Is the Economy OK?

Some of the best news about the new Trump administration is today coming from the business sector, where record company profits have boosted the fortunes of Wall Street and individual investors. For the second straight quarter, earnings at S&P 500 companies are expected to be in the double digits, with an average 11 percent increase this quarter following a 15 percent increase last quarter. The S&P 500 has seen an increase of 16 percent overall since Trump’s election, with 10 percent of that coming since his inauguration. The Dow Jones Industrial Average is closing in on a record high of 22,000.

There are several reasons for these impressive results — first, a weaker dollar has made exports strong and kept borrowing costs low for companies. U.S. wages have improved, without taxing employers so much that it’s dented the bottom line. Cost-cutting efforts of the last several years are beginning to pay off. And lastly, sales at many companies are up due to newfound consumer confidence inspired by the White House.

It’s not an understatement to say that Mr. Trump’s hammering of constant themes such as building in America, fighting illegal immigration to boost wages and investing in American infrastructure have all contributed to a sense that the economy in general is bouncing back — a feel-good feedback loop that still has a good deal of momentum left in it.

Of course, it helps that companies such as Apple and Foxconn have made commitments to start making products in America and that overseas firms such as Samsung and Alibaba Group have committed to new U.S. operations. Cutting of regulations and increased use of robotics have encouraged businesses to invest in their own production and lowered costs further.

The economy grew at a rate of 2.6 percent in the second quarter this year — not yet achieving the three percent rate that was set as a goal by the Trump administration yet, but not too far away from it. The target likely hasn’t yet been hit because of the stalling of legislative priorities so far this year — the failure of health care reform to pass the Senate and the distinct possibility that tax reform won’t be effected the way that President Trump has talked about, or at least this year. “We’re halfway through the year, and they haven’t done [tax overhaul],” said Christopher Nassetta, the CEO of Hilton Holdings last week. “We’re not going to have enough time for it to trickle through and really benefit this year.”

That the aforementioned record profits have been delivered despite these failures in Washington, however, should give the average American renewed hope in the economy and prove that the disconnection between Washington and New York may be deeper than one realizes. At financial house JPMorganChase, CEO Jamie Dimon said on an investor call, “We’ve been growing at 1.5 to 2 percent in spite of stupidity and political gridlock because the American business sector is powerful and strong and is going to grow regardless.” Honeywell CEO Darius Adamczyk agreed with that assessment, saying, “I think there’s more uncertainty in [government] now than maybe even before, but I can’t let that sort of rule the business.”

Still, eventually, tax reform will be needed to sustain such performance. “Tax reform is clearly what the future may require for these numbers to continue on the same pace,” stated Omar Aguilar, the equities chief investment officer at Charles Schwab Investment Management. “We need an administration that’s focused, that’s working with Congress,” said Evan Greenberg, the CEO of insurer Chubb Limited. “And we need a Congress that comes together to address these issues for our country.”

However, despite the positive financial news, storm clouds may yet be on the horizon. Growing military troubles with North Korea, China and Iran have the potential to create uncertainty and even panic in the markets if tension-filled movements and progressions of military buildups and missile launches lead to sudden action. A threat of North Korean retaliation for any attack on its nuclear sites is having the effect of dampening some investor enthusiasm. A new stalemate with Russia in the form of sanctions for unproven (and likely baseless) attempts at interference in the 2016 election threatens to make America’s relationship with Europe rockier. Shaky economies on the Continent and in South America threaten to impact global markets, and former Federal Reserve Bank Chairman Alan Greenspan has warned about a bubble in the bond market, as opposed to the stock market.

“By any measure, real long-term interest rates are much too low and therefore unsustainable,” said Greenspan in an interview. “When they move higher, they’re likely to move reasonably fast. We’re experiencing a bubble, not in stock prices, but in bond prices. This is not discounted in the marketplace.” Analysts such as Deutsche Bank’s Binky Chadha and RBC Capital Markets’ Tom Porcelli also believe the bond market will soon experience such inflationary pressures. “The real problem is that when the bond-market bubble collapses, long-term interest rates will rise,” said Greenspan. “We’re moving into a different phase of the economy — to a stagflation not seen since the 1970s. That’s not good for asset prices.”

