Central Bankers to the Masses: “Let Them Eat Rate!”


There never was any cake, just crust.

And the French Marie had nothing to do with it. Rather, a Spanish-born queen married to France’s King Louis XIV a century earlier was the ill-mannered Marie who dared to taunt the peasantry. So how then exactly did, “Let them eat cake!” become so universally associated with Marie-Antoinette? In a nutshell: Blackmail.

Historians have uncovered the nasty truth, and it can be laid squarely at the feet some far from scrupulous London-based thugs, intent on shaking down King Louis XVI with threats to besmirch his young bride’s reputation. According to Simon Burrows of Leeds University, a criminal network, drawn to the French monarchy’s vast wealth, plotted to profit by producing a series of pamphlets filled with lies about the ill-fated queen. Those lies included a charge that she had callously suggested her subjects eat cake in response to news of a bread shortage plaguing the masses. Though the king paid a dear price for the pamphlets’ destruction, some 30 copies were not burned as promised and found their way into the public’s hands sealing the queen’s fate kneeling before the guillotine.

Today, the shortage plaguing angry masses of savers worldwide is not one of bread or cake, but rather one of positive rates of return on their cash holdings. The central bankers know best as they command us to eat one rate cut after another. And like it.

For nearly 30 years, central bankers have based their haughty reasoning on the idea that the lower the interest rate, the greater the generation of economic growth. As then Fed Chairman Ben Bernanke explained in 2012, “My colleagues and I are very much aware that holders of interest-bearing assets, such as certificates of deposit (CDs), are receiving very low returns. But low interest rates also support the value of many other assets that Americans hold, such as homes and businesses large and small.”

It’s certainly been the case that the prices of homes and businesses have been upheld. Though their appetite may have waned a bit, investors have richly rewarded companies who use low interest rates to finance share buybacks with debt. And there’s no doubt investors of a different ilk did more than their fair share to prop up home prices at the lower end while wealthy individuals have bid up the prices of luxury homes to record highs.

The question is, is that what Bernanke intended? It would appear not as one of the stated objectives of the punishing policy of ultra-low rates was to spur income-generating job creation:

“Healthy investment returns cannot be sustained in a weak economy, and of course it is difficult to save for retirement or other goals without the income from a job. Thus, while low interest rates do impose some costs, Americans will ultimately benefit most from the healthy and growing economy that low interest rates help promote.” Or at least that’s what Bernanke led us to believe.

While it is true that returns on risky investments have been stellar, fewer and fewer Americans are comfortable with the risks associated with owning the most common of the pack — stocks. According to an April Gallup poll, the percentage of U.S. adults invested in the stock market has fallen to 52 percent from 65 percent in 2007, a 20-year low. So while there are definitely benefits to some, Bernanke’s “ultimately benefitting most” part has fallen far short, and to an increasing extent.

Digging into the data, at -14 percentage points, those aged 18 to 34 were the most aggressive lot to abandon stocks. Meanwhile, at -9 percentage points, those aged 55 and above were the least. There seems to be an intuitive disconnect somewhere in that divide, one that should keep policymakers up at night.

There is a very real refute that we’d have to return to the bad old days of rampant inflation, when the degradation of the purchasing power of the dollar more than offsets the plump interest rates on offer at our local bank branch.

While we collectively rue that era, it’s fair to say most seniors would gladly settle for a happy medium, a return to the turn of this young century when you could get a five-year jumbo CD sporting a five-percent APR, which was offset by inflation somewhere in the two percent vicinity. Traditionally, two to three percentage points above inflation is where that old relic, the fed funds rate, traded. So the math worked.

Of course, it could be worse. At least U.S. yields on savings are positive. That’s more that can be said of the $7 trillion of foreign sovereign bonds trading at negative yields. This dynamic spells disaster for life insurers to say nothing of pensions. Increasingly, foreign pensions are raising retirement ages as well as requiring higher employer and employee contributions, all the while lowering the salaries against which benefits are calculated, even as they segue benefits onto 401k-style platforms.

For now, the judiciary in the U.S. is holding the legal line. As long as that’s the case, actions to shore up pension underfunding will be avoided. Of course, at some point drastic measures will be required as the tax bases supporting future benefits shrink in proportion to the highest tax payers fleeing the fleecing.

Public pensioners with no back-up savings are sure to be enraged when their day of reckoning arrives. Then, today’s non-pension-backed retirees making crumbs on their cash holdings will be flush in comparison.

And yet Bernanke deigns to wonder. Last fall after leaving the Fed, he had this to say to Martin Wolf of the Financial Times: “It’s ironic that the same people who criticize the Fed for helping the rich also criticize it for hurting savers. What’s the alternative? Should the Fed not try to support the recovery?”

This coming from the same man who once said, “No one will lend at a negative interest rate; potential creditors will simply choose to hold cash, which pays a zero nominal interest rate.”

According to one recent Wall Street Journal story, that last observation certainly does hold true. Negative interest rates do benefit at least one of our contingencies: U.S. companies with European subsidiaries. Now that the European Central Bank (ECB) is in the business of buying corporate bonds, demand for issuance is all but a lock given the ECB can buy up to 70 percent of an issue, at issuance, to boot. Bully for that?

Not so fast says Standard & Poor’s (S&P), which just stripped the energy giant ExxonMobil of its coveted since 1949 ‘AAA’ credit rating. Why? Share repurchases and dividend payments have “substantially exceeded” internally generated cash flows in recent years even as its debt load has doubled. That leaves two solitary AAA-rated U.S. credits, Johnson & Johnson and Microsoft. It’s getting mighty lonely at the top.

But of course, there’s nothing of the wildcatter in ExxonMobil’s overindulging its shareholders. For seven straight quarters, over 20 percent of the companies in the S&P 500 have reduced their year-over-year share count by at least four percent, which conveniently translates into at least a four percent pop in their PER share earnings. Ain’t math grand?

Based on the data thus far, the trend is becoming increasingly entrenched. S&P’s Howard Silverblatt anticipates that public filings will reveal that over one-in-four deep-pocketed (debt-pocketed?) issues were in the aggressively juicing earnings cohort in the first quarter.

The end result of all of these financial shenanigans? For starters and enders, a whole lot of nothing productive. According to Bookmark Advisors’ Peter Boockvar, the absolute level of core capital spending (nets out transportation) was $66.9 billion vs. $69 billion in 2011. As for the percentage of capacity that’s being utilized, it remains well below its long-term average seven years into this economic expansion.

“Cheap money has created too much excess,” Boockvar noted. “On top of that, some CEOs are more interested in the short term focus on other capital uses such as buying back their own stock in the now second-longest bull market of all time.”

Is it any wonder small investors continue to lose faith in the stock market? Should they be chastised for wanting a teensy weensy return on their cash? Dare we brand these conservative souls greedy, wanting to have their cake and eat it too?

Perhaps. But maybe the real solution to placate the angry masses is an admission that the original intent of zero-to-negative interest rates has utterly failed. Sufficient economic growth to offset the forced risk taking simply has not materialized leaving Grandma and Grandpa with their life savings hanging in the balance.

Perhaps the current conundrum will present an opportunity when the next recession arrives, a chance to recognize the failure of the low interest rate era. As counterintuitive as it would seem, why not use the next period of economic weakness to set a permanently higher floor on interest rates. Will the weakest operators meet their makers at the corporate guillotine? Naturally that will be the case. But isn’t that the American way?

A new generation of revolutionary central bankers must be called to arms for all of our sake. Their battle cry: We commit to never returning rates to zero or below again, to never let be money be free and forever ensure there is a true cost associated with borrowing. Release the markets to set interest rates now and forever!

Will it work? Stranger things have been known to succeed in capitalistic economies with competitive and freely functioning markets.

