Flattening Yield Curve Portends Recession

by gerold

“Events are converging ominously this summer in the direction of unwinding expectations and serial train wrecks of finance and politics,”  writes James Howard Kunstler. [Link]

In normal times, long-term interest rates are higher than short-term rates. When the rates converge, the graph of the yield curve flattens. That’s a danger sign. When rates reverse and short-term rates become higher than long-term, we call that an inverted yield curve. That’s worse.

Inverted yield curves always indicate recessions. They don’t cause recessions, but they portend them because 9 of the last 10 times the yield curve inverted, we had a recession. [Link] It’s true that recessions can occur without inverted yield curves (Japan for example,) but inverted yield curves almost always lead to recessions.

Here’s the background. Longer term debt instruments (bonds) are riskier than short ones so investors usually demand a higher return (interest rate.) When central banks like the Fed raise short-term rates, it slows the economy reducing the value of stocks and other assets. Long-term yields become an acceptable substitute for lower returns in stocks and assets. This increased demand raises bond prices and reduces yields (See Note #1 for more details)

In the recently released minutes of the FOMC meeting on June 12 and 13, the U.S. Fed has announced they’re going to ignore the flattened yield curve and continue hiking interest rates. [Link] This will invert the yield curve. In other words, the Fed has just announced they’re going to deliberately create a recession. (See Note #2) And, then the idiots will say, “Nobody could see this coming” like they always do.

The next rate hike this fall will likely invert the yield curve. Then, watch out! We’ll be in a full-blown recession about a year later that will make the Great Depression of the 1930’s look like a walk in the park for all the reasons outlined below.

Why will the next recession create the Greater Depression?

– Because we haven’t fully recovered from the last recession despite fake statistics and ass media cheerleading.

– 42 million Amerikans are on the SNAP Program aka food stamps.

– Unemployment statistics, like all government statistics, are what Kunstler calls engineered hallucinations. In the chart below, Shadow Stats (blue line) at 22% unemployment reflects current unemployment reporting methodology adjusted for long-term discouraged workers defined out of official existence in 1994. The U-6 (grey line) uses only short-term discouraged workers. The ‘official’ U-3 (red line) is complete government bullshit.

UI-emp

Courtesy of ShadowStats.com

Wait, it gets worse. There were no unemployment records during the Great Depression, so years later, the Bureau of Labor Statistics (BLS) hired economist Stanley Lebergott to estimate the unemployment rate during the Great Depression. For reasons unknown, he INCLUDED government employees. As the government employed about 6% of the workforce, this means that the revised ‘consensus’ unemployment during the Great Depression would have been 19%, not 25% as most people believe. In other words, American unemployment today is 3% higher than during the Great Depression. [Link]

I know this sounds unbelievable. However, we must remember that contrary to popular misconception, not everyone was unemployed during the Great Depression. The vast majority of workers (81%) still had jobs. Another thing to remember is the Great Depression wasn’t a long and deep recession, but rather a consecutive series of recessions with numerous false starts and deeper plunges.

– Today, Labor Force Participation rates which are NOT statistical frauds are at historic low levels. See the chart below.

labor participation-rate

Today’s labor participation rate is similar to 1976. That was a time when most families had one bread-winner, not two struggling to make ends meet like today.

– The middle class is disappearing along with department stores that are closing at an unprecedented rate.  Yes, online shopping has increased, but not enough to account for the retail apocalypse. “The vast majority of retail sales — 91% — still take place in brick-and-mortar stores, which means that online shopping represents just 9% of total retail sales.”  [Link]

– The country’s wealth has increased, but it mainly accrues to the top 1% while the bottom 95% has been economically devastated since the last recession. Wage increases have not kept pace with the rising cost of living.

OTHER TRIGGERS

Many other triggers will blow up the economy. Tempting as it is, we can’t call these triggers black swans because they’re neither invisible nor unexpected, but they’re certainly circling overhead.

– “China implemented retaliatory tariffs on some imports from the US on Friday, immediately after new US duties had taken effect. The move signals the start of a full-blown trade war between the world’s two largest economies after President Donald Trump’s administration had initially made good on threats to impose steep tariffs on Chinese goods.”  [Link]   Nobody wins a trade war. When the top two economies in the world engage in the most significant trade war in history, everybody suffers. It disrupts the global supply chain, slows economic recovery and triggers global market turmoil.

By the time one side or the other backs down, the economic damage will be irreparable. Worse, trade wars often lead to shooting wars. Let’s hope that cooler heads will prevail before that happens.

-Trump’s continuing triumphs such as the next Supreme Court justice’s appointment will enrage the Left and encourage more ‘anti-fascist’ violence by the fascist Left.

