For those of you who would prefer to listen:
$31 Trillion; That’s our nation’s debt. It’s a really big number. A Trillion has twelve 0’s: 31,000,000,000,000. Another way to say it is 31 Thousand Billion or 31 Million Million. Again, it’s a really big number.
For perspective, the $31 Trillion in debt is more than the value of the economies of China, Japan, Germany and the United Kingdom, combined. It amounts to $236,000 per American household or $93,000 per person. How big is a Trillion? Think about distance. You’d have to travel between the moon and Earth over 4 Million times to reach 1 Trillion miles. A stack of 31 Trillion $1 bills would be 2.1 Million miles high. That’s 8 times the distance between the moon and Earth.
Another way to comprehend Trillions is through time. A Trillion seconds is nearly 32,000 years. 32,000 years ago, Earth was still in the Ice Age. The first cave paintings were believed to date back then. Humans crossed the ice bridge and entered North America for the first time roughly 13,000 years ago. The pyramids in Egypt are less than 5,000 years old. Ok, you get the point; Trillions is a whole lot.
The battle over the debt ceiling got kicked up a notch this week with a warning from Treasury Secretary Janet Yellen. She declared that the extraordinary measures to pay the government’s bills could now run out as early as June 1st. That is earlier than expected, meaning the political collision course in Washington is imminent. Treasury Yields on the short side of the curve spiked. The long end of the curve moved too, but not as much. The yield curve remains inverted, something it’s been for a year now. An inverted yield curve is historically a sign of stress and eventual recession. The Bond Market is always clear in its thinking.
Secretary Yellen’s new timeline caught most off guard. Goldman Sachs last week projected the government could keep making payments until late July. It’s important to remember, the Treasury Secretary has an objective to get resolution as quickly as possible. The Treasury Department is notoriously conservative in its debt limit forecasts. There is reason for some skepticism as to whether Yellen’s estimate is genuinely accurate. Treasury is supposed to get another cash infusion of tax receipts on June 15th, which could provide enough cash to last through July. That said, the issue is serious and is not going away without a deal.
President Biden invited House Speaker McCarthy and other Congressional leaders to the White House next week. That brought some encouragement. But time is slipping. The White House maintains it will not negotiate over the debt ceiling extension while Republicans are sticking to their demands for spending cuts. This debt ceiling debate is purely political. It reflects the high partisanship of Washington. It’s been reported the White House is open to framing a debt ceiling deal in a way that could allow both parties to claim victory. It’s a dangerous game Congress plays.
Our Washington sources believe a short-term deal is most likely at this point. With so little time left, during which each chamber of Congress will be out of session part of the time and President Biden will be on a trip to Asia, it is unlikely that Washington can reach a long-term debt limit agreement before June 1st. A short-term suspension seems like a probable outcome. That might be 3-4 months.
“The bill that Republicans passed is viewed as a wish list of Republican priorities that are meant to force President Biden to the negotiation table. Therefore, if McCarthy had not passed it, there would be legitimate questions if he could pass anything. This should help him when the real test of his influence and vote-counting abilities comes up, and that is when the House is asked to consider some compromise solution. Both sides play the game, and neither one wants to remove the debt limit since it is one of the rare points of negotiating leverage for the minority party. What is clear though, is that McCarthy cannot pass a clean debt limit bill and keep his job.”
“President Biden is trying to make it appear like he is not backing off his initial demand by inviting the other congressional leaders rather than meet with McCarthy one-on-one. Given Mitch McConnell’s desire to avoid default, the White House hopes to isolate McCarthy in the meeting. However, McConnell has deferred to McCarthy and said Biden should meet to negotiate a solution with the speaker. Democrats hope that market jitters could pressure Republicans to concede to their “clean” debt limit demand. McConnell has a long history of cutting deals in the 11th hour to avert a potential crisis. Schumer hopes that McConnell will cave again, like in 2021. However, Schumer may have hurt his chances for a repeat after taking a victory lap last time. On October 8th, 2021, an irritated McConnell sent Biden a warning letter complaining about Schumer’s “childish behavior” and vowed, “will not be a party to any future effort to mitigate consequences of mismanagement.” Unlike in 2021, McConnell has more leverage now that Republicans have passed a bill in the House. A more likely outcome is a short-term extension that delays the “X-Date” to the end of the fiscal year on September 30th to align the debt limit with government spending.”