Distress Testing the Efficient Frontier

Distress Testing the Efficient Frontier

Many historically inclined residents of White Plains, New York can recount the legend of Sleepy Hollow and what inspired it. The day was October 31, 1776 and our young Revolution was in the throes of a heated battle. One this bloody All Hallows Eve, so stirred by his witnessing of a horrific incident on the Merrit Hill battlefield was American General William Heath that he dramatically recorded the horror of it in his journal as such: “A shot from the American cannon at this place took off the head of a Hessian artillery-man. They also left one of the artillery horses dead on the field. What other loss they sustained was not known.”

It was the general’s vivid recollection of this scene that was to be the inspiration for author Washington Irving’s penning of his classic ghostly retelling of Heath’s journal entry, America’s version of a common folk tale dating back to Celtic times when for the first time the Headless Horseman set out on his eerie ride.

Today, investors may find themselves wondering just what financial spirits have already been unleashed to darken the legacy of the Federal Reserve’s current head. They know what lingers to ominously shadow two of her notable predecessors. Alan Greenspan will forever be disturbed by the ghost of irrational exuberance, and his successor Ben Bernanke by the vestiges of subprime being “contained.” Given the state of the financial markets today, odds are Janet Yellen will be perennially preoccupied by the death of the efficient frontier.

In a perfect world, as we were schooled in Portfolio Management 101, investors maximize their return while minimizing their risk. To accomplish this, we’ve long relied on the work of Harry Markowitz who, in 1952, developed a system to identify the most efficient portfolio allocation. Using the expected returns and risks of individual asset classes, and the covariance of each class with its portfolio brethren, a frontier of possibilities is conceived. Where to settle on this frontier is wholly contingent on a given investor’s unique risk appetite. And so it went – in yesteryear’s perfect world.

Unfortunately, the Fed’s fabricating of a different kind of perfect world has all but rendered impotent the efficacy of the efficient frontier. There are countless ways to illustrate this regrettable development, one of which can be viewed through the prism of volatility.

Investors are now so enamored of the good old days, when assets traded in volatile fashion based on their individual risk characteristics that the “VIX” has become a household name. In actuality, it is as it appears in its all-cap glory – a ticker symbol for the Chicago Board of Options Exchange Volatility Index. What the VIX reflects is the market’s forecast for how bumpy things might, or might not, get over the next 30 days.

As is stands, at about 13, the VIX is sitting on its 2016 lows which are on par with where it was in August following the Chinese devaluation scare. But it has not been uncommon in market history for the VIX to dip below 10 into the single digits, as it did in late 1993. It again broke below 10, but with much more fanfare, in 2007 ahead of a vicious bear market that ravaged investors in all asset classes.

Writing up to 16 markets briefs per year for nearly a decade inside the Fed required no small amount of title-writing technique. One of the most memorable of these immortalized in early 2013 was “Fifty Shades of Glaze,” which touched on the very subject of investor complacency using the VIX as evidence. The Wall Street Journal reported on March 11 of that year that investors were “worry free” in light of the VIX falling below 12, a number not seen since 2007.

The hissy fit that markets pitched a few months later following the Fed’s threats to taper open market purchases served to send the VIX upwards. But things have since settled down, convinced as markets are that lower for longer is the newest ‘new normal.’ In a seemingly comatose state, the VIX has breached 15 on the downside twice as often since 2013 as it has on average since 2005.

“I’ve been making the argument since 2010 that heavy-handed central bank policy is destroying traditional relationships,” said Arbor Research President Jim Bianco, who went on to add “stock picking is a dead art form.”

By all accounts, Bianco’s assertion is spot on – the death of stock picking has not been exaggerated. It’s no secret that indexing is all the rage; index-tracking funds now account for a third of all stock and bond mutual fund and exchange-trades fund assets under management.

The problem is that the most popular index funds have distorted valuations precisely because passive investing has become so popular. Consider the biggest index on the block, the S&P 500. Now break it down into its 500 corporate components. Some are presumably winners and some not so much. But every time an investor plows more money into an S&P 500 index fund, winners and losers are purchased as if their merits are interchangeable. The proverbial rising tide lifts all boats – yachts and dinghies alike.

If that sounds like a risky proposition, that’s because it is. Not only are stocks at their most overvalued levels of the current cycle, index funds are even more overvalued, and increasingly so, the farther the rally runs.

As Bianco explained, “In today’s highly correlated world, company specifics take a back seat to macro considerations. All that matters is risk-on and/or risk-off. Unfortunately, this makes the capital allocation process inefficient.”

The question is, what’s a rational, and dare say, prudent investor to do? In one word – suffer.

Pension funds continue to fall all over one another as they jettison their hedge fund exposure; that of New York City was the latest. It’s not that hedge fund performance has been acceptable; quite the opposite. But ponder for a moment the notion that pensions no longer need to hedge their portfolios. Is the world truly foolproof?

Of course, hedge funds are not alone in being herded to the Gulag as they are handed down their Siberian sentences. All manner of active managers have underperformed their benchmarks and suffered backlashing outflows. They’ve just come through their worst quarterly performance in the nearly 20 years records have been tracked.

And so the exodus from active managers continues while investors maintain their dysfunctional love affairs with passive, albeit, aggressive investing.

When will this all end? It’s hard to say. Bianco contends that it’s not as simple as what central banks are doing – they’ve abetted economic stimulus efforts before. Remember the New Deal? What’s new today is the size and scope of the intervention.

How will it end? We actually have an idea. Passive bond funds “enabled the borrowing binge by U.S. oil and gas companies,” as reported by Bloomberg’s Lisa Abramowitz. It was something of a vicious process that started with – surprise, surprise – zero interest rates compelling investors to reach for yield.

Enter risky oil and gas companies whose bonds sported multiples of, well, zero. It all started out innocently enough in 2008, with these issuers having some $70 billion in outstanding bonds. But every time they floated a new issue to hungry managers, their weight in the index grew proportionately. In the end, outstanding bonds for this cohort rose to $234 billion.

“Their debt became a bigger proportion of benchmark indexes that passive strategies used as road maps for what to buy,” Abramowitz wrote. “Leverage begot leverage begot leverage.”

Since June 2014, some $65 billion of this junk-rated debt has been vaporized into a default vacuum. Yes, passive investing involves lower fees. But it can also suffer as indiscriminate buying can just as swiftly become equally indiscriminate selling. Such is the effective blind trust index investors have put in central bankers to never allow the rally to die.

“The actions of people like Janet Yellen or Mario Draghi matter far more than any specific fundamental of a company,” Bianco warned. “It’s as if every S&P 500 company has the same Chairman of the Board that only knows one strategy, resulting in a high degree of correlation between seemingly unrelated companies.”

Nodding to this dilemma, several years ago, the CFA Society raised a white flag on the efficient frontier in a Financial Times article. Any and all applicants were welcome to suggest a new order, a new way for investors to safely design portfolios to comply with their individual risk tolerance.

Just think of the inherent quandary facing the poor folks who run insurance companies. These firms have a fiduciary duty to own at least some risk free assets. That’s kind of hard to do when yields on these assets are scraping the zero bound, or worse, are negative as is the case with some $7 trillion in bonds around the globe.

“Investors have traditionally been able to build balanced portfolios with the inputs of risky and risk-free assets,” said one veteran pension and endowment advisor. “Now that risk-free assets sport negative yields in many countries, to earn any return at all, you have to take undue risk. This breaks the back of the whole equation that feeds the efficient frontier.”

A while back, Yellen warned investors of the potential pitfalls of owning high yield bonds. She was no doubt studying data that showed mom & pop ownership of these high octane assets was at a record high. Many onlookers balked at the head of a central bank wading into the wide world of investment advice.

