The $14 Trillion Time Bomb: An Update

  “The next financial collapse will come from junk bonds, especially energy-related and emerging-market corporate debt,” said our Jim Rickards here in The 5 on Jan. 14.
Jim described “a $14 trillion pile of corporate debt that cannot possibly be repaid or rolled over under current economic conditions.”
That’s $5 trillion of debt issued for energy exploration… plus $9 trillion more, issued by companies in emerging markets, all of it denominated in dollars.
What has Jim so concerned is the parallels to 1997-98. Oil prices were tumbling. The dollar was rising. A debt crisis in Asia morphed into a default by Russia and then the collapse of the hedge fund Long Term Capital Management. LTCM’s failure had the potential to take down Wall Street and global markets with it.
Jim would know — he was LTCM’s lead counsel. He negotiated a bailout with the Federal Reserve and the 14 biggest U.S. banks: “We got $4 billion of new capital from Wall Street, the Federal Reserve cut interest rates and the situation stabilized.”
From Jim’s lips to the Financial Times’ ears, six weeks later…
  “In an eerie parallel to 1997-98, falling commodity — especially oil — prices, a rising U.S. dollar and potential increases in U.S. interest rates may presage a new financial crisis.”

So writes author and former banker Satyajit Das today in the salmon-colored rag. He describes a scenario for the coming months in which “debt markets become stressed, as heavily indebted energy companies and emerging-market borrowers become financially distressed.”
And unlike 1998, no one’s able to pull back from the brink: “Markets assume that the authorities will backstop asset prices. But weakened public finances and policy options exhausted in fighting the last crisis limit the ability of governments to respond to a new crisis.”
  So how exactly might the crisis unfold? In the latest issue of Rickards’ Strategic Intelligence, Jim Rickards describes it in three stages…

  • “The first wave of defaults will be from junk bonds issued by energy exploration and drilling companies,” says Jim, “especially frackers. These bonds were issued with expectations of continued high energy prices. With oil prices at $60 per barrel or below, many of these bonds will default
  • “The second wave will be from structured products and special purpose vehicles used to finance auto loans.” As we mentioned here last week, subprime auto loan defaults are growing. “That will get worse
  • “The third wave will come from foreign companies that issued U.S. dollar debt but cannot get easy access to U.S. dollars from their central banks or cannot afford the interest costs now that the U.S. dollar is much stronger than when the debt was issued.

“Not all of these loans will default,” Jim points out, “but even a 10% default rate would result in over $1 trillion of losses for investors, not counting any derivative side bets on the same debt. This debt will not default right away and not all at once, but look for a tsunami of bad debts beginning in late 2015 and into early 2016.”
What to do? “You should scour your portfolios and sell any bond funds that are stuffed with junk debt. Then, use the proceeds to build cash positions and buy high-quality U.S. Treasury notes. The cash will preserve wealth, and the notes will produce gains in the deflationary times ahead.”
[Ed. note: We’re two weeks away from Jim’s next live online briefing, exclusively for Agora Financial readers. His usual speaking fee is $15,000… and at many appearances, there’s no Q&A. But our events are free for readers of Rickards’ Strategic Intelligence, and they include the ever-popular “lightning round” in which Jim fields reader queries.

Not a subscriber yet? It’s easy to become one at this link.]
  Major U.S. stock indexes are starting the week in the red. At last check, the S&P 500 was at 2,106 — shedding four points from its record close on Friday.
The big economic number of the day was a bummer: Existing home sales fell 4.9% in January, according to the National Association of Realtors. The pace is the slowest in nine months.
Tomorrow, traders will keep an eye on the semiannual testimony of Federal Reserve chief Janet Yellen before Congress… hoping to divine clues about when the Fed might start to push the fed funds rate up from the near-zero territory where it’s been ever since the Panic of 2008.
But those traders are watching the wrong thing. “Usually,” says the aforementioned Jim Rickards, “the Fed speaks with one voice and is of one mind. Familiarity with the views of the chairwoman is enough most of the time.”
  “But this is not one of those times,” says Jim. “Today, it is critical for you to know the players while Fed-watching.”
The fed funds rate is set by the Federal Open Market Committee. The FOMC has 12 members. Seven of them also belong to the Fed’s board of governors, who are named by the president and confirmed by the Senate. The other five members are drawn from the Fed’s 12 regional reserve banks. The New York Fed chief always has a seat because the New York Fed carries out the money-market operations needed to implement interest-rate policy.
It’s the annual rotation among the remaining four seats on the FOMC that makes things interesting. Or at least different… heh.
“The regional reserve bank presidents,” says Jim, “are divided into ‘hawks,’ who favor tight money, and ‘doves,’ who favor easy money. The composition of the FOMC changes every January when four presidents leave and four new ones join the committee.”
Bottom line: The makeup of the FOMC this year is more “dovish” than last year’s. This is one reason Jim is sticking with a call he made at the end of 2014…
  “It seems likely that no interest rate hike will be forthcoming in 2015,” Jim wrote on Friday.
That runs against the herd that still expects an increase sometime midyear. But “taking into account deflationary trends, the strong dollar, weak labor markets and the dovish composition of the new FOMC”… that’s how Jim sees it.
“If this scenario plays out as expected,” Jim concludes, “it could be extremely bullish for U.S. equity markets. Right now, equity markets are priced for a rate hike in mid-2015. When markets realized that easy-money policies will continue into 2016, another upward thrust of the bull market would commence and a level of 2,200 or higher on the S&P 500 index would not be surprising.”
  Gold is losing ground as the week starts, the spot price only $1.50 away from breaking below $1,200 as we write.

