In 1999, moviegoers were introduced to computer hacker Neo in The Matrix. One of the most memorable scenes was his meeting with Morpheus, who offered Neo a blue pill, or a red pill. “This is your last chance. After this, there is no turning back. You take the blue pill – the story ends, you wake up in your bed and believe whatever you want to believe. You take the red pill- you stay in Wonderland and I show you how deep the rabbit-hole goes.” For the last 5 years, economists, government officials and traders have been taking the blue pill.
Every single thing that you think you know about the economy or the markets has been a lie. The economy is not improving, but rather showing signs of contraction. For every single point that can be spun as an economic positive, there is a simple explanation as to how that end was achieved.
Economists cite declining unemployment figures as an economic positive. In reality, the number of people out of work remains far above historical averages, and unemployment numbers do not reflect those who have given up on looking for work due to discouragement, therefore the numbers reported appear to show improvement.
Just this week the operator of the Indiana toll-road filed for bankruptcy, citing declines in traffic on both the commercial side and the personal side which has led to decreased toll revenue. This is a devastating indicator, proving that fewer Americans are driving for leisure or work, and fewer cargo and transport vehicles are on the roads than in years past.
Combine a discouraged workforce with young people showing signs of aversion towards debt (specifically credit cards), and the long term outlook for the US economy shows very little promise at the moment. Ironically enough, the only debt young people seem to be willing to take on is in the form of student loans. Servicing that debt has in turn priced them out of the housing market post-graduation, which has put even more stress on the still recovering real estate market.
Equities are not increasing in value because of positive earnings reports or operational advancements as some would like you to believe, but rather due to margin trading and excess capital on corporate balance sheets. Corporations have been able to buy back their stock at rates not seen since 2007 and 2000 before that. The truly frightening trend: corporate insiders are selling while their corporations are buying, which could be a compounding loss factor for shareholders in the event that the market experiences a correction.
The US Dollar is not strong nor strengthening, but rather has been propped up by the devaluation practices of Japan in order to support their export-driven economy. U.N. sanctions against Russia for their actions against Ukraine have also led to USD support. Let’s be clear; the USD is not increasing in value, but rather competing global currencies are decreasing in value. A currency gaining strength is much different than a competing currency suffering. Once we see a tick up in interest rates, which should result in an increase in velocity, we believe that inflation will become evident and the true value of the USD will be realized.
As much as the Federal Reserve and the US Treasury Department would like you to believe it, there is not a global demand for our debt. With credit spreads at multi-year lows and interest rates at unsustainably low levels (which has decimated the earning power of retired seniors), cash has been funneled into equity markets in a continuing search for yield, providing a false sense of trust in current equity valuations.
Given these facts, it is hard to see even any shining light in our economy right now.
Sooner or later, there will be some event that will result in the markets being brought back to realistic levels. Best case scenario: a rise in rates could be the spark that the economy needs to bring valuations back to this planet. Worst case scenario: a competing global economic power (our bet would be Russia) attempts to utilize the markets (debt, currency derivative or commodity) to cause harm to the US economy.
Throughout all of this, one mantra must be repeated, “The markets can remain irrational longer than you can remain solvent.” Timing these events is nearly impossible, but predicting them is not.