But perhaps it’s simply a case of recognizing one’s legacy well in advance. Small investors today have record exposure to passive investing. If Yellen fully grasps what’s to come, she’s no doubt preemptively struck and tormented by the future ghost of rabid animal spirits.

“It’s like giving a teenage daughter a Ferrari and hoping she won’t speed,” the advisor added. “If central banks keep price discovery in shackles indefinitely, Markowitz will have to return his Nobel prize.”

Let’s hope not. If that’s the case, and the efficient frontier never regains its rightful place in the investing arena, we will find ourselves looking back with less than wonderment as the hedgeless horseman gallops away with our hard earned savings.


Towers of Dabble

TOWERS OF DABBLEMan’s long determined history of dabbling in the building of touted towers, surely not for his self-gratification, but rather to bring him closer to God, has rarely been met with benevolence. Maybe God doesn’t like man, who He created after all, attempting to smash through His glass ceiling. Consider, if you will, the first known example of such an attempt. Having heeded Noah’s warnings, a postdiluvian band of survivors just couldn’t resist taking a stab at the celestials, raising the Tower of Babel they were sure would be gloriously received.

According to preeminent Bible historian James Kugel, there would be no such reception, just rejection: “The real crime involved in the building project was the tower itself, which was intended for the purpose of ‘storming heaven’ or some related evil desire.”

Though the Old Testament’s telling leaves much open for interpretation, the idea of vengeance being associated with sky-piercing structures seems to have stuck, especially among financial market historians. Analysts at the British bank Barclays originally voiced the idea that if you build it, it will come, as in a financial crisis. That is, every time an erected edifice unseated its predecessor to become the newest world’s tallest building, economically upsetting times tended to follow. It’s uncanny how well that shoe continues to fit.

It all started at the height of the Roaring Twenties on that little 13.4 x 2.3-mile island we know as Manhattan. Walter P. Chrysler was keen to build a monument, namely to himself. But there was competition nipping at Chrysler’s heels with the simultaneous construction of 40 Wall Street, which would indeed be the world’s tallest, that is, for one month between April and May 1930.

On May 28, 1930, it took all of 90 minutes to secret a clandestinely constructed spire atop Chrysler’s building, thus trouncing his downtown architectural rival. Of course, the real victor emerged 11 mere months later when the Empire State Building opened in early 1931 presaging, by the way, the Great Depression. It would be nearly 40 years before a taller tower would rise.

The construction and December, 1970 opening of the World Trade Center would then coincide with the end of the second longest U.S. economic expansion which began in 1961. Chicago’s Sears Tower would go on to wrest away the reign in 1973, a top spot it held for more than two decades. It’s opening’s appeared to herald the nasty stagflationary recession that ended in 1975. Malaysia’s 1996 title sweep arrived alongside the Asian financial crisis. Most recently, the 2007 opening of Dubai’s Burj Khalifa augured the Great Financial Crisis.

Surely these episodes have been sufficient to appease the dieties. In short, quite the opposite. If frenetic skyscraper construction flags misallocation of capital, we could be in for a doozy of a correction in global commercial real estate. Consider the numbers in the aggregate. It took 80 years after the opening of the Chrysler Building to build the next 49 supertall skyscrapers, defined as 300 meters (984 feet) or more.

How on earth, or in the heavens, to put it more aptly, has the hundredth supertall just opened on Park Avenue? It might have something to do with the fact that in the short five years through 2015, a subsequent 50 supertall skyscrapers have been erected.

Economic historians could well have been shaken to their very foundations upon hearing news that financing to construct a historic colossus had been secured late last year. Rising from the sands and promising to reach the seraphs, Saudi Arabia’s Jeddah Tower is to rise 3,280 feet into the stratosphere. That’s 1,000 meters, as in one kilometer, besting the Burj by 591 feet. The question is, will there be economic repercussions?

Judging from the collapse in the price of oil, some might argue divine intervention has already come and gone. It is certainly the case closer to home that the oil patch blues have dragged down commercial real estate. The latest data on commercial mortgage-backed securities (CMBS) delinquencies reads like a who’s who of yesteryear’s shale boom.

Some 17 loans totaling $152 million became freshly delinquent in March, the largest one-month tally since November, 2012, according to a new Morgan Stanley report. Six of these gems are located in ‘oil boom’ territories including Casper, Wyoming; Odessa and San Angelo, Texas and North Dakota’s Dickinson and Bakken Shale regions. Another notch down the distress ladder, 14 loans moved to the status of “specially serviced,” when a new mortgage servicer takes over a loan that’s 90 days or more in arrears; 10 of them had low oil prices to blame.

The working assumption must be that the economic damage inflicted by energy’s woes will be contained. How else to explain the construction of a $1.2 billion mecca in the land of the Saudi kings? Unless, that is, it’s as simple as the money being there for the financing. Stranger things have been known to happen when interest rates are held at low levels for longer than imaginable by yield-starved investors.

History stretching back to Biblical times suggests there will be economic pain between now and the Jeddah’s scheduled opening in 2020.

The fine folks at Jones Lang LaSalle (JLL) would beg to differ. A new study released by JLL, the real estate investment management giant, forecasts real estate transaction volumes will crest $1 trillion by the end of this decade, rising from $700 billion last year. The enabler will be international money flows: JLL estimates $500 billion in annual cross-border activity by 2020.

The movement between regions will be catalyzed by demographics, according to the JLL study, which notes there will be more people over the age of 55 by 2050 than there were inhabitants on earth in 1950.

“This demographic impact will have a profound effect on real estate investment strategies with the amount of private equity capital targeting direct real estate set to increase by over 500 percent, much of it driven by increasing institutional allocations looking at higher yielding opportunities.”

Did you notice something implicit in JLL’s argument? It would seem lower for longer will remain the mantra for the foreseeable future, which suggests frothier markets and subpar growth will continue. The most interesting tidbit comes down to who will be doing the investing, that is private equity.

As it were, private equity “dry powder” directed specifically to real estate investments rang in the New Year at record levels. There is now $231 billion in dry powder available just for properties in the United States after $107 billion was raised in 2015.

For being six years into a recovery in commercial real estate, investors certainly remain enthusiastic, especially public pensions. Pensions have allocated some $207 billion to private equity funds since late 2012. Increasingly, allocations have targeted real estate funds with March of this year providing a perfect example of the merriment surrounding this asset class. Here’s a wee sampling with special notations if the real estate fund is of a particular bent:

Texas Teachers:                                               $500 million
State of Oregon’s Pension:                              $300 million
Pennsylvania Public School Employers:          $307 million
Ohio Workers Compensation Bureau:            $125 million
State of Minnesota’s Pension:                         $100 million (distressed);  $100 million (opportunistic)
State of Maine Pension:                                  $50 million
State of New Jersey:                                       $200 million (commercial)
State of Kansas:                                              $50 million
Texas Municipal:                                             $375 million

“Pensions’ chronic underfunding has prompted them to stretch to achieve unrealistic return targets,” New Albion Partners’ Brian Reynolds explained. Reynolds has been keeping a running tally of these allocations and is quick to point out that leverage is often needed to hit the bogeys, which are 7.5 percent or more. Bear that in mind when you consider the money being shoveled into these funds.

It really comes down to size, that is, of the pension system. In the early 1980s, pension liabilities amounted to about 50 percent of gross domestic product (GDP); today they are 100 percent of GDP. “Because of their growth, their investment flows have led to asset bubbles that have generated permanent losses,” Reynolds added.

Pensions flocked to hedge funds but that strategy blew up after Long Term Asset Management nearly took down the financial system. This strategy was followed by wholesale herding into commodities, which we all know ended is disaster.

