Next Economic Bubble Burst ???
It was a Dot com bubble in 2000 , it was the housing bubble in 2007 and the current bull market is 10+ old, what would be the next economic bubble that will bring Recession?? In my opinion, it will be the - Bonds, that will lead to a recession.
With 17 trillion in negative yielding bonds and historic low Treasuries (30 year yield - 1.96 % on 8/30/2019) , it's hard to make a case for inflation.
|Source : Bloomberg|
When there is a recession or a fear of one, no one cares about the debt. Companies can borrow money with a historic low rates and use it for buyback or support losing business models. As long as they can cover interest or some operating cost, investor will look the other way. Or won't punish the stock if the rates are increasing, like last year. I do remember 2018, when FED was hiking and investors were panicking about the trillion dollar government deficit and wage growth. Unexpected wage growth in Jan 2018, sky rocked volatility in few days in Feb 2018. Fed hiked rates 4 times in order to slow economy. Investor were punishing stocks like Tesla , ATT , Comcast etc for having too much debt on balance sheet.
How much 1 year makes a difference in market narrative is seems interesting (to say at least). Now because of the impending recession risk, investors are piling up in bonds (30 % of the global investment grade bonds yield below zero) , showing some signs of a bubble. No one is talking about yields going to 4% ( JPM CEO mentioned the possibility in 2018).
I have mentioned some of the reasons which are fueling this bond rally. What will happen when some of these reasons ( mainly U.S. -China Trade War & Strengthening of EU economy because of the aggressive easing by ECB ) resolves ?
Investor will start dumping safe haven like Treasuries, Gold , Utilities. Risk assets will rally (But this will be for a short term) .Eventually this bond bubble will burst, surely yield will move up. Companies with massive of debt will be at maximum risk of a default ( bankruptcy).
The greater time interest rates remain low, larger would be this bankruptcy risk.
FED will have to catch up and hike .It would be a hard for a struggling company (who borrowed for stock buyback or for a merger) to make interest payment due to lack of sufficient cash flow. Household with variable-rate mortgage, adjustable-rate mortgage (ARM) will have a hard time to make mortgage payments ( 2007/2008), high yield spread & jobless clains will be spiked and ultimately Recession will follow...
Low interest rates for a very long time is bad for the economy (As we know) since it fuels the assets bubbles. Fear of a impending recession can cause this (lower rates). But when that fear fades, unhealthy balance sheets can be more visible and dangerous.
I do have some concerns of inflation creeping up (because of the low interest rate) but slow global growth & amazon effect with massive student loans will keep a lid on it.
I think one of the reason recession comes when the Number of layoffs are way more than what job market can consume. More bankruptcies / reduction of workforce because of the massive amount of balance sheet debt can cause that. It's difficult to predict the time of a next recession (certainly for me) but I think - Raising 4 times by FED last year was a mistake and lowering aggressively now will be one too. In my opinion, they should only cut 25 basis point to calm the market.
Time will tell when the next Recession will hit but historic low interest rate & a prolonged Trade war will bring this time closer than expected.