Harry S. Dent Jr.'s Blog, page 11

Managing Money Velocity

Dr. Lacy Hunt was the first economist to explain why money velocity is important: It measures whether a country is investing its money productively to create continued growth. When it’s above average and growing, that’s a sign of productive investment that pays good returns and creates more such investment. Falling is a sign of increased speculation. Falling and below average means the deleveraging of unproductive and counter-productive stages.

Like my demographic spending tools and urbanization vs. GDP per capita gains, I have now expanded this to all major countries in the world. This adds the acid test of whether investment is productive, and is especially important in emerging countries that are making the biggest investments in new infrastructures to urbanize. It can also help spot where corruption and bureaucracy are a hindrance.

Here’s a quick summary of the best and worst velocity readings in the major regions of the world:

I’ll start here with the western developed countries including Japan. Canada is actually the best at 1.33 with the U.S. second at 1.12 – both in North America, not Europe. The worst is Hong Kong at 0.26 (China on steroids!), with Japan a close second worst at 0.40. China is also very low at 0.50 because of constant overinvestment in infrastructure.

The highest velocity is in the youngest, least urban and fastest growing regions starting with Sub-Saharan Africa. Here, the poorest – the Congo – is highest at 7.99. Sounds great, but a very risky and volatile country at this point for investment. The lowest is the richest and most urban country, South Africa, at 1.37.

Southeast Asia is next and a much more affluent and attractive investment environment. Here, Indonesia is the highest at 2.58, and surprisingly Vietnam – which used to be much higher – is the lowest at 0.63. A sign of corruption seeping in?

My favorite region ahead for demographics and urbanization is South Asia, dominated by India. Velocity is similar in the key countries here, with Pakistan the highest at 1.71 and India actually lowest at 1.36. Still some corruption and bureaucracy there.

The most turbulent, but likely less so in the coming boom, according to my Geopolitical Cycle – the Middle East/North Africa – has Turkey as the strongest (1.85), although its political shift is more than worrisome. The weakest is U.A.E. at 1.16 due to constant overbuilding in real estate, like Hong Kong and China.

And finally, closer to home is Latin America from Mexico and the Caribbean to Chile. Here, surprisingly with its near-term debt, currency, and default problems, Argentina is the highest at a whopping 3.51. The largest country, Brazil, is the worst at 1.04. Argentina also has the latest peak in its Spending Wave in 2065 vs. Brazil the earliest in 2035. Argentina could be a good place to invest after the crash ahead.

This is a much more complex topic when you put all of our proven indicators together, but South Asia and Southeast Asia still look best, all things considered for the next global boom… after the global crash and reset.

Boom & Bust Elite subscribers will see more of this in a few weeks: I look at this indicator around the world in more depth in the upcoming December 2019 issue of The Leading Edge.

What Pensions Will Do to Your Pocket

It’s that time of year. My wife has been baking up a storm as we get ready for a number of holiday events, including the big family gathering later this week. Black Friday commercials are everywhere as retailers try to pull holiday spending forward as far as possible. Forget Halloween, in a few short years I think Labor Day will be the new Thanksgiving when it comes to shopping.

But Thanksgiving week brings more than food and a chance to burn up the plastic. It also offers individuals and companies a window of time between now and the end of the year for reflection, a space for thinking about what happened in 2019, and how 2020 can be different, and better.

For $35 per Day

If it’s investing, working, or a combination of the two, there’s always a new avenue to consider. But what if the choice isn’t up to you? What if your fate will be decided by someone else, and it could slash your income down to almost nothing?

That’s the exact fate faced by more than a million retirees covered by the multiemployer pension side of the Pension Benefit Guaranty Corp (PBGC). These retirees face the calendar with dread. When we roll into 2020, they’re one step closer to 2025, when their pension funding will run dry.

It’s not like they pull in fat checks. For 30 years of service, these retirees receive a whopping $12,870, or just $35 per day. If the PBGC multiemployer fund runs dry, the benefits could only be paid by the premiums charged to other companies, which would cover just $643 per year, according to the National Coordinating Committee for Multiemployer Pension Plans. That works out to $1.76 per day, which is less than the extreme poverty threshold of $1.90 set by the World Bank in 2015.

Less than 10% of the world’s population lives in extreme poverty, and now we’re on the brink of American workers, with 30 years of service, joining their ranks. What a mess.