– Stock markets peaked in January and had been trending lower since. One of the reasons equities haven’t crashed from their exuberant heights is stock buy-backs.  [Link] Trump’s tax reforms allowed companies to use repatriated cash to repurchase their own stocks. However, that overseas cash is not endless and will eventually taper off. After October, all bets are off.

For now, Bloomberg reports that “From junk bonds to emerging-market stocks, market turnover is through the roof, reaching multi-year highs. Within the S&P 500 Index, investors traded more than $2.9 trillion worth of shares in each of the past two quarters, a feat last achieved in early 2008.” [Link]  In other words, just like before the last recession.

This may confirm rumors that the ‘smart money’ is getting out and selling to (dumb money) retail investors (like me.) As well, uncertainty encourages institutional investors to reshuffle their portfolios.

– Central banks like the Fed are again manipulating bond markets, only this time with so-called “quantitative tightening (QT)” that will choke off credit just as governments and corporations need new loans to pay the interest on the old ones.

– The price of oil is over $70 a barrel and climbing, and threatening to squash our illusory economic recovery.

– The BDI (Baltic Dry Index) measures current freight cost on various global shipping routes. As such it is a general shipping market bellwether that reflects demand for worldwide shipping and economic health.

bdi

As you can see from the chart above, the BDI is still trending along the bottom after the ‘dead cat bounce’ following the Great Recession. That’s not a recovery.

– Rarely, if ever, do we hear about the dangers of population decline. “All productive nations whether in East Asia or the West, have reached the peak of their 250-year-long development.”   [Link] People aren’t having enough children to replace themselves. A shrinking population entails shrinking economies. “All theories, all models that we know about the economy, finance and markets were developed when the European populations grew. The global economy is dependent on the industrialized world.”

– Even new cars aren’t selling in sufficient volume to keep them in production. Ford recently announced they would produce only two car models; the Mustang and the future 2020 Focus Active. Gone from North America are Fiesta, Focus, Fusion, and Taurus so Ford will produce trucks, Utes and commercial vehicles. [Link]

– For the first time since 1982, the U.S. government is tapping into the Social Security trust funds to pay current benefits. [Paywall Link]

– Almost half of the retirees won’t be able to afford necessary expenses in retirement.  [Link]

– Future retirees are also in trouble. Public pension funds invest heavily in the stock markets and unlikely to see 7% annual increases necessary to keep these pensions funded. [Link]

– Medicare’s fund for paying hospital bills will be depleted by 2026.  [Link]

– According to the S&P CoreLogic Case-Shiller National Home Price Index, “Prices of houses and condos across the US surged 6.4% in April from a year earlier … The index is now 8.8% above the nutty peak of ‘Housing Bubble 1’ in July 2006 … the peak of the definitive housing bubble that then collapsed and helped push the global financial system to the brink.”

Giant Pool of Equity

Get set for another housing bubble burst.

– Corporate debt at an all-time high is in a bigger bubble than housing. Bubbles burst.

– The U.S. Fed funds rate is around 2%, and even if it climbs to the projected 3.5% by 2020, there’s not enough room to cut rates enough or buy trillions in bonds with another Quantitative Easing (QE) to counter the next recession.

– In normal times, recessions occur about every five or six years. We haven’t had one for ten years. We’re long overdue. This next one will be a doozy!

– Deep corporate tax cuts and wild government spending plans guarantee trillion dollar deficits into the foreseeable future. [Link]  Moreover, as interest rates rise, it will take more tax revenue to service this increasing debt leaving less general revenue available for other government services.

– Global (non-U.S.) stock markets are already trending lower. Most worrisome is the Globally Systemic Important Banks. “A bank is deemed to be a global systemically important bank (G-SIB) if the difficulties it runs into or its collapse would severely impair the proper functioning of the global financial system and the real economy.” [Link]

In the chart below, the stock prices of the G-SIB’s (red line) are dropping as are world stocks (non-U.S.) the blue line with U.S. (green) beginning to follow.

Globally Systemic Important Banks

Gargantuan Deutsche Bank with its trillions of toxic derivatives is on life support and is ready to blow up and take down with it every financial institution in the universe.  [Link]

– The future of the European Union with its squabbling member states is in doubt and also ready to blow up. The argument over migrants is pitting Germany and France against Austria, Hungary, and Poland. That’s a fractious squabble no one will win.

There are lots more, but I don’t have time to write a book or do you have time to read it.

CANADA, AUSTRALIA WORSE

Canadians, as well as other commodity nations like Australia, will fare far worse in the next recession than the last one.

– China no longer has the insatiable appetite for commodities it had last time (see Notes #3) so commodity producers will suffer lower commodity prices.

