We are not economic forecasters, prognosticators or investment advisors. In fact, we claim no crystal ballery skills at all. But we do keep an eye out for consumers and have been tracking some disconcerting signs about the U.S. and global economy that have been emerging in second half of 2017. We share the following observations with you because, so far, they’ve stayed below the news radar and they could very likely affect U.S. households in the coming years. In light of record stock prices and low unemployment figures, it is hard to see any underlying weaknesses in the U.S. economy. However, the rosy projections for a continued economic boom advanced by Trump and some overly-optimistic tax cut proponents appear to be overlooking many troubling economic storm clouds that knowledgeable observers see building on the horizon. And we aren’t offering our opinion……we are just collecting information provided by reputable and credible economic forecasters. So, if you are about to make a big purchase, change careers, take-on a large debt or make a big retirement decision, you may want to note the following harbingers of economic turbulence that are on the next five-year horizon:
February 2018: Not surprisingly, stock markets around the world “corrected” in dramatic fashion. That got a lot of attention. What didn’t get much attention was some of the observations about the fragility of stocks in international and national stock exchanges. Investor Carl Icahn was unsparing in a CNBC interview: he warned that investors have exposure to “way too many derivatives” and called the stock market’s nosedive just “rumblings of an earthquake.” He added: “investors should not use the markets like a casino. “… that’s a huge mistake. This casino is on steroids.” If you plan on any stock investments in 2018, his interview on CNBC is required viewing.
February 2018: Bain’s Macro Trends Group has painted a disturbing picture of a generational divide that is all but inevitable in the next 10 years or so. It reports: “collision of these forces could trigger economic disruption far greater than we have experienced over the past 60 years.” It documents how the U.S. population is aging fast, and many older workers are staying on the job longer. With the labor force shrinking and needed skills hard to find, companies will rapidly automate. 20%-25% of current jobs will be wiped out, adding up to some 40 million workers, many in the least-advanced positions, often millennials. It concludes that the coming transformation will test leadership teams profoundly. Automation will reshape national economies, throw labor markets into turmoil and change the rules of the game in many industries. Aging populations will strain social systems as never before.
January 2018: If you love to purchase bonds, you should note that the U.S. Citi Economic Surprise index — the rate at which data exceeds analyst expectations — has started to fall after reaching a five-year high in December. Reality will catch up to interrupt the widespread investor optimism and strong bullish trends imbuing nearly every corner of financial markets according to Canaccord Genuity Inc. December 2017 was only the fifth time since 2003 the economic-surprise index peaked above 75. From each peak to the corresponding trough, 10-year yields on average dropped 1.11 percentage points over the next seven months, according to data compiled by Canaccord. Bottom line: This analysis suggests that if history is any guide, the markets are about to get a double whammy of stock price volatility and plunging Treasury yields.
January 2018: If you don’t know who David Rubenstein is, you should check him out. A highly regarded financier, co-founder of Carlyle Group and an outspoken observer of all-things-economic. His recent concerns, voiced while attending the Davos Summit, is required reading by any serious investor. His bottom line: “…the conventional wisdom is that we have no recession problems around the world, that everybody’s doing quite well … The conventional wisdom is usually wrong…” He went on to warn about high government debt, (“At some point, people are going to wake up and say the U.S. government has $20 trillion dollars of debt and unfunded liabilities that are hard to fathom.”) and geopolitical uncertainty. At Davos, many attendees are reported to be concerned about whether skyrocketing growth of market valuations and increased capital flows are a harbinger of the next crash. David Rubenstein seems to think so. Worth your consideration.
January 2018: The widely-promoted low unemployment rate in the US may be off by a almost 100%. It turns out that most US job growth is in low-paying retail and food service industries and that some workers have been out of work for so long that they’ll never be able to return to the high-paying jobs they used to have. That means structural unemployment has increased. Former Federal Reserve chief Janet Yellen considers the real unemployment rate to be more accurate. It’s double the widely-reported rate. So our advertised 4% unemployment rate is much closer to 8%. The misleading unemployment rate is one of the factors referenced by Morgan Stanley in its pessimistic outlook for 2018 and beyond: “bumpy roads ahead.” Worse yet, according to a report by the World Economic Forum and Boston Consulting, almost 1 million Americans will see their occupations vanish entirely in the next eight years. They will have to spend money to train for a wholesale career change and they’ll probably not find equally paid work. Not a pretty future for almost one million Americans.