The catch is the rate-of-return bogeys have barely budged despite Baby Boomers moving increasingly closer to retirement suggesting some risk should be taken off the table. (Rather than keeping you in suspense, it’s nearly an impossible feat to lower return targets. Less in assumed returns means states and municipalities have to pony up more money they don’t happen to have on hand. The State of Connecticut has reached the point where it is now taking a stab at taxing Yale’s endowment in a desperate attempt to top off its underfunded pensions.)

No matter how you slice it, most public pensions face a dire set of circumstances, which begs the question: Just what are they to do?

Reynolds’ reply: “They have turned to the last remaining asset class with high expected rates of return – commercial real estate. It’s as simple as that.”

Perhaps pensioners should begin praying the JLL report pans out. With commercial real estate prices declining in January for the first time since 2010, the latest data available, and investors balking at rich valuations, it just might take a miracle to keep profitable prospects alive.

In the meantime, all we can do is sit back and wonder what’s to come. Transaction volumes in the trillions and heights exceeding a kilometer – how do tomorrow’s architects top that? Is man’s vanity so great he will risk an even sharper blow to the glass in that celestial ceiling? If he does, what vengeance might follow? The best we can do is hope future history books don’t include records that give new meaning to that old warning, “Look out below!”

Give Me Liberty or Give Me Debt!

In the event you’ve already binge-watched House of Cards Season Four, don’t be so quick to tune Netflix out. Instead, restore your faith in mankind and search for Brothers in War, a gripping National Geographic Vietnam War documentary that recounts the journey of Charlie Company. Though two-thirds of those who served in combat in Vietnam were volunteers, the draftees featured in Brothers were one of the last groups to go through basic training and sent to the front lines together, in this case to the unforgiving Mekong Delta. Some 50 years later in the making of this film, they reunite and marvel at their lasting bond. But most of all, these boys, now seniors, ask what gift of fate allowed them to return home at all, unlike so many of their comrades who made the ultimate sacrifice.

Among the unalienable rights generations of U.S. soldiers have fought to preserve is that of liberty, both ours and that of those in foreign lands. Little could many of those who served in the Vietnam era have known how terribly that very freedom for them as individuals would be impinged upon in their lifetimes. Among workers who are roughly the age of Vietnam veterans, 65 and older, those who work because they have to now exceed those working by choice by a factor of 2 to 1.

Several culprits contributing to their delayed retirements are easily identifiable, chiefly being a lack of savings and income. But these are merely symptoms and don’t get at the root cause of the disease. At its contaminated core is a fundamental change in our culture which has for many, blocked the pathway to achieving the American Dream. That change is an acceptance of debt, rather than investment, to power economic growth.

Evidence of this transformation has shoved its way onto front pages in recent months. Fresh data out of the New York Federal Reserve show that debt among older Americans more than doubled in the 12 years ending 2015. Specifically, the average 65-year old has 47 percent more mortgage debt and 29 percent more auto debt than 65-year olds did in 2003. Over that same period, their labor force participation rate increased to over 19 percent from 13 percent, while that of the entire labor force went in the opposite direction.

As an aside, in the event the allure of a demographic explanation appeals, seniors’ increased debt loads are not directly attributable to longer life expectancy, though that argument would be convenient. The fact is, it’s difficult to retire when your savings have been ravaged and you’re shouldering more debt.

The shame of it is, it didn’t have to be this way. The economy could have been growing organically for the past 30 years in the same vein some of the world’s most successful companies have, from the inside out, by way of reinvestment. Granted, economic growth that stems from the disciplined redeployment of earnings is not as easy to maintain. But by the same token, it leads to far less violence in the business cycle.

Austrian economists refer to the serial boom and bust cycles spawned by prolonged periods of artificially low interest rates as malinvestment. How has this scourge manifested itself since the late 1980s, as today’s Wall Street came of age, with the birth of the Greenspan put? Without getting into the nitty gritty of each iteration, a whole heck of a lot of financialization took place, for lack of a more accepted existing term.

Financial institutions and capital markets worldwide came to dominate the economic landscape by lending into every nook and cranny regulators would knowingly or inadvertently allow credit to seep. Think of the numerous emerging market debt crises, Long Term Capital Management, the dotcom revolution, the commodities supercycle, the housing bubble and finally today’s mammoth credit bubble in its various forms.

In the case of the U.S. economy, the most damning conviction of malinvestment is productivity growth that’s threatening to flat line; it ended last year up 0.5 percent over the last three months of 2014. For comparative purposes, the 30-year average is 1.9 percent.

My former colleagues at The Liscio Report, Philippa Dunne and Doug Henwood, have done extensive work on the origins of declining productivity. They found the most obvious cause to be a lack of investment on companies’ part noting that at 6.0 percent of gross domestic product (GDP), equipment and software spending is below the 1950-2015 average. “The series seems to have topped out for this cycle at levels comparable to earlier recession lows,” they remarked.

Is it that companies are simply low on cash? Not hardly, they’re just directing that cash to share buybacks and buying each other out. “That may make some people happy for a while, but it doesn’t have the feel of a long-term strategy about it,” Dunne and Henwood observed. Indeed.

But there’s something much more subtle at work according to two recently published papers, both of which are footnoted at the bottom of this piece. The first paper links shifts in the composition of the workforce to credit booms and the financial crises that inevitably follow based on 21 episodes in advanced economies since 1969.

Not only does the temporary misallocation of investment do damage during the boom period – think of all those construction jobs that were created during the boom-boom days of the housing mania. The protracted, as opposed to plain vanilla, recessions that follow credit crises also act as a drag on underlying productivity. Income levels take appreciably longer to bounce back limiting both the ability to rebuild savings and splurge on that extra something without incurring even more debt.

The second paper examines the effects of startups, or a lack thereof, on productivity growth. The break in startup activity, such as that which accompanied the 2009 financial crisis, has left a lasting impact on GDP and productivity growth. While startup activity has recovered from its 2009 lows, it remains at the average level that prevailed prior to the crisis, from 1976-2007.

Looking back, Census Bureau data leave little doubt as to how much damage has been exacted as debt has unseated investment as the main driver of the U.S. economy. Newly formed firms represented as much as 16 percent of the total in the late 1970s; that share had declined to eight percent by 2011.

As for the prognosis for future start-up activity, stabilization at a low level may be as good as it gets for the current cycle. In the fourth quarter, venture capital financing fell by 30 percent in dollar terms while the number of transactions declined by 13 percent over the prior three months.

The startups that are lucky enough to survive their first year are otherwise known as small businesses. In February, their reported optimism on the outlook fell to a two-year low according to the National Federation of Independent Businesses. Plans to hire and increase capital spending fell in concert with the number of those reporting they expected improvement in the economy holding stubbornly steady at the lowest level since November 2013.

“The small business sector is not headed up with any strength,” said Bill Dunkelberg who heads up the NFIB. “(it’s) just treading water waiting for a good reason to invest in the future.” That certainly doesn’t portend for a strong rebound in productivity.

One dot that has yet to be connected to complete this picture is how this decline in productivity has impacted households. As pointed out in the Financial Times last week, after adjusting for inflation, median U.S. household income in 2014 was $53,657, about where it was in 1996. Though it will be interesting to see the 2015 numbers once they’re released, the latest data through February show no signs of a pick-up.

That could have to do with the types of jobs that have been created over roughly the same period. Dunne and Henwood were kind enough to run the numbers. What they found: Since 1994, the ‘eat, drink and get sick’ sectors of the workforce, as they like to call them, have seen their share of the labor force pie grow by about a third. Since then, the long decline in manufacturing has continued, with its share nearly halved, while that of trade, transportation, warehousing and utilities has shrunk by a third.