The Trouble with Most Plans

This didn’t happen overnight, and many people saw it coming. I’ve written about multiemployer pension plans several times because, as the pension programs expected to go bust first, they’re the lead dogs in a race that nobody wants to win. These plans will run out of money before most others and will test the government’s response.

One fund covering coal miners is expected to exhaust all of its funds by 2022, leaving a hole of more than $6 billion. Those liabilities would then be dumped on the PBGC’s multiemployer fund, making the $65 billion deficit even worse.

House Democrats recommended a partial solution last summer, and Senate Republicans recommended their own version last month. They’re different, but it’s not clear that either one will provide the backstop the plans need. The reason why is simple. In the pension world, everyone’s looking for cash that doesn’t exist.

Most pensions go broke because of a long history of failing to earn expected returns, lower than required contributions, smaller populations of current contributors, and the unwillingness of plan administrators to make changes along the way.

We act as if pension contracts somehow suspend the laws of finance, which include variable returns and unforeseen circumstances. Without a way to adjust benefits, it’s only a matter of time before most plans will run into trouble.

Unless you’re the federal government… which is why those involved with multiemployer pensions keep looking to Congress, and taxpayers, for a lifeline.

I don’t expect Congress to let the multiemployer plans implode. Our elected officials eventually will offer some mix of free cash, lower benefits, and higher premiums on companies still covered by the PBGC. They might even go with a heretical option, calling for the PBGC to use money from the fully funded, single-employer insurance fund to be used for the multiemployer plans.

It doesn’t really matter. It’s all window dressing. At the end of the day, you and I, as taxpayers, will be required to make good on the $65 billion hole in the PBGC’s multiemployer pension fund… which is just a precursor to what will happen with public pensions across the nation in the years ahead.

From Where the Money Flows

Illinois has just 38% of what it needs to pay its pension liabilities. New Jersey has just 36%, and Kentucky has 34%. These states have net pension liabilities of $137 billion, $142 billion, and $43 billion. Combined, they’re $322 billion in the hole. When they come knocking on our door for help during the 2020s, it’s going to be a lot more expensive than the relatively small hole in the PBGC’s multiemployer plan.

As those days get closer, all of us will look at the calendar with trepidation, because we know the only way to keep the money flowing to the pensioners covered by such plans, will be for the cash to come out of our taxpayer pockets.

The Bigger the Bubble

When I am speaking in Australia, New Zealand, and the U.K., all of whom have big real estate bubbles, I always ask: How do you think this is good for your country that it costs so much to live, and so much investment and attention goes to speculating in real estate instead of producing real goods and services?

Now, I will admit that healthy real estate prices are a good thing; it says you are an attractive city or country to live in with a good standard of living, good schools, and low crime, etc.

But nosebleed levels like eight to 10 and even 20 times everyday incomes to buy an everyday house? Then there are higher wages paid to employees by businesses to compensate for that higher standard of living and higher office, store, warehouse and plant costs. Isn’t that one of the reasons we are losing key industries to lower cost countries?

And then there’s lower spending in other sectors, like eating out, entertainment, travel, and cars to compensate for higher housing costs…

High real estate prices past a normal level of three to four times income in good cities only benefits the older people who already own real estate and who are going to work and produce less, and then die. It kills the standard of living for the new up-and-coming generation. It only encourages more focus on fixing up and flipping homes instead of investing in productive capacity to produce real goods and services and for export and global competitiveness.

Productive investment would be reflected in money velocity, as I covered a few weeks back. And yes, if you look at the countries that have the most overvalued real estate nationally, this clearly seems to be the case. The U.S. and Canada have some highly very overvalued major cities and areas, but they are not as overvalued nationally (3.9 and 4.3 respectively) as countries like Hong Kong, China, Australia, the U.K and Switzerland.

Note that the valuations here are median home prices vs. median household income. These ratios get more extreme at average levels that favor the more affluent that are the most overvalued. For example, Hong Kong is almost twice as high on average price to income, at 36 times income.

No surprise, Hong Kong has the lowest money velocity in the world at 0.26, with the very highest real estate valuations at 20.9 times income. This is the home of “closet condos.” China, with the same strategy of overbuilding and households overinvesting in real estate, is next at 0.50 velocity and valuations in their top two cities at 16.0 and 15.0 times.

Then comes Australia with velocity at 0.88 vs. 1.12 in the U.S., despite dramatically better demographic trends and lower overall debt ratios. It’s top two cities, Sydney and Melbourne, are 11.7 and 9.2 times, respectively – the second most overvalued in the world after China.