December 2017: University of Michigan economists are concerned that the labor market is continuing to get tighter. The unemployment rate dipped to 4.1 percent and yet, the 12-month growth rate of average private hourly earnings seems to have gotten stuck below 2.8 percent. It worries that “The Federal Reserve has openly admitted that it does not completely understand what is driving the weakness in inflation……there is a puzzling lack of inflationary pressures despite tighter labor markets and higher output growth. “A federal government shutdown at the end of 2017, however, could be disruptive to the U.S. economy in the near term.”
December 2017: The value of the U.S. dollar has plunged compared to other currencies. Why would a booming economy be experiencing a noticeable drop in the value of its currency? It’s because currency traders who study markets view the U.S. dollar to be overvalued compared to other countries. The value of the dollar looked very good early in 2017, but has dropped over 10% in just 11 months. Trump’s legislative failures, combined with rejuvenated economic growth in Europe, have dealt a powerful blow to our currency. In fact, the dollar is in its first five-month losing streak since 2011. Sobering note: as of mid 2017, the Canadian dollar posted a new high against the U.S. dollar. $1US now is worth $1.24CAD, compared to the beginning of 2017, when that same $1US would have fetched $1.37 CAN. In 2016, the $1US would have been worth $1.45CAN. You’ll see the same loss of value as compared to the Euro, as well as a number of other Asian currencies. As of late January, U.S. dollar extended its recent rout to hit three-year lows while gold rose to its highest level in 1-1/2 years. Of greater concern, Trump’s Secretary of Treasury is quoted as saying that he “welcomed” the drop in the dollar’s value. Shortly after his comments, the dollar dropped even further.
December 2017: The CEO of low-end retailer Dollar General indicates that his company plans to build thousands more stores, mostly in small communities that have otherwise shown few signs of the U.S. economic recovery. He is quoted by the WSJ as saying: “We are putting stores today [in areas] that perhaps five years ago were just on the cusp of probably not being our demographic,” he said, “and it has now turned to being our demographic.” Dollar General caters to what it calls a “core customer” that is largely low-middle income. Dollar General’s gains reflect increasing losses for the American middle class.
November 2017: Vanguard Group (a major investment house) as publicly admitted to a 70 percent chance of a U.S. stock market correction. Vanguard’s research arm states that the current probability for a significant market correction is 30 percent higher than what has been typical over the past six decades. Vanguard is also telling its investors to expect returns in the “medium term” of 4 percent to 6 percent, the most cautious outlook it has had on future stock returns at any time during the post-financial crisis economic recovery. Vanguard isn’t alone: independent research also shows that the S&P/TSX Composite has a PE ratio of over 23, which is higher than that of the Dow Jones and well above the historical average, indicating that it could be overvalued.
November 2017: The Congress and Senate have passed a massive tax bill that features a massive corporate tax cut and individual tax breaks that independent analyses say would favor the wealthy while eventually result in a tax increase on middle-class Americans. In the long run, it promises to balloon the national deficit by over $1 billion and cripple Obamacare. A question to ponder: if the economy is as strong as our political leaders tout, why the need for a massive injection of capital targeted to U.S. corporations and upper-class individuals?
September 2017: Federal Reserve Chairwoman Janet L. Yellen said in a recent speech that the economic outlook is highly uncertain, suggesting that the central bank will proceed slowly in raising interest rates and scaling back easy-money policies. She expressed concerns that the Fed may have misjudged the strength of the labor market. Inflation has been running persistently below the Fed’s 2% target, puzzling economists and causing policymakers to be hesitant in raising rates. Yellen noted that the labor market, which historically has been closely linked to inflation, may not be as tight as the low unemployment rate suggests. The low rate of wage increases could indicate that the labor market has more slack than economists had believed.
