“You were grumpy and aggressive,” said our better half.
“No… I was just confused.”
“You’re not that dumb.”
“Oh, yes I am.”
Yes, we are back in civilization, with all its constraints and discontents. To be more precise, we are in Boca Raton, Florida.
Yesterday, my wife Elizabeth needed to get her computer fixed. So, we went to the Apple store in the mall. That led to a number of insights about modern materialism in the United States of America.
First, we decided to have a quick lunch at The Capital Grille. This seemed a fair bet. It’s what Elizabeth refers to as a “real restaurant.” By that she means it has a real chef – or at least a cook – rather than staff who just heat up preprepared meals.
“What temperature do you want your burger?” was the question that stumped us.
“Huh? What temperature? I don’t know… about 200 degrees?”
“He’s asking how you want your burger cooked,” Elizabeth quickly interpreted.
“How am I supposed to know that? And why use code words? Why not just ask me in English… or some other language for that matter? Besides, ‘temperature’ is a very specific and very objective measure. It requires a precise answer. Not something vague, like ‘well done’ or ‘juicy.'”
“Oh, you’re being a curmudgeon. Now, stop it.”
Thus are we adjusting to life in the heavily-indebted world… where burgers are served at specific temperatures and people do not pay for their lunches with money, but with credit.
In fact, the whole economy functions without real money; it has practically disappeared. Now it’s the supply and demand for credit, not money, that determines the level of inflation.
“No, this is not an independent restaurant,” the waiter informed us later. “It is owned by the Darden chain.”
Aha! A restaurant chain completely dependent on middle-class credit. Take away the credit (or merely let it shrink) and Darden Restaurants, Inc. – a publicly-traded company – will shrink too.
No. More likely it will collapse. Because earnings depend on marginal sales… and when the marginal buyer stops eating the marginal burger at marginal family eateries such as Olive Garden, Red Lobster and The Capital Grille, then the family-dining restaurant industry is going to look a little green.
Even a small decline in marginal sales means a major decline in operating cash flow… on which the companies’ debt service depends.
We base this guess largely on our estimation of the US consumer. He’s not hale and hearty. In fact, he looks a little peaked.
Bloomberg reports he is now being forced to dip into his retirement accounts just to make ends meet:
The Internal Revenue Service collected $5.7 billion in 2011 from penalties, meaning that Americans took out about $57 billion from retirement funds before they were supposed to.
The median size of a 401(k) is $24,400 as of March 31, with people older than 55 having $65,300, according to Fidelity Investments.
Adjusted for inflation, the government collects 37% more money from early-withdrawal penalties than it did in 2003. Meanwhile, the amount of home-equity loans outstanding was $704 billion in 2013, down 38% from the 2007 peak, according to Federal Reserve data.
Credit Cards and Confidence
Not that we’ve studied Darden in particular. We’re just guessing about the industry in general. US corporations used record-low interest rates to increase debt for various purposes – including expansion (to reach marginal customers) and share buybacks.
Corporate debt has been the second most rapidly expanding category, after government debt. Now, US businesses have high debt, supported by high earnings. The problem is earnings can disappear readily. Debt… well… not so fast, and not so easily.
Darden Restaurants is one of thousands of businesses in the US that depend on expanding credit. It needs customers with credit cards… and confidence. So do other businesses depend on customers who are ready, willing and able to increase spending. They can’t spend more wages; real wages are going down. That leaves only credit.
According to former World Bank economist Richard Duncan, the US economy goes into recession every time credit growth falls below a rate of about 2%. As Chris noted yesterday, that’s why the Fed is so desperate to keep this debt machine in gear.
Without it, companies such as Darden Restaurants have to reckon with decisions they will wish they hadn’t made… and debt they will wish they didn’t have.
Editor’s Note: The credit bubble Bill warns about will destroy vast amounts of wealth when it bursts. If you’re investing alongside the crowd, you won’t be spared. But there is another way to build wealth – using the secrets of the ultra-rich. To find out what these folks do differently, we sent Bill’s son Will to “gatecrash” one of their meetings… in London’s oldest gentlemen’s club. What he discovered about how the rich got rich… and how they stay that way… will turn everything you know about investing on its head. Access Will’s report here.
Is the “Greenspan Put” Alive and Well?
From the desk of Chris Hunter, Editor-in-Chief, Bonner & Partners
Talk about twisted and distorted…
Jeremy Grantham of investment firm GMO reckons the S&P 500 is 65% overvalued – largely a result of what he calls the “Greenspan-Bernanke-Yellen Put.”
The term “Greenspan Put” was coined after the then Fed chairman dropped interest rates following the 1987 crash.
A put option allows the buyer of the contract to sell a stock at a pre-agreed price, if the price of the stock drops below that price.
This is effectively what Greenspan did for investors. If stock prices fell far enough, the Fed would drive down interest rates… and the market would rise again.
It was a win-win for anyone speculating in frothy markets. If stocks rose, they profited. If stocks fell hard enough, the Fed would step in and insure against further losses.
Greenspan repeated this trick when hedge fund Long-Term Capital Management went bust in 1998… ahead of the Y2K scare… and after the tech bubble burst in 2000.
It seemed to work wonders. As Grantham points out, by 2002, the market reached a low that was still 10% above its previous trend before doubling once again.
His successor, Ben Bernanke, took note. And he used the same trick following the 2008 crash. The result: a 150% rally in the S&P 500 off its March 2009 lows.
Given the wonders of the “Greenspan-Bernanke-Yellen Put,” does it mean you should jump, feet first, into an overvalued US stock market?
Not if you’re a serious long-term wealth builder with an eye for value.
Grantham believes this will all end badly. It’s just a matter of when. He offers the following advice:
It is a sensible expectation that reasonable long-term value investors will endure pain in a bubble. It is almost a rule. The pain will be psychological and will come from looking like an old fuddy-duddy… looking as if you have lost your way in the new golden era where some important things, which you have obviously missed, are different this time. […]
In truth there is nothing much that we can do about this problem. Value investors must, as always, invest exclusively in long-term values and long-term risks. We must always build our portfolios from the best mix of these two characteristics. Therefore there is simply no alternative to standing our ground and taking it on the chin when crazy markets get even crazier. Our consolation will be in knowing that we will win in the end whereas if we start jumping around on other non-value considerations, who knows what might happen?
We continue to recommend you stick to value considerations when investing… and we continue to urge caution when it comes to investing in the US stock market as a whole.