– High oil prices are the exception to the above, but that won’t help Canada because Canada’s inept Prime Minister allowed pipeline protestors and Quebec to block the construction of pipelines to foreign customers as well as Canada East. Pinnacle Digest writes, “Despite more than a 60% approval rating from Canadians in a 2016 poll, the Energy East Pipeline was cancelled due to regulatory uncertainty and fierce political opposition in Quebec… Tens of billions of dollars of future energy investment has left Canada in the last two years, largely due to the regulatory and social uncertainty.”  Canada’s remaining major export is oil to the energy saturated U.S. but at a steep discount.

– As a logistics specialist, I am keenly aware of the ‘balance of transport.’ Pinnacle Digest writes that, “dating back to Egypt’s rise thousands of years ago to modern day, countries which have made it easy to move their critical goods and general population domestically, via roads, rail, ship, air, pipelines and so forth, have experienced exceptional economic growth because these features enable hardy internal trade and development.”  The decreasing cost of energy directly ties to increased productivity. Canada can’t even ship its own oil to itself.

– Since Trudeau’s election in October 2015, foreign direct investment in Canada has plunged as you can see in the graph below.

Investors exit Canada

– Canada’s flaky Prime Minister is more interested in gender and LGBTQXYZ equality than Canada’s economic health which is jeopardized by endless deficit spending and a forced carbon tax. The half-wit Trudeau is dissing the egotist, Trump. Bad tactical mistake!

– Canadian real estate is in a more massive bubble than the U.S. was before their last crash. See the chart below. Canada is green, the U.S. in blue.

canada-vs-us

IN fact, Canadian real estate is worth only half of the current valuations. [Link]

I have friends and family who recently bought houses. A double whammy will hit stupid people who buy at the peak. Real estate prices have nowhere to go but down and mortgage rates nowhere to go but up. Smart people sell at the peak, rent and wait patiently for prices and rates to come down. Don’t be stupid!

– Canadians are deeper in debt than Amerikans ever were. Compare Canadian household debt (blue line) to U.S. (red line) in the graph below.

household debt

– Canada’s witless Liberal government doesn’t understand Trump’s negotiating style so Canadians will be the losers. Trump demands the universe, settles for one of the moons of Jupiter, calls it the center of the galaxy and declares victory. Canada’s snowflake Libtards don’t understand that you gotta give a little to get a lot. Canadians will lose bigly.

– Ian Pattison writes, “Trump’s tariffs mean Canada’s economy will slow, jobs will be lost, prices will go up. A lot of people will be hurt.”  However, he does offer some suggestions to buy Canadian rather than Amerikan products and services. [Link]

HOW TO PREPARE

– Get out of debt, stay out of debt and stop buying stuff you don’t need with money you don’t have to impress people you don’t like. Live beneath your means.

– Do as much of Jim Sinclair’s GOTS (Get Out of The System)  program as you can.

– Keep only as much money in the bank to pay your bills and avoid future Bail-ins.

– In fact, stay away from banks altogether. Use a Credit Union. They’re safer, friendlier and easier to deal with.
– Buy assets. Depending how much money you have; if you’re wealthy, buy the company rather than its stock because stock markets crash, but companies earn cash.

– If you have average wealth, purchase cheap land (admittedly hard to find) as well as hard assets and precious metals.

– If you have little wealth, diversify into one-ounce silver coins, long-term food storage and durable necessities like toilet paper, paper towels, garbage bags, etc. In other words stockpile.

I’m putting my money where my mouth is. I could have retired with a comfortable defined benefit private pension plan two years ago. Fortunately, my work is challenging and rewarding, so I decided to wait and get a better feel for the future. Now, that I see, I plan to pull the pin next February before it hits the fan.

Govern yourself accordingly.

Gerold

July 8, 2018

NOTES

1) Bond prices and interest rates go in opposite directions. When interest rates rise, the value of existing, lower interest rate bonds decreases to compensate for the lower return. The opposite happens when interest rates decline. Think of it as a see-saw.

2) Raising rates in order to cut them to counter the next recession is akin to Generals preparing to fight the last war and deliberately creating the next one. It works in normal times, but times are no longer normal because we never fully recovered from the Great Recession. The fed is out of ammo and running on sheer stupidity. Raising rates to provide room to lower them to fight the next recession that will be caused by those same rate rises is utter madness.

Conspiracy theorists who claim that the Fed is deliberately causing a recession overlook the incredible stupidity of a Fed that believes their own and the government’s fake statistics (growth, unemployment, etc.) A variation of Hanlon’s razor; “Never attribute to conspiracy that which is adequately explained by stupidity.”

3) Most commodities are fungible (interchangeable), so Chinese demand kept prices high. The U.S. is Canada’s largest trading partner and, while China did not buy much directly from Canada, high commodity prices benefitted Canadian commodity exporters.

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