Even as the stock market chops sideways, investors must always remember that the market is not the economy and vice versa. Reality will set in eventually, and the warning signs will only be obvious to most retail traders when the exits are already jam-packed.
This doesn’t mean that the red flags weren’t already there for everyone to see if they were willing to open their eyes. It’s not normal for JPMorgan Chase to shut down customers’ accounts because this is supposed to be the mega-bank that rescues other banks. Now, it’s the canary in the coal mine.
Historically speaking, this is how the beginning of the end of a secular credit cycle looks. A period of easy money policy is always followed by tightening; since access to credit is the lifeblood of the economy, there can be no prosperity when banks stop lending and start rejecting customers left and right.
It’s ugly all around whether you’re an entrepreneur trying to start a business and hire people but can’t get a loan or you can’t afford a new or used vehicle because the payments are too high. Or maybe you’re paying 20% or more on your credit card even though you have good credit.
Perhaps you’re putting off buying a home because housing is unaffordable and are concerned that home prices are about to roll over in major cities. It’s a reasonable concern bolstered by the ongoing exodus from high-tax, business-unfriendly states like California where pricey office spaces are empty and celebrities can’t sell their multimillion-dollar homes.
It’s not just happening in the big cities or on the coasts, though. Home Depot, a bellwether for U.S. construction and home improvement projects, just posted its worst quarterly revenue miss in over 20 years. CEO Ted Decker didn’t want to induce panic by using the term “demand destruction,” but he did reluctantly acknowledge“more broad-based pressure across the business.”
What’s next for the American housing market? It’s not exactly a crystal ball, but home prices tend to lag behind lumber futures prices. You can see in the lumber futures chart shown above that the “wood crash” doesn’t bode well for home prices.
At this point, it’s not even a matter of tail risk anymore; the tail is bigger than the dog now. The looming debt ceiling is a matter of systemic and existential importance with Treasury Secretary Janet Yellen admitting that in the event of a debt default, “It is very conceivable that we’d see a number of financial markets break – with worldwide panic triggering margin calls, runs and fire sales.”
Yellen painted a dystopic picture: disruptions to air traffic control, law enforcement, border security and national defense, and telecommunications systems. This isn’t limited to economic ripple effects; law and order could be imperiled in short order.
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What does Yellen see firsthand that most people don’t? Surely, she sees the near-term deadline and the far-reaching consequences of the world’s wealthiest nation defaulting on its debt for the first time in history. Moreover, she sees how little time the nation has left to fix its problems.
She’s not the only one sounding the alarm. Big-bank strategists from Deutsche Bank, Barclays, and others are busy debating the exact time frame for a likely debt default, but they generally agree that it would occur sometime in early June.
We’re closer to ground zero than anyone could have imagined a year ago. It’s stunning to consider that the U.S. Treasury could so quickly burn its cash position from around a trillion dollars to just $87 million and change.
One might wonder: isn’t an efficient market supposed to reflect all of this data? It’s definitely priced into the bond market with multiple yield curves signaling a deep recession followed by massive bailouts courtesy of the government and Federal Reserve.
If it’s not priced into the S&P 500, that’s mainly due to its inherent (or perhaps engineered) imbalance of influence. Apple’s market cap is greater than that of the entire Russell 2000, and Apple is among a handful of bloated tech names with outsized weightings in the S&P.
A lopsided market can’t stay that way forever, but dislocations can persist for a while. In the meantime, rational investors have to find value where they can get it – and as usual, this could mean looking outside the box and the large-caps you hear about in the mainstream financial press.
Chief Editor, CrushTheStreet.com
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