Then comes expensive Switzerland at an abysmal velocity of 0.53. I think that is partly due to extreme wealth and urbanization already and nowhere to expand. But its price to high incomes in its lead cities are 9.4 in Geneva and 8.4 in Zurich. Higher than London…

Then finally comes the U.K. at 0.66 velocity and its leading city London at 8.3 times. That’s way below the U.S. at 1.12 and the euro countries at 1.01. Too much focus on real estate investing and flipping?

The countries and cities with the highest real estate valuations will crash the most to be brought back down to reality. And that will be good medicine for their awful addiction — and for future growth again…

And, they wouldn’t have bubbled up so much, if they weren’t so special!

But back to the original question: Do you want to make money on real estate gains for your oldest citizens, or increase your competitiveness as a nation for your future generations?

Live from Australia

As you know, I’m on the road in Australia at the moment, handling a few speaking engagements for my readers in fans Down Under. I always love coming here and recently have tried to do it about twice each year, and it never fails to impress or reinvigorate me. So thanks, Australia, for being lovely hosts.

Of course, I still needed to make time to check in with you and talk a bit about the markets. Australia’s in bubble city too right now, and we’re seeing the indications firsthand. It’s the second most overvalued city in the world in terms of real estate, and that’s alarming. In general, real estate is going to need to get down to reality – and soon.

By the way, I’ll be skipping the rant next week, traveling back to the U.S. and then celebrating Thanksgiving. Instead, I’ve got my editors cutting some interesting interviews from this year’s Irrational Economic Summit, so stay tuned for that.

Social Security is Broke

If you think Social Security is a genuine, albeit compulsory, retirement program, then you haven’t read the fine print. Most of us have to put money in over our working lives, and then get the privilege of applying for benefits when we reach age 62 or later (somehow, Congress saw fit to exempt federal employees, including themselves). But beyond that broad brushstroke, the program works more like a slush fund, with the government pushing for bigger contributions while fiddling with the formula for who gets what.

The more you make, the less you get.

Depending on the outcome of the next presidential election, the disparity between what you pay and what you get could increase dramatically. You’ll be paying more in taxes and never getting the money back, essentially contributing to the Social Security Welfare Fund. This is just one more way that your taxes are likely to go up in the decade ahead.

The Devil’s in the Details

We talk about Social Security as an income replacement program because that’s how the formula for determining benefits works. The Social Security Administration (SSA) figures out how much you earned each year over your working life, then narrows it down to your top 35 years of income. Each year of income is then inflation adjusted using the “adjusted wage index” table to make it comparable to today’s dollars.

Then the SSA finds an average annual income (all those adjusted dollars added together and divided by 35), which it divides by 12 to figure out your average monthly income.

Here’s where it gets tricky.

If you qualify for full benefits starting in 2019, the SSA will pay you 90% of your first $926 in average monthly income. So if your average annual income over 35 years was $11,112 (12 x $926), then you’ll get almost all of your income replaced by Social Security for the rest of your life.

If your average income was higher than that, the replacement rate falls. For average monthly income between $926 and $5,583 (or $66,996 annual income), the SSA pays 32%.

If your average annual income was $66,996, your Social Security checks would replace about 41.5% of your monthly income. From here, the numbers drop dramatically.

For everything after $5,583 in average monthly income, the SSA pays just 15%, but only up to a point. Benefits are limited to average annual income of $132,900, which is also the top amount on which we pay Social Security taxes.

Because Social Security benefits are skewed to replace more of the income of lower-income workers, the program has a wealth-transfer component. The breakeven point, or where you’re expected to get back essentially what you put in plus a little for interest, is right around the annual average income for a single worker, or $44,000, according to the Urban Institute.

If your average annual income is higher than that, well, you’re contributing to the welfare of others, whether you know it or not, and your contribution is likely to jump in the years ahead.

One Simple Fix

Social Security is broke. The program will run through its trust fund by the early 2030s, then bring in enough to pay just under 75% of the benefits due. Several presidential hopefuls want to make it worse. They propose increasing benefits at the low end well beyond the current Cost of Living Adjustments

(COLAs). To put the program on sound financial footing as well as pay for the extra benefits, they need more money. If you’re still working, or pay taxes on your Social Security benefits, they’re looking at your wallet to make up the difference.

One simple way to fix Social Security funding, although not additional benefits, would be to get rid of the income cap for taxes, but leave the cap on benefits. As your paycheck gets bigger during your working years, your income replacement percentage during retirement goes down. The leakage would go toward making the program solvent.

