The Dow plunged 1175 points (-4.6%) overnight. 4.6% is a lot and yes 4-digit drops optically look worse but off the higher base we get higher (record) point drops. One thing to contemplate in a rising bond yield market is corporate credit quality. Since 2006 the average credit ratings for US corporates issued by the big agencies have seen the number of top rated (to the left) fall while those with deteriorating grades (to the right) soar. That’s right, the 4 categories before “junk” have risen sharply. After many years of virtually free money many corporations have let the waistline grow. When refinancing comes around just how will credit ratings influence the new spreads of corporates who’ve shifted to the right?
The IMF highlighted in 2017 that US companies have added $7.8t in debt & other liabilities since 2010. The ability to cover interest payments is now at the weakest level since 2008 crisis.
This despite near full employment, record level equity markets and every other word of encouragement from our politicians.
However if this is the state of the corporate sector at arguably the sweet spot of the economic cycle CM shudders to think the state of potential bankruptcies that will come when the cycle truly takes a turn for the worse. This is a very bad sign.
One of my former colleagues has a Bloomberg header that reads, “I no longer see the point in pointing out the pointless!” He is spot on. Global markets remind me of Wile E. Coyote holding a severed cliff edge, suspended in animation before inevitably falling to the ground with a thud. We are at that point.
Dow can’t break 20,000 and even taking into account the fact that Christmas and New Year’s took steam out of the market, it was already tired and breathless. VIX is at chronically risk taking levels and would seemingly only have a blow up around the corner. Gold is picking up and the yen is firming. Like it or not, as doomed as the Japanese economy is, everything is relative and the amount of yen kept offshore means that money is repatriated. Ask yourself why every time there is a natural disaster in Japan the yen rallies. The yen dropped from 82/$ to around Y78/$ 6 months later.
The markets have been running on fumes. Even taking out the Trump effect, central bank policy is impotent, the global debt pile continues to rack up and the world is by and large run by wimps not willing to take drastic action. The lack of accountability is staggering. Independent central banks are not a virtue but a vice. For all of the supposed benefits of a free and unleashed central bank maybe it becomes the perfect fall guy for governments to operate in the vacuous, indifferent and soft policy settings they do. Central banks in the reverse can apportion blame on governments for not providing policies that benefit from low interest rate settings. The Fed should be disbanded.
I remain bearish to be sure. Trump can’t right almost two decades of irresponsible corporate, individual and public sector behavior. Perhaps my biggest concern is the risk that governments and central banks become the ones using moral hazard as an exit clause. In that world all bets are off. Don’t think it isn’t been considered. Even Japan’s policy advisors are considering converting the $10 trillion (240%od GDP) debt into zero coupon perpetual debt. It is a polite way of saying that we’ll print the debt away.
As poor old Wile E. Coyote knows too well, it ends in a massive plume of smoke. You can control (manipulate) markets up to a point but eventually relative asset values come to the fore and the premium/discount gap widens to extreme levels. Market confidence is shot to pieces despite what the indices tell us. Don’t be fooled. Meep Meep.