BALTIMORE – Walking home last night, we got caught in a mob (as you can see in this video).
“Not my president,” said the signs, along with more lurid and confrontational messages. There were thousands of demonstrators marching from Pennsylvania station to Baltimore’s Inner Harbor.
“They’re a little late,” said a voice next to us. “It’s a good thing you’re not wearing your ‘Make America Great Again’ hat.”
Meanwhile, the newspapers, commentators, and analysts have spent the last three days scrambling to explain something that never happened.
The “Trump Revolution” now has the Establishment “shaking with fear and dread,” they say.
But there was no revolution. And there is no “fear and dread.” Instead, Trump’s transition team is filling up with the usual suspects – hacks, has-beens, and Beltway insiders.
Bloomberg, too, tells us that the Ancient Regime is lining up behind Trump… and looking forward to trillions of dollars worth of new spending:
Goldman Sachs Group Inc. Chief Executive Officer Lloyd Blankfein said President-elect Donald Trump’s commitment to infrastructure and reforming government and taxes will be good for economic growth.
“The election results in the U.S. show democracy at work,” Blankfein told employees in a voicemail message, according to a transcript obtained Thursday by Bloomberg. “It also means change, which isn’t necessarily a bad thing.”
Yesterday’s Wall Street Journal proclaimed a new political order. Is it so? Or is there just a new group of foxes in the henhouse?
You’ll recall that Italian economist Vilfredo Pareto described how a “Deep State” develops. There are always some wily “political” people in a society. Over time, these “foxes” figure out how to take control of the government and use it for their own purposes.
Sometimes they have social or cultural agendas, forcing people to worship their gods or fly their colors.
But usually, they don’t care about transgender bathrooms… or walls along the Rio Grande… or even about abortion rights.
What they care about is money. Your money. And power… the power they get from you, too. They want rules, regulations, licenses, laws – to boss you around.
Does the “new political order” change anything for this Parasitocracy?
Will the zombies get less of your money? Will the cronies lose their sweet deals? Will the FDA or the SEC or the ATF or the Bankers Association for Finance and Trade (AFT)… or even the Feather Committee… will any part of the bureaucracy close its doors and turn off its lights?
More importantly, will the juice get cut off to the Deep State?
The insiders depend on underpriced credit… and the fake money supplied by the Fed and the banking system. It funds their wars… their bureaucracies… their phony-baloney programs… their claptrap universities… their prison industry, and their overpriced medical care.
Their favorite sector – Wall Street – controls the flow of this juice, making sure most of it goes to them. That’s why financial industry profits rose from around 10% of all corporate profits in 1970 to nearly 40% in 2007.
But it is not just the Establishment that depends on fake money. So do investors… households… and honest businesses. They have all been suborned by it.
Now, they are so twisted and bent by debt, they can’t stand up straight.
Take away the fake money and you will have a real revolution. Which is why Mr. Donald J. Trump will go to Washington not to bury the Deep State, but to save it. He will not cut off the fake money; he will offer more of it.
In a nutshell, the problem in 2008 was too much debt.
The feds reacted to that crisis by stiffing savers and making debt easier and cheaper than ever. That was never going to work.
And now, corporate debt has grown $3 trillion since the crisis began. The U.S. government has added $7.6 trillion to its debt. And households owe $1.2 trillion more, too… not including mortgage debt.
U.S. consumer debt rose twice as fast over the last 12 months as consumer spending… and infinitely faster than earnings, which, in the red states and counties, were flat.
And now, the whole perverse system holds its breath. The economy slows. Wages for 95% of the population are stagnant. A recession is coming, probably in 2017.
Will the new president allow real change… a real correction? Will bad debts be liquidated? Will stock market prices be cut in half? Will the fake money be thrown out, forcing the Deep State to downsize?
Nah… Instead, Mr. Trump has already signaled a switch to fiscal stimulus. Big spending. Deficits. Walls. Roads. Boondoggles. The fake cash will flow. The debt (mostly government debt) will rise.
And this time, the cash will go into the consumer economy… with rising prices not far behind.
A few years ago (we can’t remember when), we predicted the nation’s itinerary: Tokyo… then Buenos Aires; deflation… then inflation. We will go broke slowly… then suddenly.
It looks as though we will soon see rising inflation and the end of the 35-year bull market in bonds.
