Danger Ahead?

One of the questions we addressed in our previous interview with Coach Michael Regan touched on any real dangers we see ahead for investors in 2014. Our answer to this one was basically this: it is more important to understand that the system as a whole is unstable rather than focusing on pinpointing the exact event that could be the catalyst. Let that sink in!

With the context of the system in mind, let’s now drill down specifically about the biggest risk we see right now: interest rate risk.  Most economists acknowledge that even a modest rise in interest rates could potentially wreak havoc on the economy as a whole.  That said, why do we believe interest rate risk is such a big one? Simple –  the interest rate is basically the price of money.  And if the price of money increases of decreases, it affects everything… stocks, housing, corporate profits, government debt, entitlement programs, you name it.

For example, let’s take government debt and look at the risk…  We don’t think it’s widely understood that regardless of all of the noise about tapering and reducing annual deficits, we as a country have to borrow money just to pay the interest on money we already owe.  Think about that.  Imagine that you lent me some money and now it’s time for me to make an interest payment back to you. How would you react if I said, “May I borrow some more money? I need more cash to pay you the interest on the money that I already owe you!”  You would probably be thinking that I have serious problems… and you’d be right!

It is REALLY important to first understand the black and white truth that the US isn’t actually making any net principle or interest payments on its debt.  We are borrowing money to pay the interest on the money we already owe.  The crazy thing is that it doesn’t actually matter as long as interest rates stay ultra-low (aka zero).  Imagine you had a $500,000 mortgage and that you were making “interest only” payments on it.  Now imagine that your interest rate is zero… that means your monthly payment would be zero! In fact, any number multiplied by zero is still zero.  So it doesn’t matter if you owe 1 million, 10 million or 10 billion… as long as you make interest only payments and the interest rate is zero… your payment is zero.  Viola!

The obvious caveat to this otherwise brilliant plan is that you are going to be in a world of hurt if and when interest rates finally do rise.  That is the exact situation our government is in.  And that is why they have an enormous incentive to suppress interest rates as long as they possibly can by whatever means necessary.

So the logical questions become; how long can rates continue to stay at record lows?  How much longer will central bank policies designed to keep rates low continue to work?  And what could be the unintended consequences of the exponential increase in our national debt load in order to achieve these low interest rates?

Folks, the math doesn’t lie… and the math is ugly.  It’s clear to many that the current path we are on is unsustainable and that eventually, something has to give.  Will the politicians in DC get it figured out and make real policy changes that address the structural reform needed to get us back on the right track?  Will politicians make the tough decisions that may result in them not getting re-elected?  It might happen… then again pigs might fly. Someday.

So if we agree that we are on an unsustainable path, and that we won’t voluntarily make change through our political system, then as investors you must be prepared to mitigate that risk. That’s where we can help. Call us and let’s talk about our strategic options to face that risk and minimize the impact on you and your portfolio.

Categorized in: Blog

This post was written by Conscient Capital