While that simple move would shore up the program, it would also make Social Security even more of a welfare program.

And this doesn’t contemplate increasing the Social Security tax, which would compound the issue.

This could be the right path. There’s no doubt Social Security is insolvent, and there’s no question that it’s one of the most successful social programs in the history of the U.S., as it moved millions of elderly Americans out of poverty. But we need to discuss the program in clear terms, understanding what we’re being told to pay, and what we expect to receive in return.

Even if we don’t adjust the terms of the deal in the next administration, our window for coming up with an answer is closing. With the population of retirees growing bigger by the day, it’s inconceivable that we’ll pay less in benefits to the average retiree, which means higher taxes for workers, lower benefits for higher-income retirees, or most likely a combination of the two. The only question is, when do we want to solve it?

And for anyone disgruntled because they don’t expect to get back what they put into Social Security, don’t worry. On the Medicare side, we all come out ahead. But as you might expect, that program’s even more underwater, and will run through its trust fund by 2026. We can look forward to higher taxes for that program as well.

The 7 Laws of Cycles

A reader recommended I adapt an excerpt from April’s Leading Edge that discusses the seven laws of cycles. These are guiding principles by which I abide at all times when performing research and forecasts.

1. All of history and progress is exponential not linear, as knowledge and learning build on itself as in compound returns in investing.

This is why each generation cannot conceive of the changes that are coming with the next, and changes over history only come faster and harder than ever. There has been more progress in standard of living in the last 100 years than at all other times in human history.

2. Such exponential progress also only occurs in cycles. Cycles are inherent in the dynamic play of opposites that are the source of energy and creative design in life. Both sides are absolutely necessary and innovation/learning most comes in the “down” cycles.

People don’t like cycles because they have a downside and they want a “zip line to heaven.” My focus is that the greatest advantages come from seeing downward cycles coming when everyone else might miss them, and you learn the most from your mistakes, not your successes. Hence, the greatest innovations come in the downward cycles before they move mainstream in the upward cycles.

3. There are an infinite number of cycles in the shorter term and much fewer over the long term. That makes the short term more probabilistic or harder to predict and the longer-term more deterministic and easier.

This is why I can at best narrow shorter-term scenarios down to two, but longer-term scenarios can get to one, unless we see major changes or new insights. The hard part about long-term forecasting is identifying which few are the most critical. Once you can do that, it is easy to forecast decades or more in advance – over the rest of your lifetime! The shorter cycles average out in those time frames.

4. Any complex phenomenon, like the climate and the economy, requires a simple and limited hierarchy of cycles that most impact it, with one dominant and a few modifying (usually two or three). Adding more cycles only becomes more confusing after that.

My present and most powerful hierarchy of cycles revolves around the dominant 40-year demographic and two other longer-term ones: the 45-year technology and 35-year geopolitical cycle. It also includes a shorter-term 10-year boom/bust cycle around sunspots.

5. Every dominant cycle can be broken down most clearly into four seasons: spring, summer, fall, and winter. That’s how you determine the primary cycle.

The 40-year demographic cycle breaks into an 80-year four-season cycle every two-generation spending cycles. We are in the late stages of the winter season, which should bottom around 2023, but the 45-year technology cycle on its most powerful 90-year “super bubble” variant is bringing an exaggerated stock bubble within this winter season.

6. Cycles affect each other like the gravity of objects or planets. Larger cycles especially amplify smaller cycles, up or down.

The 500-year mega-innovation cycle has amplified our booms and busts since 1900. Hence, the greatest boom and bubble in history into current times. This cycle will continue to amplify into its peak around 2140-50.

7. Most important cycles are constant, or nearly so. The exponential nature of progress causes more progress and/or amplified shorter cycles to occur within them. It’s not that they get shorter with accelerated progress.

When I was younger, major product life cycles in things like appliances or cars happened about every 10 years, now they seem to be every two to three years… or less. But the major technology cycle continues to peak every 45 years like clockwork.

P.S. If you missed Adam O’Dell’s presentation yesterday, where he revealed his favorite market-timing strategy and the next opportunity he’s tracking, which is right around the corner, click here to catch a re-broadcast.

Guns, Money, and Regulations

If you’re looking for free drinks and new friends, loudly discuss your support for the Second Amendment. If you’d rather engage in colorful discourse and potentially continue the conversation outside, bring up your views of much-needed gun control and the possibility that the framers of the Constitution didn’t mean for every house to have the right to an AR-15.