It stands to reason that the industries most supported by flat incomes are those that require the least in the way of disposable incomes. As for the ‘get sick’ sector’s job growth, it’s simply a reflection of the aging and growing of the population. And so, Americans take what little they’ve got left after covering the roof over their head, the cost of which has relentlessly marched upwards thanks to cheap debt financing, and spend the remainder on doctors’ bills and a night out at their eatery of choice.

The irony is working Americans have never been so well educated. They could be doing so much more. But that’s what a lost generation of corporate investment gets an economy – plenty of degree holders but not enough high paying jobs to go around. If only this too hadn’t been financed by debt. The latest figures show government-owned student loans as a percentage of consumer debt now exceed 27 percent.

There is however a silver lining: while the average 30-year old is shouldered with three times as much student debt as in 2003, these borrowers carry so much less in the way of mortgage, credit card and car loan balances that their overall debt loads are lighter than they were 12 years ago.

Granted, this isn’t all by choice; access to mortgage debt has been restricted. Nevertheless, the glass is half full interpretation suggests the beginnings of a tide shift in our culture. What if Millennials prove to be the first generation to reject debt as a way of life and tell central bankers what they can do with their overreaching influence?

That would be a welcome first step and a fitting salute to past generations who have fought and sometimes paid the ultimate price to uphold the principles of our founding fathers. If only it wasn’t the case that so many of the survivors of our country’s hard fought battles today find themselves with so little financial freedom.

Life, liberty and the pursuit of happiness might not come so easy to the current generation’s more fiscally prudent pioneers. But their brand of prosperity, which harkens to a bygone era that should never have gone by, might just stand the test of time and be that much more rewarding in the end.


Bank for International Settlements Working Paper No. 534: Labour reallocation and productivity dynamics; financial causes, real consequences by Claudio Borio, Enisse Kharroubi, Christian Upper and Fabrizio Zampolli, December 2015.

The Federal Reserve Bank of Chicago: Firm Entry and Macroeconomic Dynamics: A State-level Analysis by François Gourio, Todd Messer, and Michael Siemer, January 2016.  

MacGyver Money

MacGyver Money, paper clip

The ever resourceful MacGyver had nothing on ladies who lunch.

Well-heeled women who meet for long lunches — often for a good cause, often for a nice pause – simply have more ingenuity than the late 1980s action-adventure TV star. Take a case in point from the Great Financial Crisis: Their wallets stripped unceremoniously by their husbands of their credit (cards), armies of determined women descended upon Needless Markup with something more powerful than a piece of plastic. Back in the day, unbeknownst to their hapless husbands, there was no need to carry a physical card to get the day’s shopping done. Zip, zap, charge that! And away they fled, packed with fancy furs and frocks, teetering under the weight of designer bags and baubles. The destination? But of course, the high end consignment shop that paid a premium for NWT, as in new with tags, in cold, hard cash.

These circa 2009 wives followed generations of women who had fashioned ingenious ways to maintain their lifestyles regardless of where the business cycle may have been. The secret ingredient throughout the ages has always been cash – actual currency whose circulation is now at risk. It’s safe to say that the drug lords and other money laundering sorts will have their own lobbyists strong- arming politicians to shelter the means to their ends. But it’s the Ladies the brilliant economists should fear most.

The past few months of heated debate about the efficacy of negative interests has predictably led to talk of banishing currency as we know it. Which has led to a chorus of livid Ladies’ replying: “over our dead bodies!”

A bit of history here. The origins of wives who stealthily siphon money from their spouses in one form or another is technically an unknown. What can be posited is that Romans preferred cash over credit transactions. After the fall of Rome, banking in Europe went into a 700-year long hiatus and would not enjoy a renaissance until Henry II levied a tax to raise the vast sums required to finance the crusades.

Suffice it to say the fall of Rome was a traumatic event for the average Italian housewife. Perhaps it was then that the tradition of a cash society extended to the advent of mama’s mad money. Why, the writer of this commentary herself was schooled in the fiscal fine art of establishing a cash stash by her Nona from Naples.

Spring forward in time to the aftermath of the latest financial crisis, which was not unlike the fall of Rome in terms of the still-unfolding disastrous consequences. All of that haute couture hocking by the Ladies presumably left its mark on these savvy socialites, who no doubt placed little faith in central bankers’ ability to juice the economy into overdrive. Nope, the Ladies had read that trashy novel and knew how it ended the first and second times that their husbands callously stripped them of their plastic armament. They surely weren’t going to be fooled three times regardless of the fact that the title had changed from the Dotcom Miracle to the Great Moderation. Plus, what kind of a title was Quantitative Easing away?

Nope, these liquid ladies have plenty of cash stored up for the next time the financial markets bring on forty days and forty nights of rainy misery. Plus, Needless Markup now requires actual credit cards to transact. So a higher degree of MacGyverism would be needed to make money appear out of thin air this go round.

News that the government, acting in their best interest, was set to abolish Benjamins as a store of value and means by which to luxuriously lunch would be greeted with understandable umbrage. Hiding their hoard would be all that much more challenging if they had to increase the number of bills in hand tenfold. For sympathy, they could look to their Italian counterparts who are no doubt seething following European Central Bank President Mario Draghi’s pronouncement that the 500 Euro note need go the way of the dodo bird.

But why bother? Better to fight the first fight of moving to negative interest rates which brings up the nasty need to abolish cash in the first place. That shouldn’t be too difficult for the Ladies given the fair chair of the Federal Reserve is also a woman.

The added economic benefit, which Janet Yellen would naturally be inclined to nurture, would be the preemptive salvation of grey economy jobs that would otherwise be sacrificed, yes even here in America. (Italy may not get off so easy if Draghi succeeds in doing his own people in.)

To procure even more political and moral capital, Yellen could speak for the masses of hard-working Americans who live on a pure cash existence due to the prohibitive cost of joining the banked.

Merchants would also no doubt side with her given the savings they enjoy every time a purchase rings up in cash rather than with a debit or credit card. Tis true, those three-percent transaction fees do add up.

And then there’s that lowest of low hanging fruit. Yellen would save borrowers money. Bankers wouldn’t be forced to raise interest rates on consumer loans to offset what they will never do; that is, levee a de facto tax on their depositors. Ask would-be Danish homebuyers how they feel about negative interest rates. But don’t be surprised if you get a steely stare in return.

It’s with good reason that The Lindsey Group’s Chief Market Analyst Peter Boockvar calls negative interest rates “weapons of mass confiscation.” That is the very essence of negative interest rates. And yet the brain trust that dreamed them up has deluded itself into believing they will force lending into the economy when they will do no such thing.

Yellen’s taking the path of most resistance in pushing against the colossal consensus campaigning for negative interest rates will deliver the greatest rewards to the fragile financial system by mitigating the damage inflicted by the bursting of the credit bubble. This will garner all manner of merit points as Yellen convincingly demonstrates how she has endeavored to safeguard the sanctity of the global financial system.

The alternative? According to the data on hand, negative interest rates risk transforming the current credit bubble into something more epic in scope. According to Moody’s most recent refunding, study, nearly a trillion dollars of high yield debt matures between now and 2020. Bank credit facilities comprise $580 billion of the total (think all of those energy lines of credit that banks will be closing soon). Some $367 billion are junk bonds due to mature.

If you aren’t on board with the lunching Ladies’ conclusions that lower for longer will not make the country stronger, consider the following: high yield maturities have skipped upwards by a fifth since Moody’s senior analyst Tiina Siilaberg last trudged through this exercise a year ago (alas, tallying up these enormous sums leaves Siilaberg no time to lunch.).

As is the case with all credit cycles gone wild, some heyday deals will inevitably rise to poster child status. Vying for this distinction are issuers tied to $255 billion in debt that comes due over the next five years that have leverage that exceeds six times their earnings before interest, taxes, depreciation and amortization.

