale. Joseph Schumpeter described him as ‘the greatest economist the United States has ever produced,’ an assessment later repeated by Nobel laureates James Tobin and Milton Friedman. Irving Fisher declared proudly at the Harvard Economic Club, nine days before the 1929 Wall Street Crash, that stock prices had ‘reached what looks like a permanently high plateau.’ Gifted as he was, it still took Fisher years to figure out what ruined his wealth, business and academic reputation — namely debt default deflation.

Booms and Depressions

“His paper is still fascinating and relevant, with citations from his 1932 work Booms and Depressions. It is interesting that his Econometrica link came from the St Louis Fed, hinting they may recognize a ghost of markets past. On page 367, Dr Fisher, a master of charts, shows collapsing financial indicators at the beginning of the Great Depression, save one: gold stocks. He noted a lag between changes in real and nominal interest rates and business-cycle failures, as well as erratic swings in unemployment such as we have had over the last several years,

‘I do venture to stress most,’ wrote Fisher, ‘the theory that when overindebtedness is so great as to depress prices faster than liquidation, the mass effort to get out of debt sinks us more deeply into debt. I would call attention to new investment opportunities as the important starter of over-indebtedness. Finally, I would emphasize the important corollary of the debt-deflation theory — that economic depressions are curable and preventable through reflation and stabilization.’ ”

Charles thinks there is still time to deal with the threat of deflation.  “It is entirely possible that current market leaders contracting [as stimulus unwinds] may at first lead to more ‘screwflation’ until things stabilize. Historical data for U.S. debt, credit, derivatives and unfunded liabilities suggest it may take a long while to produce a Second Great Depression. “We are in no hurry. As Will Rogers once quipped, it is not so much the return ON investment we should care about, but the return OF investment. Another piece of Rogers’ wit and wisdom: ‘If it ain’t going up, don’t buy it, and if it’s going down, sell it.’ “