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A Tale of Two Classes

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The stock market is tanking. It has to bode poorly for the economy, yes?

If we’ve learned one thing over the past six years, it’s that what is good for investors is not necessarily good for workers – and vice versa. As Herman Miller, an accountant friend of the family told me as a child, “Never forget that the stock market is only a market for stocks.”

So what is the future for stocks? In the short term, not good. For workers? That may be a better story. And if the fortunes of these two classes cross each other it’ll be the story of this year as the ups and downs and devilish details read something like a novel.

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One Last Bubble?

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Is the stock market nothing but a bubble waiting to burst? There are many reasons to believe that there is one last downturn at the exit of this Managed Depression, which may indeed be slowly forming. The risk comes in the nature of how the economy is so carefully managed through monetary policy directed by the Federal Reserve. Years of zero interest and $3.7T in quantitative easing have produced a situation that’s hard to pull out of without a lot of collateral damage.

The problem is that a lot of money is chasing an awful lot of risk these days. Junk Bonds (aka “speculative grade investments”) are making a strong run, selling a record $265B through May 2014. The reason? Interest rates stuck near zero mean no return for investors, and as things turn around they have an appetite for risk. A rise in interest rates would slaughter this market and cause losses that will reverberate through equity markets before things really have a chance to turn around.

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Back to the Future

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If you want to know the future, ask the kids. It’s going to be their world one day and you can expect that it will be made in their image. Their attitudes, values, and goals will become what drives the economy once they kids of today become the parents and leaders tomorrow.

That’s why UBS asked Millenials (born 1982-1999, or currently 15-32 years old) about their financial and life goals. This is the generation that has been described as narcissistic, broke spenders among other things. If you believe that line, think again. The young people today are one of the most conservative generations yet financially, valuing happiness and security far more than a big pile of cash.

This describes our future, certainly, but more importantly it fits perfectly into the main reason why there are economic and business cycles in the first place.

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Risk and Reset – Who Pays?

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Two news stories highlight the precarious nature of the restructuring that has laid the foundations for the next economy. They don’t seem to be related at all, but they highlight the twisted nature of “risk” and what it means when interest rates are low but investors are developing a renewed appetite for risk.

The first is the bankruptcy of Detroit, a long time coming, which was filed today.   The city has $18B in liabilities that they’d like to cut to $2B – hence a Chapter 9 liquidation filing, a declaration of surrender.  The city is beyond broken and needs to start again.  The second story is the rise of collateralized loan obligations (CLOs) and how our old friend Captain Morgain, er, JP Morgan is making a big bet on sketchy loans.

How are they related?  Both stories show risk laid bare, and both stories have a backstory of pushing the ol’ red button with RESET in big letters on it.

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Low Growth, the New Normal

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What does a future of low economic growth look like?  The Congressional Budget Office (CBO) economic forecast estimates a real growth (adjusted for inflation) of less than 2% for the foreseeable future.  We have discussed before how this pattern is likely to hold through the next generation and around the world as population growth slows and new opportunities will come only through technology improvements.

The implications are vast, if for no other reason than investing and saving for retirement are going to be very different concepts than we have come to expect.  Everything changes – and a few things may even change for the better.  It’s worth thinking through, and carefully.

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