What could keep these companies that are drowning in debt among the living? Since you happen to ask, negative interest rates, of course. “The risk is that negative interest rates encourage companies to continue leveraging up,” Siilaberg warns. “It’s true that negative rates will postpone the default cycle, but once it arrives it will be deeper and more widespread.”

Granted, such brave action would require Yellen, whose views channel the spirit of Keynes on steroids, to wax Austrian. Though it might feel akin to a lobotomy being married to an out of body experience, the metamorphosis will win her a remarkably favorable place in the history books.

While Yellen is diligently saving the world economy, she might also declare a moratorium on zero interest rates, designating three percent the new zero. Though this will require an inordinate amount of will and undoubtedly be accompanied by recession, doing so would eventually place the banking system on surer footing to better withstand future downturns.

The irony is that such a move would unleash a torrent of hard currency back into the banking system that fled when it stopped paying to save. Mattresses countrywide would be that much flatter for it. After all, why save as much for a rainy day if future forecasts call for less precipitation?

Maybe central bankers should follow the Ladies’ lead beginning with watching MacGyver reruns for inspiration. Then, using the central banking toolkit equivalent of a paper clip, ballpoint pen, rubber band, tweezers, nasal spray and a turkey baster, they too could accomplish the impossible without having to deploy negative interest rates. The beauty of it is central bankers have had the clever tools all along.


Empathy for the Devil

Empathy for the Devil, dimartinobooth.com

Mick Jagger has credited Charles Pierre Baudelaire for inspiring him to write “Sympathy for the Devil”. The French poet wove gorgeous verses around darker subjects that refuted mankind’s inherent kindness; his advocacy of the diabolical was pure allegation. As for the Rolling Stones, the song is a platform from which to present mankind’s atrocities from the devil’s point of view – to allow the devil himself to play devil’s advocate on history’s annals of tragedy. The controversial but undeniably timeless hit bridges from the trial and death of Jesus Christ to the Russian Revolution and World War II. The intense lyrics peak with Jagger demanding to know, “Who killed the Kennedys?”

A recent enlightening listen to this classic among rock classics reminded yours truly of the dangers of confirmation bias, the quest to validate one’s views by rejecting others’. After nearly a decade inside the Federal Reserve, one could only conclude that this contrarian-minded thinker would have been damagingly brainwashed to not bask in the clean light of skepticism.

Nevertheless, the dangers of deriving incomplete conclusions necessitates you play devil’s advocate to yourself from time to time. Caveat lector: this is purely an exercise in introspection. The writer’s full loss of faculties is not the conclusion you should draw at the end of this piece. So, now that we’ve set the stage, knowing said writer’s tongue is firmly in cheek, let’s channel our inner devil’s advocate. Shall we?

Our advocacy may as well start with the stalwart U.S. consumer, who we’ve all learned might take a body blow from time to time, but is never knocked out. The January release of retail sales was all it took to send those who’d temporarily jumped on the bearish bandwagon scurrying for their caves. Forget 2015’s Polar Vortex that made for easy comparables; the 3.4-percent gain over last year was still the best in a year. And December was revised up to boot. Isn’t it plain to see that the $140 billion de factor tax cut at the gas pump (which apparently kicks in with a long lag) and buoyant wages are finding their way into the real economy?

As for the strongest component of retail sales, it’s not only subprime loans that are behind the 6.9-percent growth in car sales over 2015. Super prime auto loan borrowers’ share of the pie is now on par with that of subprime borrowers – each now accounts for a fifth of car loan originations. What’s that, you say? Can’t afford that new set of wheels? Not to worry. Just lease. You’ll be in ample company — some 28 percent of last year’s car sales were made courtesy of leases, an all-time high. For bigger ticket items, anecdotal evidence suggests that while Gulf Stream sales have hit the skids, financing for yachts can still be had for two percent, a song in and of itself. So why not live a little?

And while you’re at it – turn up the heat! Not only are lower heating and gasoline prices paying off in spades for all households, Ford 150 and Ferrari drivers alike. But the other side of the story, that of the damage inflicted by crashing energy prices on all those displaced highly-compensated oil patch workers, is set to finally abate. All we need is for the always-accommodating countries of Iran and Iraq to both agree to play nice in the diplomatic sand box for the greater good of the world economy. Russia has held out an olive branch. Why shouldn’t they as well?

While we’re pondering the innate kindness of mankind, perhaps the Chinese, with all of that excess liquidity on hand, would care to splurge on bailing out Venezuela before the unkindness of civil war takes hold.

If you harbor any doubts at this stage of our journey, look no further than the Atlanta Fed’s estimate for first quarter gross domestic product. Following the retail sales report, it was revised up to 2.7 percent which will send the dismal last three months of 2015’s anemic performance where it belongs – to statistical aberration-ville, economists’ answer to corporate earnings’ one-time charge-off.

That’s not to say that all of those energy firms will live to tell the story of the recovery that saved them. But here too we find a silver lining. The growing divide between the compensation investors demand to hold energy bonds and that of the rest of the market is irrefutable evidence that the bond market is not about to fall off a cliff. Energy junk bond spreads are trading at 21 percentage points above comparable maturity Treasurys. Net out energy, which after all only represents 14.3 percent of the junk bond market, and the spread all but collapses to seven percentage points. Absolutely nothing to see here, move on.

Did someone say manufacturing recession? Not only did the January Institute for Supply Management survey rise to 48.2, it remains well above the 46 level associated with recessions. Looking forward, new orders leaped upwards by 2.7 points to 51.5, solidly above the 50 line that separates contracting and expanding activity.

Spreading out to the rest of the world, J.P. Morgan’s Global Purchasing Managers’ Index, which combines survey data from the U.S., Japan, Great Britain, Germany, France, China and Russia, remains in expansionary territory; the index rose to 50.9 in January from 50.7 in December. The new orders sub-index came in at an even more robust 51.4, up from 50.8 the prior month. Forget that industrial production figures are foreshadowing more downside to come in Europe. Full steam ahead!

Closer to home, you’d best not lose any sleep over the fate of your local mall. Amazon has awakened and read the news that buyers spend more when they’re inside an actual store. Impulse buying, anyone? There’s a good chance they could get as many Sears locations as they’d like, maybe with a bulk discount as an added enticement.

Moving on to the stock market: Apple and IBM have called an official halt to the stock repurchase drought. Two of the biggest buyback barons have announced mega debt deals to finance the feeding frenzy which should feed this nascent rally. Apple alone will borrow a cool $12 billion to IBM’s skimpy $5 billion offering. As an added bonus, the fresh funds will quiet all of those nattering nabobs of negativity who’d started to suggest that investors were no longer smitten with reducing share count to juice earnings per share. It doesn’t matter how you get there; it’s the eventual destination that matters most. Right?

Look no further than Apollo Global for signs of life in mergers and acquisitions land. Just this week the private equity titan made it clear that amateur hour had ended with the announcement of their $6.9-billion leveraged buyout of security system provider ADT. The acquisition price was only 56 percent above the company’s pre-deal closing price, which purely reflected how beaten down the stock had become. Of course it did.

And anyway, why leave all the fun to Steven Schwartzman’s Blackstone when there’s so much dry powder to go around? Add it all up and there’s some $1.3 trillion of ignitable potential burning a big old hole in private equity’s pockets. Buy we must lest we disturb Smoky the Bear’s peaceful hibernation.

Blackstone alone has $80 billion it can deploy. And they’ve vowed to be just as disciplined as they’ve always been per a recent Wall Street Journal interview. How so? Don’t you know? By continuing to target the cheapest asset class around, that is, of course, real estate.