Some of that is a function of dollar strength; the dollar index is up at last check to 94.5. The index’s major component, the euro, is down to $1.135 — traders waiting with bated breath on the latest kick-the-can solution for the Greece mess.
Greece and its lenders came to terms Friday on a four-month extension of its current bailout. But it’s conditional on the Greek government coming up with additional “reforms” by the end of today. If the Germans give those reforms the thumbs down tomorrow, the deal could be off.
[Ed. note: Our Chris Mayer thinks the Greek banks are still intriguing speculations. He says a friend recently bought shares of National Bank of Greece (NBG) at $1.20, and they quickly jumped to $1.55. “The upside if things work out is enormous,” he says. Just don’t bet your retirement on it…]
  After pausing for breath on Friday, crude has resumed the volatility it’s demonstrated all this month. As we write, a barrel of West Texas Intermediate is down nearly 3%, at $49.30.
  “We just have to hang tough for a while,” says one of Byron King’s contacts in South Africa, fresh from the annual Indaba mining conference in Cape Town.
Byron didn’t make it this year; it’s a 24-hour, two-hop flight, one way. But he heard from several people in his Rolodex who did.
One of the big takeaways: “China is and remains a large consumer for pretty much everything — but fast growth has vanished. That, and Chinese buyers are demanding steep discounts, driving a global slump in prices and cash flow for many basic resources.”
Another head wind: Bankers are reluctant to lend. “It’s difficult for most miners to raise capital for new projects — even to borrow to expand and improve existing facilities.
“Still, it’s not all gloom and doom. One copper miner told me that he’s bullish for the red metal. ‘Lower energy prices for oil — at least in the $60, $70 range — look like they’re here for a while. It cuts my operating costs at the mine. And it means that people in the developing world have extra money to spend on things that use electricity, like indoor appliances, air conditioners and such.’
“Several precious metals miners told me much the same thing,” Byron hastens to add. “Lower oil prices are bullish for gold and silver.”
  Legal prostitution in Nevada has turned into a cartel — who knew?

We should back up a bit: In the autumn of 2012, we introduced you to the phenomenon of “college tuition sugar daddies” — wealthy older men willing to pony up the tuition costs or student loan balances of younger women in exchange for sex, companionship or both. A website called SeekingArrangement is the pioneer in this, umm, unseemly kind of matchmaking.

Fast-forward to early 2015 and suddenly a legal Nevada brothel called Sheri’s Ranch finds the whole thing outrageous.
“The courtesans and staff of Sheri’s Ranch are prostitution experts, so we know prostitution when we see it,” said Sheri’s Ranch spokesman Jeremy Lemur in a press release. “We’re concerned that sugar dating websites, platforms promoting prostitution and operating without interference from law enforcement, may one day negatively impact our legal prostitution business.”
Yeah, and Uber is eating the lunch of regulated taxicab cartels in major cities. Your point?
  “Just wanted to let you guys know to get your order in early for Form 4868 extension to file from the IRS,” a reader advises after our taxes-and-Obamacare-themed episode on Friday.
“I refuse to file online because I have my doubts as to the security of the IRS. I think it was back in 1776 that I lost confidence in them. I order forms by mail.
“Well, here it is almost March and still no forms. If I cannot trust them to send me forms, how can I trust them with my info? It causes them more work. And generates more revenue for the post office. How do you like that for my austerity program? I order again every couple of weeks just for more austerity. Maybe they forgot to send them. Just doing my part to help the economy…”
  “When the pain of Obamacare compliance becomes hopeless for the less educated masses,” another reader writes, “the U.S. government will throw up its tentacles and say, ‘See, we told you! We just need single-payer (government health) insurance for all!’ And then we’ll ALL have lousy health care, and a more socially just society!”
The 5: That’s the long-standing contention of our friend Jud Anglin, who’s nonetheless scoured out solutions to help you cope.
  “As for NASCAR,” the same reader pivots to another recent thread, “popular MLB teams have been making that ‘forced multiple buy’ mistake for years.
“When the Red Sox are hot, you can only buy tickets to multiple cold-weather games to get a seat at a Yankees game. You can’t buy single seats. I’m a devoted fan, but haven’t taken my kids to Fenway Park in years. (Not that the owners care about pikers like me.)”
  “Been around car racing since spectating at Le Mans in 1956 and driving open-wheel in the U.S. from 1968-1978,” writes our final correspondent today.
“What with spotters, radio and telemetry plus instructions from the crew chief, barring wrecks, a trained ape could finish fourth at Daytona. :-)”
The 5: We should point out the reader wrote in on Friday evening, long before the Daytona 500 was run yesterday. The fourth-place finisher was Denny Hamlin.
Then again, Ryan Newman has an engineering degree, and he finished 19 laps down in 38th…
Best regards,
Dave Gonigam
The 5 Min. Forecast
P.S. Only 51 days before it’s time to file your 1040. But as we said on Friday, it pays to hold off just long enough to check out our comprehensive list of tips and tricks that could effectively take you off the IRS’ radar screen. You could save $4,881 or more. Start here.

Dave Gonigam

Dave Gonigam

Dave Gonigam has been managing editor of The 5 Min. Forecast since September 2010. Before joining the research and writing team at Agora Financial in 2007, he worked for 20 years as an Emmy award-winning television news producer.

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