Does Debt Matter?
September 17, 2019 - Season 1, Episode 3
In Season 1, Episode 3, we discuss the amount of debt in the United States (U.S. Deficit, Student Loan debt and Corporate Debt) and some of the impacts the current market cycle will have on our ability to pay it back.
Welcome to CTMA's Podcast. I'm your host Scott Albraccio. Here's an opportunity for us to update you on current market trends and conditions and issues you should be considering when investing into your 401k wealth management plan or pre-funding.
Chris Abely, CFA:
Does debt matter? Oftentimes, when I ask people that question, they laugh and say, of course it does. They think of their mortgage, they think of their credit card. They think of their ability to pay it back and they say to themselves, of course it matters. Well, there are some times where people don't think they have to pay it back, as in what's going on with the US federal deficit right now. We are at $22 trillion worth of debt, adding $1 trillion a year, at full employment at the end of a business cycle. We're acting as if we don't have to pay it back. Well maybe that's true because we're the largest economy in the world and we own the global currency, but here's something to consider. Most of the time when you borrow, you borrow to grow something else or to create some other level of income that will be utilized to help offset the debt.
Well, we're growing at a slower rate than the debt is increasing, which yes will become a problem. Will it be significant? As interest rates go down, the amount that you have to pay in interest may go down, but the ever-present debt becomes greater and greater. Will there be an issue on this as we move forward? Absolutely. Will it be in the next three months, six months? Who's to know because the world is such a large place. Will there be a problem at some point in the next few years? Absolutely. We have a social security system that requires funding. We have a population that's aging and we are increasing our debt load.
Consider for a moment that we are in a debt cycle, that as we said earlier, $1.2 trillion, $2.5 trillion has been taken out in student loan debt in the last 10 years. The Treasury is borrowing $1 trillion a year in order to fund the continued expansion, which is slowing down, and that over $1 trillion worth of debt has been taken out by high yield or risky companies in the last 10 years and The Fed is about ready to lower interest rates.
What will that do? It'll probably extend the cycle, cause people to take on more risky bets and eventually have, where debts will come due that can't be repaid back. No matter how low interest rates go, as people who have had mortgages and credit cards and other things, you still have to pay back the principle. Therefore, you will find in the next year too, many companies that borrowed excessively will have a very difficult time either re-borrowing or paying back the monies that is currently outstanding. We have looked across a host of industries and found convertible debt, which is a special kind of debt that people take to be just booming. Well, anytime an asset class is booming, there's usually trouble ahead. So we caution against taking on excess risk and we caution about not being balanced. We believe that that's a prudent way to be managing your assets in what will be a difficult time over the next few years.
We published the chart, the shows in the last six decades, how the debt has grown in the United States and how our gross domestic product or what we produce has grown, and one of the clear things that you can see is, is that we're not growing fast enough to compensate for the debt that's currently being put on our books if you would. So what does that mean? Someday there'll be a reckoning attached to that and being in a balanced portfolio that's not just US-based is important to understand. In summary, we are living in a time of great prosperity. We appreciate how much has` changed in our culture. Does anyone even answer the phone anymore? And how things are moving much faster than people can keep up with, recognizing much in the world is in a rapid state of change, balancing your return expectations and risk is at the forefront of how we are attempting to manage assets.
We believe that now is a risky time and that volatility will continue, the debt's growing and that people are anxious and that priced earnings ratios may contract and that we have to be balanced in our positioning for our clients. When we talk about non-US equities, what are we talking about? Well for us, we had published our annual letter back in January and we showed in there a graph of where the world is headed economically, and unless all the demographic trends are going to change shortly, the world is headed to Asia and what does that mean? That means that's probably where most of the economics are going to continue to prosper as we go through cycles.
Furthermore, things like Singapore, Australia, and other places of the world where you can buy things and they will pay you to own them, makes a lot of sense, especially when you think about diversification and balance. Large wealth capitalization banks in Singapore, large well-positioned Australian companies that are resource-driven and yes, China has assets to own as well, although there's a lot of volatility out there for that as well. But in the long run, growth of the world will come in non-US, non-European places, and owning them is important to a longterm strategy. We do research and make sure that what we're buying are things that people can hold through cycles.
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