ECHOnomics: Do You Want to Follow The Herd?

An old friend, somebody who made a lot of money because he understood how money works, told me this 16 years ago, when the dot com bubble burst and the world fell into a recession:

“Imagine a room where the acoustics allow for an echo. When lots of people are talking and all saying the same thing at the same time, you don’t really notice it, because it’s harmony. People love harmony. People get mesmerized by harmony. And when you start hearing that harmony, that’s when it’s time to leave the room.”

One of my favorite subjects (something that I’ve dedicated way too little time to) is economics, in particular, investing. And now that I have a little bit of time (juuuust a little) and realizing that I’ve made exactly one blog post up to this point in 2015, I thought I’d put down a little bloggy blog on a huge story of 2015. It’s a story that the news really hasn’t reported that much about… the overlooked story is of the crash of the world’s financial markets. I think we’ve only seen the beginning, and I’m concerned.

This time around, there is systemic risk, perhaps of the same magnitude as 2008 (which is what happens when macroeconomic policy doesn’t really change at all…even when the entire financial system nearly collapses!)

Economics. This is a subject that often makes people’s eyes glaze over. They think it’s boring. They just don’t get it. They say that it’s all rigged anyway, and if that’s the case, then why take the time to learn about it? One of the tragic failings of American society is that the vast majority of our populace is truly ignorant of elementary economic factors, or how to manage money and grow our wealth.

This is intentional. That’s right. Books on economics, articles about stocks, they are written with jargon intended to confuse you. You are kept from understanding the science of economics and personal finance by design. Quite simply, rich people don’t want to share their knowledge with you, they certainly don’t want to share their spoils with you, and why should they? Is this their responsibility?

To them, you are cattle and they need meat. To them, only so many people can be cowboys, or own a ranch, or own a slaughterhouse.

So you have to take responsibility for your economic knowledge and you have to be paying attention to the world around you, if you don’t want to be a cow in the herd being led to the slaughterhouse, or if you want to make some money, or if you want to save some money, or at the very least, if you want to understand why it’s so important to be able to view the “invisible” moves that drive economic cycles.

Fundamentally, right now there is systemic risk in the world’s markets that can not be ignored. I use the word fundamentally, because the risk that’s out there goes straight to the most basic of economic lessons.

RISK FACTOR 1: Supply supply supply supply supply supply &….demand???

There is a glut of supply in the world’s markets. Not only for the materials that we need for everyday life, but in the markets themselves!

First, when supply is high, it drives the price of materials down, because, since they’re easy to come by, they’re cheaper. Simple stuff. And you’d think this would be good in the first world where wages, across the board, are staying flat. And there is not one commodity traded on the world’s markets (oil, cotton, nat gas, wheat, you name it) that is not suffering from the effects of higher supply to demand. When you have more supply than there is demand, it’s not a completely bad thing, right? The costs for all things goes down, and as a result, this mostly lowers the prices for goods. Things get cheap. BUT because the prices for goods continue to go lower, demand also goes lower, because, why buy something now, when I can buy it cheaper later? Especially if I haven’t gotten a raise in 5 years. So supply builds up even more, the cost goes down even more, the price goes down even more. This is called a deflationary spiral, and unfortunately, right now, the world is caught in one.

Second, there is oversupply in the stock markets themselves. This is the dangerous thing, what’s truly scary to investors, because this deflationary spiral has now hit the stock markets in Asia, Europe, the US. Again: same premise — there too much of a supply of stock, there is not enough demand, so why buy stocks now when I can buy them later/cheaper, leading to more supply, and lower prices…

Some argue there is a point when stocks get so cheap that people feel compelled to buy. Maybe. But how low must we go to get there? What is that point? I’d argue that UNTIL wages start inflating, and people actually have excess capital that they’d like to invest, then and only then can the demand meet the glut of supply in the stock markets around the world. Perhaps that’s a bit Polyanna – especially if the top 1% control 90% of the world’s wealth, after all…but a rising tide will lift all boats, which will definitely need to be lifted due to…

RISK FACTOR 2: The D-ebb-t

Money supply is like an ebb and flow. It comes and it goes, right? And one concern is that major commodity companies like Vale, Petrobras, US Steel, Freeport McMoran and Glencore have a TON of debt. When these companies issue bonds to raise money to fund projects (and hopefully not stock buybacks another more complicated yikes! factor that I won’t go into now) they take on debt. It’s sort of like taking out a second mortgage on a house. You promise to buy back the debt that you’ve been issued at a rate of interest, you get the money up front… BUT what happens when you take out that second mortgage and the price of your house collapses (due to too much supply….)? We saw what happens in 2008. And now, because the prices of the commodities (basically, the price of the house) that they mine / forge / sell is going so low, they will not be able to adequately make payments even if they sold everything they had. This will lead to defaults just as it led to foreclosures back in 2008. You compound that with the fact that investors have tied up billions in the high-interest bonds that these companies issued, and we have a big problem. Those investors are going to get their asses handed to them. And nobody really knows what to do about this, because, again, we’re in a deflationary spiral…. a spiral that brings

RISK FACTOR 3:  Inertia and Anti-Inertia

The law of inertia basically states that an object in motion tends to stay in motion, and an object at rest tends to stay at rest.

Money, or better, currency, has flowed out of the markets and into cash (…and not into bonds, the interest yields are too low, and remember, there’s just too much unpaid debt out there, too much unpaid debt from corporations, to municipalities, to even in the Federal Reserve, which has borrowed tremendously to fund it’s Quantative Easing measures.) Even worse, more and more short positions which are being taken, which, put in the most simple terms, are investments that make you a positive return when stocks are going down. The more this type of stuff happens, the more the “current-cy” flows this way, the more the stock market tends to go down.

It’s a negative current, lacking a positive charge.

And the only way that anyone can currently grow their wealth meaningfully is through stocks.

And because of all of this, there’s an imbalance. Imbalance leads to instability. Instability leads to uncertainty. And uncertainty leads to fear. Fear is with us and fear is rampant, rendering the financial markets and the central banks (the Fed at least) inert. They resist movement when movement is needed and pushed for. And I’m not talking about the largely symbolic move of the Fed raising it’s Funds rate 0.25%, though that “will they or won’t they” has certainly not helped.

I’m talking about the markets doing something about the supply / demand problem (increase wages, increase the demand!), I’m talking about the markets doing something about the massive debt overhangs (improved corporate governance leads to improved monetary policy), and I’m talking about movement, any movement, toward a positive charge.

Until then, the harmony that no one likes stocks right now is unmistakeable.

I’ll be back in the room later when things are more intentionally confusing.


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