In addition, personal and government debt levels are at historic highs, with the average American household on the hook for a mind-boggling $329,961 (584 percent of median household income) if one combines both types of debt. By comparison, in 1980, the figure was a little over a tenth of that at $38,552 — just 79 percent of median household income at the time.

If one looks at all the economies in the world, total debt levels are at a staggering $217 trillion. Billionaire Bill Gates has been quoted as saying “our highly leveraged financial system is like a truckload of nitro glycerin on a bumpy road,” perhaps referring to the plot of the 1953 film “The Wages of Fear.”

Current Federal Reserve Chairwoman Janet Yellen has declared the federal debt (which stands at about $20 trillion) trend is unsustainable and may soon begin to hurt living standards of many Americans. Recently, the Congressional Budget Office (CBO) projected that at present levels of government spending, federal debt could be as high as 91 percent of U.S. gross domestic product (GDP) by 2027. At the moment, it stands at roughly 77 percent, the highest level seen since the aftermath of World War II.

The CBO has also strongly disagreed with Trump administration projections of higher growth rates in the future due to the anticipation of rising interest rates. For the next 10 years, the CBO has projected an average growth rate of just 1.8 percent, compared with the Trump administration’s goal of achieving at least a three percent sustained growth rate.

All of this spells trouble for investors — particularly young millennials who have less speculation experience and may not yet have weathered a financial recession in their investment careers. Millennials — many of whom buy stocks using their smartphones without doing recommended research — are particularly prone to investing in technology companies such as Facebook, Netflix and Tesla. But Facebook is currently valued at 225 times its earnings, Netflix (which lost $2 billion in the last year) is making only 40 cents per share of its stock and is dramatically overpriced at $150, and many analysts predict that Tesla won’t be able to sell a single car when the government stops issuing subsidies for consumers’ purchases.

Despite this, a recent survey found that 80 percent of millennials want to take on still more investing risk over the next 12 months, with 66 percent specifically expressing an interest in stocks. Most millennials have not yet been able to afford to purchase a home, which means that whatever nest egg they’ve accumulated could be wiped out by a stock market crash.

There are more financial experts predicting an impending downturn now than there have been since just before the economic crisis of 2008. Legendary investors like Jim Rogers and billionaire Howard Marks believe worldwide markets are overinflated due to unprecedented central bank interventions (many of which have used techniques such as quantitative easing [QE] and zero-percent interest rates [ZIRP]) and are due for a correction. They see high levels of global uncertainty and political dysfunction, low prospective returns for many issues and a reckless desire for more risk by investors.

Investment bank Goldman Sachs has predicted there’s a “99 percent chance” of a downturn based on stock valuations at current levels, and many analysts believe a giant stock market bubble similar to the ones seen in the late 1920s and 1990s is being created. Idaho Republican Congressional candidate Michael Snyder has written about one well-heeled investor who’s made a multimillion-dollar bet that would see a payout of as much as $262 million if the stock market crashes by October.

Sales of remote retreats and disaster bunkers to wealthy citizens have hit record highs, and data research firm Trim Tabs says that dumping of stock issues by corporate insiders is at epidemic levels not seen since prior to 2008. Numerous articles about a financial “Black Swan” event have appeared on financial websites. Institutions such as the European Central Bank (ECB) and the International Monetary Fund (IMF) as well as the governments of China and India have been buying gold at a highly accelerated clip. Independent demand for non-bank secured vault space in financial centers such as London and Frankfurt is rapidly soaring, confirming a lack of trust in big banks. Since the economic crisis of 2008, the global financial system has larger derivative positions than ever before, more assets concentrated in fewer financial institutions and more than $70 trillion in new debt.

All of this says that while markets continue to perform outstandingly, investor confidence — particularly at an institutional level — is not nearly as high as consumer confidence. And typically, in crash scenarios, small investors are more likely to get burned — and far more seriously — than larger ones. As with all market rises, the danger is greatest as the end draws near, but just as in a game of musical chairs, no one really knows when the pleasant melodies will stop.