Prudent public pensions, for their part, are sticking with Mr. Schwartzman’s shrewdly sensible guidance. They too are shoveling money hand over fist into private equity real estate, which is recognized everywhere as the most appropriate investment for little old ladies.

New Albion Partners Brian Reynolds tracks these flows like a bloodhound on the trail. According to his latest trophy hunt, February has been a barn burner. Pensions have voted to allocate more money to credit than any February on record and that’s only two weeks into the month. Can we please get an exclamation point?!

A few cases in point are de riguer. The New York State Common Fund is snow-plowing $775 million into real estate funds as is the Ohio Workers’ Compensation fund, which is safely shoveling $225 million into the same asset class. Following in a close third position, the Texas Teachers’ pension has studiously allocated $198 million to, you guessed it, real estate funds.

Peering over the horizon, Reynolds notes that pensions continue to submit fresh queries about subsequent credit fund allocations, and with good reason: “Most major states have scheduled more money to come in from their contributors to try to address pension shortfalls.” What better way to address a shortfall than to pour fresh funds into buyout and real estate credit a mere seven years into an expansion?

And then there’s the sheer will of the markets. Who, after all, ever wants to be the first one to stop dancing? Party pooper. Besides, we all know that over the long term, stocks always rise. In most of our investing lifetimes, so do bonds. So what’s the big worry?

Look. If worst comes to worst, the central bankers have our backs. Not only are they better educated than we are. They’ve done their homework and always get it right the first time. They never have to play devil’s advocate to themselves.

Their conclusion du jour: negative interest rates are the single best possible weapon in their over-stocked quiver. Surely they know what’s best. Plus, it will finally rid Washington D.C. of the true dreaded devil, the bank lobbyist, once and for all. And who has sympathy for them?

Grandma Got Run Over by a Rate Hike

Grandma got Run Over by a Rate Hike

Some songs don’t merit remakes.

And yet, a little over seven years ago, a variation on a southern Christmas ditty sprang onto the scene. The original remake, in the event you didn’t catch it on your radio, involved changing “Reindeer” to “Rate Cut.” Some seven years and over half a trillion in foregone savings later, most would agree that seniors were flattened in the era of zero interest rates.

Early last year, the insurer Swiss Re released findings of a study which found that in the five years through 2013, U.S. savers had lost some $470 billion in what they would otherwise have earned in interest income had rates not been held at artificially low levels.

Forget the shoulda, coulda, woulda nature of the matter – as if overwhelmed by a group epiphany, most economists now miraculously agree that the Federal Reserve was much too late in removing the punch bowl. The question for the here and now is what’s Grandma to do in the aftermath of the initiation of the long-feared tightening campaign?

As an aside, it’s beyond grating to hear every pundit on the financial news circuit brag about how they were all on board with the Fed hiking back in 2013. The term “taper tantrum” couldn’t have earned its name without most of Wall Street whining at the prospect of a mere reduction in the Fed’s quantitative easing campaign back in the summer of 2013.

Pardon the digression. Back to Grandma. What’s she to do when the recession does arrive? Take the best case scenario, that we’re talking 18 months from now and the re-writing of history books on lengthy economic expansions. Then what does she do?

By then, Baby Boomers will be endeavoring to retire en masse: according to a recent survey, two-thirds of boomers plan to retire by the time they turn 70. As it so happens, this year, the firstborn class of 1946 turns 70, meaning we are just at the outset of the trend.

Before continuing, the flipside of the above statistic is worth noting. If two-thirds of Boomers plan to retire by the age of 70, a solid one-third (think 25 million folks here) do not plan to leave the workforce. This goes a long way to explaining the relative strength of this cohort’s lofty labor force participation rate to say nothing of their propensity to be upsizing their homes.

According to a November Fannie Mae report, in 2013, the per capita rate of single-family home occupancy was unchanged with that of 2012 and in fact above 2006 levels. Far be it from downsizing, the average number of rooms per home increased from 2011 to 2013, the latest year for which data are available.

One interim observation:  While the explosion in apartment occupancy has been no mirage, it is entirely attributable to the Millennial generation. From 2011 to 2013, the number of Boomer apartment dwellers remained static while the number of Millennials living in apartments grew by a half million a year.

(Trivia – 2015 marked the year both generations numbered 75 million. From here on out, Millennials will increasingly outnumber Boomers, who’ve reigned supreme as the largest generation this country has known for what feels like a millennia.)

As for the Boomers who do want to retire, what exactly is it they’re willing to part with? For most, the answer is absolutely nothing. They want to keep their (large) home, their two cars and the lifestyle to which they’ve become accustomed. If only their desires matched up with their prospects. A survey released last spring by the Insured Retirement Institute found that Boomers’ “economic satisfaction” dropped to 48 percent last year from 65 percent in 2014 and 76 percent in 2011.

Delineating between retirees and those still working reveals a yawning gap: Retirees’ satisfaction caved to 45 percent from 72 percent in 2014 compared to 53 percent of working Boomers feeling satisfied vs. 60 percent the prior year.

In all, only six in 10 reported having saved adequately for retirement. This squares with a separate study that found those aged 55-64 had an average combined 401k and IRA balance of $111,000 in 2013.

So what’s a would-be retiree to do? Saving $10,000 a month to play catch-up would be a good start. That’s a steep order considering the median annual income in this country is somewhere in the neighborhood of $55,000.

Which brings us back to Grandma and that rate hike, which is sure to be blamed for the recession but in truth will be coincidental in nature. Whether she likes it or not, if that cruise she’s been planning is going to remain in her grand retirement plans, she might just have to sell off her beloved home sweet home.

According to 2013 Census data, the 32 million single-family abodes Boomers call home account for over one-quarter of the nation’s housing stock. This cache of cottages has an estimated market value of $8 trillion which equates to 42 percent of the value of all owner-occupied homes out there (they don’t call them McMansions for nothing).

Aside from the observation that we’re talking about a whole heck of a lot of house, who exactly is going to buy them? Would you answer, “Why, the Millennials naturally”?

I’m personally going with AMC Lending’s Logan Mohtshami’s take on this one. He forecasts that demand for single-family homes won’t improve meaningfully until 2020 or so. “Until then, expect a slow and steady rise for (housing) starts and permits.” That, by the way, is just what we’ve had in recent years – slow and steady, as in new single-family home construction is a fraction of what is should be given population growth.

As for all that touted Millennial pent-up demand, even last year, the ranks of 25-34 year olds bunking up with mom and dad rose in number. The generation is effectively going in reverse vis-à-vis what the broad housing market needs, which is for this generation to fly the coop once and for all.

“We need the young to rent, hook up, date, find a steady relationship, pop the question, and have kids before we have any major boom in single family home sales,” Mohtshami wisely observes.

Of course, some of these choices are cultural as we’ve all learned. Why not live in your parent’s basement and drive a nicer set of wheels than you could otherwise? But surely that thinking is not representative of every member of this whole 75-million strong army?

On a more fundamental level, broad-based, higher paying job growth is what’s needed to solve this entrenched issue. That’s difficult to foresee given shrinking corporate profits and contracting manufacturing activity to say nothing of mounting evidence of a slowdown in the labor market, the most lagging of all indicators.

What transpires between now and 2020 is what really matters for the economy, and by extension for housing, which has yet to fully recover from the great housing crisis. Some 15 percent of U.S. homeowners still owe more on their home than it is worth. Many who borrowed against their home equity during the housing boom are just now having to start making good on that promise.

That said, mortgage applications have picked up over the past year and anecdotal evidence suggests more first time homebuyers are entering the market, albeit at inflated prices. But first timers are not what Boomers need. McMansions are sold to the generation that moves out of their first home, known as move-up buyers.

