Broker Check

Global Capital Market Mutation

June 16, 2016

For some illnesses, having a mutation in one specific gene usually – but not always – causes disease.

“While America, at least on the surface, was the envy of the world for its apparent success and prosperity, the underlying cancer of debt expansion and declining wages was eating away at the core.”  Lance Roberts, April 18, 2016 – “The Great American Economic Growth Myth”

When I met Richard Koo, Chief Economist of Nomura Securities (in Japan), in Princeton, NJ nearly 14 years ago, I knew he knew a lot about something that I had a hunch about, but I wasn’t able then to fully understand or articulate at the time.  That was the concept of the Balance Sheet Recession and how that principle could create what I’ll call a massive, Global Capital Market Mutation.  He has since authored several books on the subject and is considered to be the world’s foremost expert on the subject.  Government leaders, investment banks, insurance companies and universities pay him to come and speak – and they should.  He knows his stuff.  Also, he is a very likeable guy.

When I started digging deeper into his work and the work of others on the subject, some things became crystal clear for me.  Interest rates would cascade down globally and stay low for a long period of time.  And consequently, relatively safe income producing vehicles would become scarce.  This was during a time when money market rates were around 6%.  This line of thinking at the time was NOT main stream; it was met with laughter and mockery.

This is a slide from a presentation deck Richard presented in Berlin in 2012:

Now you may look at that slide and say, today, in 2016, U.S., consumers aren’t averse to debt (look at student loan debt, auto loan debt, etc).  Heck, they’re back to big-time borrowing.  True - in some sense.  Ironically, around the 2012 timeframe, consumers began releveraging in full earnest.

The slide might say:  “This time, it’s gonna take X years to normalize interest rates because of deleveraging. [my emphasis]” 

“With everybody paying down debt, monetary policy stops working.  Fiscal policy becomes the main economic tool to maintain demand.”  Richard Koo – Berlin - 2012

Deleveraging hasn’t even begun in full earnest in the U.S., yet.


This is largely why I began Vickery Creek in 2009 to help sophisticated investors to manage thru such a stormy period.

So…around the July 2012 timeframe, the credit markets told the Federal Reserve that they had pushed the limits of unconventional monetary policy way beyond what was reasonable.  Additionally, during that time, the U.S., appeared to be on an economic trajectory that would be considered as “escape velocity”, sufficient enough to begin a process of interest rate normalization.

They passed.  They didn’t begin to raise rates then.

I think history will regard that time period as THE opportune time the Fed had to have done so; and for the Congress and the President to have introduced structural reforms such as tax reform, less regulation, and fiscal stimulus.  They did not, however, and so now, not only do we have on our hands a situation that demands that they stay their hands at raising the Fed Funds rate, but it appears that this interest rate cycle will be truncated not from 4% to 3.25% as I’ve said for years now, but it may be that the Fed can only raise the Fed Funds rate to around 1% before the yield curve inverts (for research on this see the Cleveland Fed website), and we then enter a true economic recession.   And then, how much can monetary policy help?  The Federal Reserve currently has 750 PhD economists employed.  Wow – THAT’S a payroll.  We’ll see how that payroll develops over the coming decade or so…

Now this is not the end of the world and you may be reading this and saying, “Dude.  Jack is SO negative.  Why can’t he be more optimistic?”  Or, you may be thinking to yourself, “So what?  All I know is that my 15 year mortgage rate is 2.75!”  I could understand having both responses.

I do not have the ability to BLOG the sheer volume of thoughts and concerns I have presently about the situation so please let me just click off a few big concerns and implications for investment strategy.  Hopefully these bullet points, (though I’m not expanding greatly on them), will dovetail into some recommendations (What you need to do), for pre-retired and retired clients.

  • Low interest rates are destroying insurance companies and banks and that MATTERS;
  • Low interest rates are destroying senior citizens financially;
  • Low interest rates are enticing a borrowing binge (by all major users of debt:  Consumers, Corporations, and Governments), never before seen in modern recorded history (see chart);

  • It is quite possible that much of this debt will never be repaid and we don’t yet know what that means for the experiment which is modern capitalism;
  • Governments do not currently have a handle or a plan on how to “fix”, this debt cancer;
  • Children and young adults around the world are now keenly aware of the dangers of debt, but generally speaking, do not know how to navigate their lives without it’s overuse in some area of their lives (college, auto, mortgage, or credit card);

What you need to do:

  1. Talk with us about investing in a hybrid, long-term care insurance strategy NOW;
  2. Talk with us NOW about investing in low cost, Fixed Indexed Annuities with specific actuarial table solutions (payouts at retirement), which offer income payout levels that you may not see again in your lifetime (for such a low cost);
  3. Talk with us NOW about active bond management; passive bond investing in this environment is foolish; one can certainly make a case for a blend of active and passive equity (stock), investing (which I prefer), but not bonds;
  4. Create a budget NOW and do your best to live reasonably within the limits of said budget (even if you have way more money than you think you need (no matter if you think that you could live to be age 130 and still not outlive your money));
  5. Consider selling all of the real estate that you own that is not your primary residence (some exceptions to this), NOW;
  6. Talk with us NOW about repositioning all of your Stocks du’jour (popular stocks of the day, i.e., Facebook, Apple, Netflix, and Google), into stocks and bonds that are much more reasonably priced.  See Cisco Systems stock price chart from January 2000-present to see point illustrated.  Cisco Systems is a good stock to buy at this level currently (but that was not a fun ride from Jan., 2000-present);

What I think is going to happen:

  1. I don’t know, but I know how to help you invest for a variety of potential outcomes;
  2. The stock market in the U.S., and in other parts of the world, could actually melt-up before correcting;
  3. Inflation and growth could surprise to the upside (though global economy is currently weak);
  4. Britain (thru Brexit vote June 23’rd, plus additional legal measures), and other countries may decide they want out of the E.U.;  this may cause it to eventually disintegrate; but this won't happen overnight - not until after years of contract and treaty negotiations;
  5. I think the world will begin to realize in the coming years that, "It's not necessary to trade sovereignty for freer trade."  Robert Stein, First Trust Advisors June 7, 2016;
  6. Despite some deflation in goods, our U.S., economy is 68% services and those prices are not showing deflation at all (the opposite, actually), but could, and this is definitely something to monitor (see chart below). 


I have a great job and people like you make it possible.



Jack Parsons CTFA, AEP

President & Chief Investment Officer

Vickery Creek Capital Management, LLC


PS - From our family to yours have a great summer!