Keep your seat belts fastened and your eyes open. And brush up on your Spanish.
Further Reading: Below, we are continuing an important series of essays from Bill’s longtime friend and founder of Stansberry Research Porter Stansberry. Today, Porter reveals how to track industries and companies that have added hundreds of billions in debt this cycle…
THIS ESSAY WAS ORIGINALLY
PUBLISHED NOVEMBER 10, 2016, IN STANSBERRY DIGEST
BY PORTER STANSBERRY
Today, we continue on our credit-default cycle theme with an eye toward actual, real-time business examples.
So if you’ve grown weary of our macroeconomic explanations about Austrian economic theory or “negative multipliers,” don’t worry. What you’ll find below is the “nuts and bolts” of how you can put these theories into practice.
Before we begin, one word of warning. The examples I (Porter) give below may or may not be included in our initial version of “The Dirty Thirty” that we will publish in the first issue of Stansberry’s Big Trade next week.
I’m not trying to be coy. The Dirty Thirty is a market-based set of corporate targets. It’s a list of the 30 worst corporate credits that have the most equity value and the cheapest long-dated put options.
Naturally, that is going to change a little from month to month. The fundamentals of these companies probably won’t change much, if at all. But the market prices and equity values will. Thus our list will change, too.
As companies take on excessive amounts of debt, sooner or later, their margins collapse and they begin spiraling toward bankruptcy. Why? Because few businesses actually have any real advantage in regard to access to capital. It’s never just one business that “levers up.” Instead, bankers visit every company in the sector. And, as production increases, profit margins always erode substantially.
Think about what happened to the onshore oil drillers over the past five years. As an industry, these companies borrowed $500 billion in the corporate bond market. And guess what? Production soared, which sent oil prices crashing. Now the sector has tons of debt… but much less ability to service it.
A little borrowed money, given to a few companies, would have greatly increased their profits. A lot of borrowed money, given to virtually every company in the sector, has seen profits almost completely wiped out. And that has happened in a lot of businesses, not just the oil patch.
Over the past 30 years, the car industry has seen tremendous competition and an explosion in debt as carmakers had to finance big contributions to employee pension funds to support hundreds of thousands of retired workers. Those trends already bankrupted General Motors (GM) and Chrysler (FCAU). They will soon bankrupt Ford (F).
Since 1987, Ford has borrowed an additional $77 billion, taking total debt to a peak of around $145 billion. To put that in perspective, Ford had its best year ever in 2015, delivering a little more than 2.5 million cars and trucks. Thus, the company has been carrying almost $60,000 in debt per vehicle sold!
All of this capital and record volume hasn’t improved Ford’s profitability. Operating margins are half of what they were 30 years ago (5% versus 10%). And don’t forget, from 2006 to 2009, Ford was losing money on every car it sold. What has changed lately is a huge increase in demand via subprime auto finance. My bet is, as subprime auto financing shuts down because of rising default rates, Ford’s volume will collapse by 15%-20%, and it will begin losing money again. Sales fall, but debt burdens don’t change.
Here’s an example that will probably surprise you: Avon Products (AVP). Explain how ladies selling makeup door to door requires more than $2 billion in debt. Since 1998, Avon’s debt has increased almost 10 times, from $250 million to $2.2 billion. Meanwhile, operating margins have collapsed from 12% to less than 3%. You see, there’s this new thing called the internet. And it’s available 24/7 to buy anything you want from the comfort of your home.
Finally… it’s not only the oil firms that have gotten into too much debt. Debt largely financed the massive expansion of pipelines and other energy infrastructure over the past decade.
Want to buy a wind farm in France? Call Enbridge (ENB). It’s a big pipeline operator that is also building solar-energy projects and wind farms… with lots of borrowed capital. Debt has grown by more than 12 times over the last 20 years and now totals $31 billion. Over the same period, operating margins have shrunk from world class (20%) to pitiful (3%). Maybe someone should tell the board that wind farms aren’t as good a business as oil pipelines.
We are not necessarily trying to short these companies (via put options). They’re just simple examples of how often companies try to overcome competition (Ford), or disruptions to their business model (Avon), or get away from their core business with huge expansions to their debt loads (Enbridge). But as everyone probably knows, it’s a heck of a lot easier to make projections and take loans than it is to earn profits and pay back debt.