September 2017 – Why is Berkshire Hathaway sitting on a record $100 million in cash. Warren Buffett says the “single best” way to tell if stocks are too expensive is to look at two simple numbers: the total value of all equities in the market and the total size of the economy. By this measure, the stock market is grossly overvalued. The value of all the equities in the Wilshire 5000 Total Market Full Cap Index (a proxy for the entire domestic market) stands at $26 trillion. That’s 135% of U.S. gross domestic product (GDP), according to figures tracked on a quarterly basis by the Federal Reserve Bank of St. Louis. That’s close to the percentage that existed just prior to our most recent market “corrections” of 2000 and 2008. The fact that Buffett is willing to hold so much of his company’s assets in cash is a testament to how few bargains he sees in this market. And that is not a good sign for investors heavily leveraged in equities.
August 2017 – Inequality of wealth continues to plague the U.S. economy. A paper. authored by the University of Chicago, finds that individuals in the bottom half of the income distribution have been shut off from economic growth since the 1980s. From 1980 to 2014, the average national income per adult grew by 61 percent in the US, but the average pretax income of the bottom 50 percent of individual income earners stagnated at about $16,000 per adult, while the income at the top for the top one percent went up by 205 percent. Compare this to France, where the bottom 50 percent of real, inflation-adjusted pretax incomes grew by 32 percent from 1980 to 2014. So in America the bottom 50 percent of pretax stagnated. In France it grew by 32 percent, which was approximately the same rate as national income per adult. Even though France has had slower growth, more of that wealth was distributed to the bottom 50 percent.
August 2017 – The Congressional Budget Office projected that the economy would grow just 2.1 percent this year, an increase from last year but far lower than Trump’s goals. It also predicted the economy would begin to slow in 2019 and 2020, growing only 1.6 percent in those years.
August 2017 – Home building has continued to lag. Builders have added just 849,000 new single-family homes this past year, well below the 2007 rate of 1,036,000. During past recoveries, the housing industry has jump started the rest of the economy. If we were following historical trends, the number of homes under construction per month would be 35% greater — along with the jobs that go with them. New construction has traditionally been a reliable source of middle-class jobs, but this economic recovery is different. The big fear: millennials can’t and won’t soon be able to afford new housing. A bigger fear: fewer new homes will lead to higher (and more unaffordable) housing in the coming decades.
July 2017 – An analysis by the Economic Innovation Group, a non-profit research and advocacy organization says that for the first time, U.S. companies are dying at a faster rate than they’re being born. Called “Dynamism in Retreat”, the report is a sobering look at how the gig economy is changing America’s economic equation: we aren’t losing jobs as much as we are no longer creating jobs. Axios Tech Editor Kim Hart notes that slow rate of business starts means the U.S. economy is powered by a narrowing segment of companies, people and geographies — making the overall economy less resilient than it was after previous recessions. And without competitive pressures from upstarts, big companies are able to grow bigger faster, increasing industry consolidation. America’s economic engine has historically been driven by small businesses. History may be changing.
July 2017 – Market power in the U.S. continues to be consolidated into a handful of large corporations. A study focused on market concentration and market power. It finds that companies across all industries in the US are charging more for goods even though the price to produce these goods has not changed. Thus, market prices aren’t driven by demand or supply as much as companies able to control markets through size and leverage. This bodes ill for long-term growth, as market power tends to depress innovation and market changes.
July 2017 – Adjusted nominal GDP growth in 2016 was just 2.95%. This makes 2016 the second-worst year on record since 1959. Some of the key drivers of this retraction is the bank lending is falling, corporate tax receipts dropped by the largest margin since 2009, and the flat yield curve revealed in May of this year. Also, signs are of a weak long-term labor force participation rate. That translates into about 30 percent of the US population not working, or actively seeking a job (Note: these workers may be the 30% of voters who currently support Trump). This may also explain why the American population grew at a tiny 0.7 percent last year, the lowest increase since the Great Depression.
