Blog | CB Investment Management

Dominating Debt Dynamics

Beyond the current inflation downturn there are greater challenges.

Best Investors reveal on video that the “The Capital Asset Pricing Model” is broadly wrong about stocks, return and risk, endorsing the findings and subtitle of my book. Just think about what that means for how you are investing!

The FED ends 2022 with a hawkish message.

“Central banks spent a decade filling the powder keg with the dynamite of cheap corporate debt. Now, they’ve lit the fuse, in the form of spiking interest rates – with the fastest rate hiking cycle of the last 40 years.
Porter & Company

These funds are built on a lie, which is that you can have daily liquidity, and that for assets that fundamentally aren’t liquid.”
Bank of England Governor Mark Carney

Thanks to rising rates, the US government will spend nearly $1 trillion this fiscal year… just to pay INTEREST on its debt.
Simon Black

The chart below shows the astonishing explosion of debt in the US since the 1980s and how excessive debt comes with ever weaker economic growth. Even with optimistic assumptions, the Congressional Budget Office projects debt levels rising indefinitely into the future. Yet, it seems, no one talks about it anymore.

With a recession likely dead ahead, the focus will quickly shift to not only how deep the recession will have to be to get to the inflation target, but also how difficult it will be to get growth on the other side. Record and rapidly rising debt will increasingly dominate policy and economic dynamics.

How Transitory Will Inflation Turn Out To Be?

Forecasts have been very optimistic on this subject, but great work by Research Affiliates, looks deeply into historical experience. Inflation will likely fall to around 5% by mid 2023, but beyond that expect it to get much more dificult on a durable basis.

Reverting to 3% inflation, which we view as the upper bound for benign sustained inflation, is easy from 4%, hard from 6%, and very hard from 8% or more. Above 8%, reverting to 3% usually takes 6 to 20 years, with a median of over 10 years.

The reasons why inflation may be hard to contain are:

* Wage growth
* Commodity shortages
* Reckless fiscal spending
* Deglobalization

The FED Ends 2022 With A Hawkish Message

On the above inflation outlook the Fed clearly sees some of these problems. The latest dot plot is clearly tighter than the market currently expects. In its last meeting for the year it indicated Fed funds around 5% in 2023 without any rate cuts, and downgraded growth to 0.5% for all of 2023.

US Corporate Debt Is A Big Problem For Equities

In the US, corporate debt is already above the levels from which major recessions have started. The burden of refinancing all this debt is going to be increasingly painful if interest rates stay high.

It’s not just the amount of bonds that is the problem. The leverage for investment grade bonds has doubled since 2007.

Liquidity has become an increasing problem for even the biggest corporate bond ETFs which have in recent years experience outsized volatility. Hence the quote above from Mark Carney and the corporate bond rescue engineered by the Treasury and Federal Reserve in 2020.

Government Debt Accelerating Out Of Control?

Sovereign Man explains:

The deficit over the past six months (June-Nov) totals nearly $1.3 trillion, an average monthly deficit of more than $200 billion.

Whenever the Treasury Department borrows money to pay for these outrageous deficits, they do so by issuing bonds. And those bonds are sold to investors with terms ranging from 28 days all the way up to 30 years.

The average maturity for US government debt is about five years. This means that, every year, roughly 20% of US debt matures and needs to be repaid. Naturally the government doesn’t have the money to repay its debts. So instead they borrow new debt to repay the old debt. It’s basically a Ponzi scheme.

To make matters worse, interest rates have been rising rapidly last year the government borrowed money at 0.1% or less. But today they have to pay 4% or more.That’s a huge difference.

Thanks to rising rates, the US government will spend nearly $1 trillion this fiscal year… just to pay INTEREST on its debt. And if rates keep rising (or remain this high), that figure will only grow as they continue to refinance their debts.

The charts below show the CBO’s current projections. The interest on debt is now set to spiral higher, exceeding the primary deficit on a consistent basis. The second chart shows the total debt. There does not seem to be any real focus on this issue in Washington. That moment passed many years ago as covered in the deep archives of these insights.

Foreign Central Banks seems to be noticing the trends in US debt. Purchases of gold picked up after 2010 and in Q3 2022 saw record purchases. Are the central banks sending a strong signal through their actions rather than their words?


That leaves Chairman Powell struggling in the eternal seas of politics lost in the middle as the arguments get louder on both sides. Powell will be challenged trying to chart a course through war, stagflations, and complete fiscal mismanagement by our politicians. The next stage of interest-rate policy presents very difficult questions concerning how high to raise rates from here, and how long to hold them at that level in this Pyhrric War against Inflation.
Martin Armstrong

Beyond Powell’s Pyhrric victory over inflation lies even greater challenges. Borrowing from the future has limits for everyone. Lurching from extreme “stimulus” to extreme “tightness” has already been highly destabilizing. Ultimately the Fed can’t solve the longer term problem of too much debt and too little growth, which led to the inflationary surge and now the risk of recession.

Increasingly the Fed will have to combine forces with the Treasury to manage not just inflation and growth, but now an even bigger problem, debt. They are now all linked together. Make sure you are ready to manage instability.

Arm yourself with the incredible wisdom in this conversation between two “Best Investors.” It reveals the deep secret of Best Investors that no one else seems to understand.

The legendary Jeremy Grantham of GMO told David Salem that the Capital Asset pricing model so many are taught has the wrong sign in one of its most important equations. According to Jeremy Grantham the idea that return correlates better with high risk stocks needs to be reversed! Just as I say in the subtitle to my book, “The Low Risk Road To High Returns“.

Transform Your Investment Experience

The room for policy manoeuvre, and the stability of the current system should not be taken for granted. Volatility has increased and is likely to continue to stay high. The outlook has rarely been this uncertain. Investment management needs Best Investor metrics and techniques as never before.

Market and economic events are moving fast at this stage. If you need a quick review of the issues that you may need to know about for your own circumstances, schedule a FREE consultation today.

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Chris Belchamber is an IRMAA Certified Planner

Medicare’s IRMAA impacts every retirement plan. Learning how to mitigate it is available via IRMAA Certified Planners designation.

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