Spotting companies that are heading for credit downgrades and defaults is a lot like painting by numbers. You just look for who has borrowed a lot of money and then see if that’s working out for them. Usually, it isn’t.
One more example for good measure. Precision Drilling (PDS) is an onshore-oil field-services firm. If you need a hole drilled in the ground, you call these guys. To capture more business, Precision borrowed a ton of money. Debts have grown from $200 million to $1.6 billion over the last 15 years. But lots of other businesses saw the same opportunity… and borrowed money, too. Profit margins have fallen from 10% a decade ago into negative territory today. Precision is losing money with every hole it drills… and trying to make it up on volume. We wish them luck.
They are real-world examples of how borrowing a lot of money rarely leads to prosperity.
Capitalizing on these problems is a lot different than investing in good businesses. With a good business, time is your friend. A capital-efficient company like Hershey (HSY) will simply compound your wealth by increasing its dividends every year as its business slowly grows and the economies of scale continue to deliver big benefits to owners.
Highly indebted companies, on the other hand, tend to tread water for a long time before drowning. At first, profits collapse. But companies can make adjustments and promises. Additional credit will continue to flow. Debts can be refinanced. But… as more time passes… and as margins continue to decline… sooner or later, real cash-flow problems will emerge.
In an instant, the entire sustainability of the business will come into question. Suddenly, the stock will collapse. Even if the company doesn’t outright default, it can begin a death spiral as it sells assets to repay its debts, eventually leaving nothing for shareholders.
It’s that moment where confidence is lost – like what happened to Hertz (HTZ) this week – that we’re aiming for in Stansberry’s Big Trade…
Yes, we can profit by trading around these positions as volatility ebbs and flows. That should earn us enough profits to begin investing with “house money” long before the crisis with corporate credits begins in earnest. But next year, we’ll see dozens of situations like Hertz. And in 2018, we’ll see hundreds. Even if we only “hit” on five or 10 of them, we’ll make huge profits overall thanks to the massive leverage available to us via put options and the extremely low price of those options right now. The defaults are coming. It’s only a matter of time.
In tomorrow’s Digest, we’ll walk you through an entire Stansberry’s Big Trade sequence from start to finish. We’ll show you how to find debt maturity schedules… evaluate the risk of any given balance sheet… figure out which put option to trade… and how to trade around a position to make sure you don’t lose money.
Yesterday, I was in a hurry and didn’t do a great job of explaining what’s admittedly a complicated idea – about the effect that large government debts have on stimulating the economy.
I wrote that various studies had found that government spending causes a negative-multiplier effect and reduces economic growth. What I meant was government deficit spending causes a negative-multiplier effect on economic growth in countries where debt-to-GDP is already more than 70%.
I explained the negative-multiplier idea in far more detail and gave a complete list of original sources (if you like reading academic economic research) in the October 7 Digest.
I regret making an already complicated idea more confusing, but the bottom line is the same: Borrowing too much doesn’t make individuals or entire economies rich. Research shows that cutting taxes (as Trump promises to do) is unlikely to deliver any lasting economic benefits if it leads to a corresponding increase in government debt.
So can Trump cut taxes without adding to the deficit? No way, not when we’re already running huge annual deficits and so much of the government’s spending (around 70%) is for transfer payments and entitlements that are “mandatory” and not part of the discretionary budget.
Nevertheless, I’m sure that for the next few months… or even a year or two… folks will hope that Trump will pull a rabbit out of his hat and bring back significant amounts of economic growth. Trust me, it won’t happen. The Republicans can’t make our $20 trillion in federal debt disappear. You can think of that gigantic problem as the Obama legacy. We’ll be paying for it for decades.
Editor’s Note: By finding companies and industries that have been completely corrupted by unsustainable debt loads, Porter and his team are teaching readers how to hedge their portfolios from the risks of the coming default cycle. They believe that making 20 or 30 times your money in some of these names is likely.
As Porter says, “When you know that a company cannot ever afford to repay its debts, it’s only a matter of time until it defaults. You can either be a winner or a victim when that happens. It’s up to you.”
If you haven’t signed up for the free webinar Porter is hosting next Wednesday, November 16, at 8 p.m. ET, this is one you don’t want to miss. He’ll show you exactly how to make the life-changing gains he sees coming. You can click here to reserve your spot.
Porter recently sat down with Casey Research founder Doug Casey to discuss his Big Trade. You can watch it here.