June 2017: Moody’s downgrades Chinese debt for first time in 30 years. Given that the Chinese and American economies are extremely connected, the fact that the ratings agency downgraded China’s debt one notch from Aa3 to A1 is notable. China’s economy expanded at an official rate of 10.6 percent in 2010, but its more recent growth rate has been lower, 6.7 percent in 2016. Moody’s forecasts that over the next five years, the rate will continue to decline, falling to 5 percent.
June 2017 – According to a New York Times article (and confirmed by a number of other reliable sources) a survey released by Bank of America-Merrill Lynch found a cross-section of fund managers viewed China as the biggest potential source for an unpleasant surprise for global markets for the first time since January 2016. The investor services firm Moody’s also downgraded China’s sovereign credit rating last month, its first such move in 28 years. Global investors are very concerned about how China has resorted to pumping up credit, adding to an already mountainous pile of debt, in order to keep its economy humming. According to the Bank for International Settlements, that debt reached 257 percent of its gross domestic product at the end of 2016, slightly above the same measure in the United States, and significantly higher than the 184 percent for emerging economies over all.
June 2017 – The New York Federal Reserve released a new report that showed U.S. collective household debt balances totaled $12.73 trillion in March 2017, surpassing the 2008 peak of $12.68 trillion. Why is this a concern? Compared with 2008, fewer borrowers have housing-related debt — including their first mortgages, or home equity lines of credit — and instead more have taken on auto and student loans. In fact, student debt in 2017 is five times — 500% more — than it was in 2003. (Editor’s note: Student loans have made it harder for younger consumers to buy homes, thus explaining the drop in housing-related debt.) In fact, student loans are a whopping $671 billion higher — and about 10% of those loans are delinquent. Because student debt can’t be restructured or discharged in bankruptcy, it portends for a large segment of younger Americans will be struggling with debt that will weigh them down for the rest of their lives. This will prevent them from starting businesses, buying homes or saving for retirement! Another troubling trend: Older Americans are taking on a greater share of debt than in years past. Those ages 60 and older held 22.5% of total household debt in the fourth quarter of 2016, compared with 15.9% in 2008 and 12.6% in 2003. Normally, this sector reduces debt as it enters a retirement phase. But in 2017, credit card debt and auto loan debt balances for people ages 60 and older have risen, meaning seniors are relying less upon their savings and more upon credit that they may not be able to payback later. The last troubler: $1.1 trillion in auto loans, subprime loans packaged into asset backed securities are getting crushed by net charge-off rates that are worse than during the Financial Crisis.
May 2017 – Life insurer and financial services provider Northwestern Mutual found that 45% of Americans that have debt spend “up to half of their monthly income on debt repayment.” Excluding mortgage debt, American carry an average debt of $37,000. Of them, 47% carry $25,000 or more, and more than 10% carry $100,000 or more in debt, excluding mortgage debt. While most of them expect to get out of debt before they die, 14% expect to be in debt “for the rest of their lives. This is a concern because credit card debt is about to get more expensive; note the soaring net charge-offs at Capital One, Synchrony, and Discover. If U.S. consumers are cut-off from cheap debt and are forced to live within their means and paying off debt as they go, the U.S. and global economy would take a bit hit.
May 2017 – U.S. durable good orders have dropped…..a lot. Orders for durable goods — items meant to last at least three years — slid 1.1% in May, the Commerce Department reported — the most in 18 months. Business investment in new equipment jumped in the January-March quarter but has leveled off since then. Orders for capital goods, excluding aircraft and military equipment, slipped 0.2% last month, a sign businesses are trimming their spending.
May 2017 – the 10-year U.S. Treasury note was trading at a yield of 2.25 percent per year, while the two-year note yielded 1.28 percent per year. At 0.97 percentage point, the “spread” between the longer-maturity note and the shorter-maturity one is hovering at the lowest levels seen since October. This suggests that the bond market isn’t seeing any economic expansion. While this isn’t an inverted yield curve, which precedes most recessions, it indicates little hope in the markets for a sustained economic expansion.