Will Grandma and her friends and neighbors with roofs over their heads be the only damage exacted by the coming recession, whenever that inevitably descends on the economy? We can only hope.

The starting point for the Baby Boomer generation is nothing to laugh about. The United States ranks 29th among 33 developed countries for seniors living in poverty – 21.5 percent of Americans ages 65 and older live in poverty vs. 12.6 percent for all developed countries.

It is hard to say when, and even if, monetary and fiscal policymakers will ever own up to the part they’ve played in encouraging debt in lieu of prudence. We can only hope they rue the day such darkly humorous lyrics sprang to mind (substitute “Hike” for 2015 version).

Grandma Got Run Over by a Rate Cut
Walking Home from D.C. Christmas Eve
You Can Say There’s No Such Thing as Free Lunch
But as for me and Grandpa, We Believed

Bottoms-Down Forecasting

Griswold, Bottoms-down forecasting

What do bad wiring, methane and non-chloric, silicon-based lubricant have in common?

Presumably a classic Christmas movie would not first come to mind. It’s a Wonderful Life and Miracle on 34th Street, those are true classic masterpieces. In more recent movie history, A Christmas Story and Home Alone have captured the rowdier spirit of the season.

That leaves National Lampoon’s Christmas Vacation a close fifth for some as a must watch, at least among the non-animated classics. Favorite scenes compete for top spot in this less-than-high-brow comedic tale; two of these star animals. In the first, a cat chewing Christmas tree light wires ends fatally for the feline. This side-splitting scene was almost cut by the PC police, which just goes to show you. In the second scene, an indoor squirrel chase also delights; the culmination of a hilarious series of events that features methane gas and Cousin Eddie, perhaps the best redneck character to ever grace, if such terms as redneck and grace can reside together, the big screen.

And then there’s the infamous downhill sled scene. In endeavoring to achieve a “new amateur, recreational, saucer-sled land-speed record,” Clark Griswold, played perfectly by Chevy Chase, waxes a steel sled with a kitchen lubricant. The fiery end in a Wal-Mart parking lot is truly one for the ages. With Christmas being over, it seems a shame to store these moments with everything else that comes out for the Holidays and won’t be seen for another long year.

But look ahead to the New Year we must. Wall Street has been doing just that for the better part of the last month. Barron’s recently characterized the Street’s 2016 outlook as, “Cautious, but Optimistic.” The group’s mean forecast places the benchmark Standard & Poor’s 500 stock index at 2220 by the end of next year, roughly six percent above current levels.

Of course, the optimistic predictions are on par with those being espoused at this time last year that have not panned out as prognosticated. But the optimism is to be expected. With rare exceptions, strategists are a sanguine lot, as they should be. After all, they’re tasked with keeping their firms’ clients’ money fully invested (and therefore fully fee-generating).

Given his constructive posture, Goldman Sachs’ David Kostin is this year’s standout among Barron’s ten cited strategists. His 2,100 yearend S&P 500 target is the lowest of the bunch. His outlook is weighed down by the view that the Fed will hike rates four times in 2016. This will in turn drag down what will otherwise be decent earnings against the backdrop of yet another year of tepid economic growth.

Citigroup’s Tobias Levkovich, a friend and investing legend in his own right, is characteristically optimistic. His Barron’s forecast lines right up with the consensus: The S&P will end next year at 2200. That upbeat take makes his downside risks all the more intriguing as they tap the contrarian in him. Tellingly, they begin with upside risk to the employment and wage picture which triggers a “chase towards higher bond yields.” This chase would catalyze what policymakers fear more than wage inflation; that is wide scale bond fund withdrawals which exacerbate illiquidity and trigger further financial market tightening.

Policymakers have good reason to be concerned: U.S. credit mutual funds have doubled since 2010 and now own a fifth of the market; retail investors have poured over $1.2 trillion into credit mutual and exchange-traded funds since then. The last thing portfolio managers need at this juncture is greater constriction on their ability to trade their holdings.

The real question is whether the long-anticipated rise in wage inflation is really around the corner. That would be a good problem to have for many Americans. While jobless claims would have many believing the arrival of higher paychecks is imminent, layoff announcements are poised to end the year up by nearly a third over 2014. In other words, the lowest commodity prices in 16 years will continue to exact a macroeconomic toll; the damage is unfolding with a lag as many companies (and countries) have banked on a rebound in energy prices.

The conventional wisdom heading into 2016 is that the economy is finally poised to reap the benefits of lower gasoline prices; oil prices have fallen so far they no longer have the ability to do incremental harm. Fresh data on home sales in energy dependent states, though, defies this conclusion as the fallout appears to be intensifying. Punctuating the latest stats on housing, the outlook in the just-released Dallas Fed manufacturing survey tumbled to its bleakest levels of the past year, matching lows last seen in 2009.

Meanwhile in the Midwest, the prognosis for the Chicago region refuses to break into positive territory. This can’t be comforting given the auto sector’s outsized positive influence on the current recovery. The dour outlook does, however, help explain the fact that the number of cars sitting in inventory vis-à-vis sales levels is at the highest since 2009.

The credit markets, for their part, are shooting first and presumably taking questions at a later date. What’s spooked them? In bond land, investors rely on the distress ratio to guide them, that is the number of high yield bonds trading at yields 10 percentage points or more above comparable-maturity Treasury bonds. As of November, one-in-five companies were in this leaky boat, the highest showing since 2009.

The distress ratio is seen as a precursor to the more definitive default rate, when companies actually renege on their interest payments. For now, the rate is just north of three percent, not high enough to set off any alarms. But forecasts are calling for it to push five percent next year fueled by energy company defaults, which are expected to spike to 11 percent.

A bit of context: Though the rate itself will remain historically low, the dollar amount of failing debt is expected to rise to $66 billion, close to 2001’s $78 billion but still a fraction of 2009’s record $119 billion. If only the credit markets existed in a vacuum. Roll the rest of the world’s debt markets into the equation and defaults have indeed risen to the highest level since 2009.

In the event the repeated mention of 2009 has given you a case of the jitters, fear not. At least that’s what New Albion Partner’s Brian Reynolds advises. Reynolds, who tracks public pensions’ penchant for risk taking, provides assurances to the leery in the form of a running tally of pension allocations to credit funds.

Reynolds’ figures grace these pages with frequency for good reason, namely that pensions have a lot more cash to throw around than most – as in $18 trillion. With the latest month’s count in hand, it’s official — pension allocations to credit funds hit monthly records in August, September, October, November and now December. In all, some $175 billion earmarked to fund current and future retirees’ income has flooded credit funds since August 2012. With the trend continuing apace, demand for all manner of credit promises to continue burying supply, propping up a market that should be toppling over.

As simple as the argument is, Reynolds could be on to something. If he’s right, recession may not greet the next president proving the cheery prognosticators at the Congressional Budget Office right. At the start of this year, the CBO predicted that the current recovery would last, at a minimum, through the end of 2017. Maybe the CBO has also been following pension behavior and knows that financial engineering in the New Year will remain alive and well.

If only this could end as well as a feel-good Christmas movie. For now, policymakers are looking the other way. What say could they possibly have in the matter, even if they did acknowledge that pensions are using neither a bottoms-up or top-down methodology to test the appropriateness of their portfolio allocations? Besides, party poopers have no place as New Year revelers gear up for one last hurrah.

But what if 2015 really is akin to 1998, and not 1999, for investors? What if this rally has legs and can keep recession at bay? Well then, we position our collective portfolios to profit at the expense of irresponsible pensions employing a bottoms-down approach, Griswold-style. The fact that they’re placing pensioners’ promised paychecks at grave risk of spontaneous ignition can be relegated to denial-ville as so many seemingly intractable issues are today.