“There is also the Trump factor to contend with. Former President Donald Trump complained about being forced to accept what he viewed as a weak debt ceiling increase when he was president. If Mr. Trump were to publicly denounce an agreement as insufficient, he could crush congressional Republican support for a bill. Given Mr. Trump’s affinity for chaos, the Trump factor cannot be dismissed.”
If the debt crisis wasn’t enough to deal with, there’s also a banking crisis. Well, it’s really a regional banking crisis. The Big Banks are in solid shape and are benefitting mightily from the small bank challenges. The week began with First Republic’s demise. JP Morgan acquired the bank after it was put in receivership by the government because it was insolvent. This was the second-largest bank failure in US history. It is also the third US bank to fail in less than two months. None of this is good. The spike in interest rates from the Fed has squeezed the small banks. It broke 3. Importantly, 70% of the loans in America come from regional, community banks. That’s the financial plumbing for Main Street. Those pipes have cracked.
Speaking of the Fed, they raised interest rates again. As expected, the overnight target rate is now 5.0%-5.25%. It’s the first time it topped 5% since the Financial Crisis. It was a unanimous decision among policymakers, who seem to feel that the banking crisis is contained, inflation is still too high, and labor demand is falling but is still strong. The Fed also said it is strongly committed to returning inflation to 2%. It’s currently 5%, down from 9% last year. The Fed balance sheet stands at $8.5 Trillion, just below its all-time high of $9 Trillion reached at the height of Covid. It was less than $1 Trillion in 2007.
The big challenge for the Fed will be to both signal a move to the sidelines while also pushing back against Market expectations for not just a pause but a pivot. After a series of rate hikes, the Market is now pricing in 3 rate cuts before the end of the year. Fed Chair Powell said cuts are not coming, at least he doesn’t see it now. The Fed’s balancing act is certainly complicated by the debt ceiling drama and the banking crisis. This on top of the already sticky inflation and strong labor market. 253K jobs were created in April. That was significantly more than the 180K expected. What’s more, the unemployment rate fell back to 3.4%, the lowest in five decades. But the February and March payrolls were revised lower, indicating job growth is indeed slowing faster than the headline suggests. The Market liked that. The Fed is watching this very closely. The Market is assigning a 93% probability that the Fed pauses its rate hiking in June.
Nearly 60% of Americans live paycheck to paycheck. 42% have less than $1,000 in savings. There is nearly $1 Trillion in credit card debt now from coast-to-coast. At $930 Billion, it’s the most ever, eclipsing the 2008 peak. Delinquency rates, defined as late payments beyond 90 days, are at 5% of total. It’s nearly double for younger Americans. The delinquency rate for those ages 18-29 is 9%. These are the people that get hurt the most by inflation. Fed Chair Powell is focused on them more than investors who can absorb more pain from a Market decline. Powell is committed to taming inflation, seemingly at all costs. Rates are likely staying high.
Apple beat Street expectations for both revenues and earnings. Neither grew for the second consecutive quarter. Revenues and profits shrunk again. That’s an issue. But the company raised the dividend and announced a $90 Billion stock buyback program. That is keeping the stock buoyant as the economic cycle slows. Apple alone accounts for over 7% of the Stock Market now. The company is worth nearly $3 Trillion. Apple is the largest company in America. The iPhone maker moves the Market like no other.
Choppy price action continues. Friday brought a strong rally which put an end to the 4-day slide, but stocks still ended the week in the red. Volatility is picking up. The sideways action is widening out with bigger moves in both directions. We don’t see that ending before a resolution to the many issues in play. Importantly, the Bond Market is behaving while the Stock Market is always more emotional and erratic. The Dollar is holding firm too. We long-term investors just have to brace for these Trillion Dollar issues as they run their course. We’re still playing defense. It’s all about survival. We’re doing it.
Have a nice weekend. We’ll be back, dark and early on Monday.
Mike
