Investors Worried About a Recession That’s Already Here and the Fed Has No Good Options

An article about poor earnings reports from retail companies in today’s Wall Street Journal noted, “The results are prompting Wall Street to wrestle anew with the idea that the global economy could be headed for a recession.”  We warned about stagflation in February.  We said clearly in May that stagflation is here.  And we most recently wrote about negative GDP last week.  There’s no need to wrestle with the prospect of a recession.  It started two quarters ago (according to our adjusted measure of GDP).

The Fed has no good options.  If they continue to raise rates, the recession we’re seeing in the numbers is going to become vividly apparent to everyone.  That’s never great, but doubly bad in an election year.  In addition, US on-balance sheet debt is now over $30 trillion.  Once Chairman Powell raises rates by a few percent, the interest on US debt alone will take over the entire federal budget.  (Yes – it won’t happen overnight, but as bonds mature, we quickly get to levels of interest expense that are not payable.)

If the Fed doesn’t raise rates, inflation will continue to crush American’s standard of living.  It’s true that unemployment is down and that wages are up, but wages are up by less than inflation.  This means that even though people are earning more, they can buy less.  We covered that in greater detail in this post.  Our belief is that inflation currently being measured at 8.3% is almost double that in reality (and it’s higher if you’ve had to buy a car or house in the last year).  Living standards are going to decline and that’s going to get very ugly unless the Fed raises rates to get things under control.

All of this is further explanation of why we’ve been short the SPY and QQQ since the first week of January.

Here’s the bull case that would make us wrong:  The Fed threatens to raise rates and reduces its balance sheet a bit (quantitative tightening), and the economy cools.  At that point, they reduce rates and start the party all over again.  We note that this wouldn’t be a fix for the underlying problem (an asset bubble caused by currency printing), but these kinds of things can sometimes keep going long past the point where they should have broken.  We think the asset bubble is popping now, but acknowledge that another round of bubble creation involving more debt and currency printing is a possibility.

It’s a complicated topic, so please feel free to post questions in the comments or email us at IR@DeepKnowledgeInvesting.com

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