About the only good news that emerged over the past week is that we are one week closer to the end of the most disgusting presidential election in American history. While other elections may have involved similar descents into the depths, one would have hoped that American democracy had evolved to a more constructive point by 2016. Alas, the opposite is true and the country is now barreling toward political and economic disaster. The outcome of the election will be a more deeply divided government that continues its unconstitutional expansion and violation of liberty through fiat rather than the consent of the governed and crushes the economy under a growing weight of taxes and regulation.
With the prospects of a Clinton victory rising, a result the markets and establishment are rooting for, it therefore seems curious that stocks have been selling off the last two weeks. Last week stocks were off for the second consecutive week. The Dow Jones Industrial Average fell 102 points or 0.6% to 18,138.38 while the S&P 500 lost 1% or 21 points to 2132.98. The Nasdaq Composite Index fell 1.5% to 5214.16.
Contrary to what you might think, it’s nothing to do with politics. But it’s everything to do with the establishment.
Here’s what’s going on…
The Real Reason Markets Are Precarious Right Now
In the face of low-rent politics and the wholesale sell-out by the media of any pretense of journalistic ethics, high levels of investor complacency should be alarming to people. More than ever, investors must ignore what they are told by the so-called “establishment” and seek out information from the rare truth-tellers whose only agenda is to help them protect their capital from Wall Street and Washington.
That job is going to become even more difficult in the years ahead as the Federal Reserve stumbles around in the dark trying to undo the damage wrought by its destructive policies. Fed Chair Janet Yellen’s recent comments, among her most idiotic ever, stating that the Fed may be willing to allow inflation to overheat when asset inflation has been raging for years demonstrates the profound incompetence and corruption of the people in charge.
The truth is, financial conditions are tightening as the odds of a Fed rate hike in December continue to rise. And that’s not all…
There are good reasons for stock investors to worry. In addition to the likelihood that the chicken-hearted and feckless Fed will notch up rates by another quarter in December, there are other serious risks on the horizon. Italy will vote on December 4 to amend its constitution; if it votes “no,” it will open the door to a potential exit from the European Union that would rock global markets. And the Italian banking system is for all intents and purposes insolvent while Germany’s banking sector is also under serious strain. Deutsche Bank continues to face serious problems that are going to require it to raise additional capital from somewhere while Commerzbank, its largest rival, also struggles. Geopolitical tensions are rising around the world, particularly between the U.S. and Russia, and the next president could face a stiff challenge early in 2017.
Over the past week, long rates kept rising with the yield on the benchmark 10-year Treasury rising to 1.8% and yields on German and Japanese bonds rising (though they remain pathetically low). The US Dollar Index (DXY) also rose sharply to 98.09 as both the British pound and Chinese yuan weakened significantly. With stocks fully priced, bond yields rising, the dollar strengthening and a new earnings season upon us, the odds of higher market volatility are rising.
Investors are also ignoring signs of excess debt in the corporate sector. Low interest rates have allowed U.S. corporations to borrow enormous amounts of money that they are going to have to pay back. Corporate America is more leveraged today than on the cusp on the 2008 financial crisis but investors are acting as though there is little risk of anything going wrong – a big mistake. As The Wall Street Journal warned last week: “Leverage carried by companies rated investment grade and below investment grade has hit record levels, far exceeding the highs reached around the time of the financial crisis, according to statistics from Moody’s Investors Service.”
Median earnings before interest, taxes, depreciation and amortization for speculative grade companies is 5x debt versus 4.2x in 2008 while the ratio for investment grade companies is 2.6x today versus 2.2x in 200 according to Moody’s. This is only possible because interest rates are so low – believe me, companies are not generating significant amounts of cash flow. The only sector that has reduced leverage since the crisis is the banks, which were mandated to do so after blowing up in 2008 after pushing their leverage up to irresponsible levels. Even the Fed is starting to worry about these high levels of corporate debt, though it is moving about as quickly as a tortoise moving its bowels to do anything about it. There is no question we are heading toward another debt crisis – the only question is when it will arrive.
Finally, it was amusing to see Elon Musk tweet that Tesla would not need to raise equity before the end of the year two days after the company made a filing with the SEC stating precisely the opposite. A few days later, an analyst at Oppenheimer published a report opining that the company will have to raise about $12 billion of capital to meet its production goals. With roughly $3.3 billion of cash on hand if the ill-advised Tesla/Solar City merger is approved, the company may not have to raise more equity by year end but will definitely have to do so relatively quickly in 2017. But that begs the question of why Mr. Musk thinks he can ignore the securities laws and tweet out whatever he wants whenever he wants without the SEC taking any action against him. He seems to suffer from Trump-Tweeting-Derangement Syndrome. The only difference is that he is a darling of the corrupted media. At least until he loses people a lot of money in his ridiculously overvalued stock that everyone in America should short. (Get my put recommendations here.)