The two sides of the coin point out something that will play out across the nation as we close in on the elections next year. Regulations matter, and gun control is a great example.

It might not get points for style or sensitivity, but there was a quip during President Obama’s tenure that he was “the best gun salesman in America.” Every time he started a conversation about gun control, gun sales shot to the moon. Consumers reacted by purchasing more weapons, hoping to get ahead of any new regulation, while gun retailers happily banked sales and profits. When the conversation faded, so did sales.

Popular gun brand Smith & Wesson rode the wave of sales ever higher during Obama’s tenure. The company’s stock went from $3.83 in February 2009, just after Obama took office, to $9.55 at the beginning of his second term. By the fall of 2016, when the world thought Hillary Clinton would take the helm, Smith & Wesson’s stock reached $23.33, a 500% gain from where it began in February 2009.

Along the way, Smith & Wesson used its newfound wealth to diversify its offerings. The company purchased hunting equipment and accessory maker Battenfield Technologies in December of 2014, then picked up laser-sight firm Crimson Tracer in August of 2016. Smith & Wesson also purchased Taylor Brands, a knife maker, and UST brands, a survival gear company.

All signs pointed higher, driven by political and regulatory worries. On the day before the election in 2016, Smith & Wesson changed its name to American Outdoor Brands, probably hoping to continue selling weapons while beginning to distance itself from the business, at least in name.

Then Trump surprised the nation.

The Story of a Stock

By February 2017, American Outdoor Brands’ stock had fallen to $19.44, a 17% decline from November 1, 2016, just before the election, and things haven’t gotten better. With Trump in office, Americans didn’t feel the same urgency to buy a gun as they did when Obama sat in the Oval Office.

Trailing 12-month revenue dropped from a high of $900 million in early 2017, to $606 billion by April 2018, and then $639 billion in April of this year. Sales remain about 30% lower than the recent high, and about where they were in January of 2014, before the company acquired the other firms.

The shares recently traded at $8.38, a 64% drop from where they were in 2016, and just 120% higher than where they started in February 2009. In that same time, the S&P 500 increased by 450%. The broad market indices are marching higher, and American Outdoor Brands continues to fade.

But don’t worry, the company has a plan. To battle the challenging sales environment, the company is splitting up what it just recently brought together.

To make itself more attractive, the firm recently announced it will cleave off the Smith & Wesson side into the stand-alone gun business that it had been before it went on a buying spree earlier this decade.

It’s hard to argue that Americans needed more guns before 2016, or need fewer today. Consumers, as well as businesses, reacted to political and regulatory changes under both administrations, and now American Outdoor Brands is positioning itself for what it sees on the horizon. If a Democrat takes office in 2021, the company will have put some space between itself and guns.

The path of Smith & Wesson, then American Outdoor Brands, and now Smith & Wesson again, is a simple example of what goes on throughout the economy every day, from our pocketbooks all the way to the boardrooms of American companies. We react to our environment, trying to position ourselves the best we can.

American companies, not including American Outdoor Brands, have had a great few years since Trump took office, reduced regulations, and cut corporate tax rates. But they haven’t significantly increased their business investments, and the U.S. deficit will top $1 trillion this year. As we look into 2020 and beyond, we should consider how things might change on the corporate landscape with the coming elections.

2020’s Up for Grabs

It’s not just the Oval Office that’s in play. Every seat in the House is up for grabs, and many seats in the Senate. If the next group of legislators aren’t as business-friendly as President Trump, companies could end up with lower profits, and less money to spread around through dividends and stock buybacks, and much higher costs in the form of regulations. If any of that comes to pass, it could take a bite out of the equity markets just as we deal with a global economic slowdown.

As 2019 comes to a close, consider how your main stock holdings will fare if things change dramatically in the upcoming election. You don’t want to be left holding the stock of a company when the best salesman and his party get voted out of office.

P.S. If you missed Adam O’Dell’s presentation earlier this afternoon where he revealed his favorite market-timing strategy and the next opportunity he sees right around the corner, click here to catch a re-broadcast.

How to Beat the FAANGS

The tech stocks are likely to have either a final blow-off rally into early 2020, or a bigger correction followed by a final rally to new highs into mid-2020. So, what’s the best way to play that?

Everyone’s been buying the FAANGs or leading tech stocks (Facebook, Amazon, Apple, Netflix, and Google), or simpler, just buying the QQQ, comprised of the largest Nasdaq 100 stocks…

But on my watchlist, which you can gain access to here, is a better way to play this finale – and, even more so, to play the next tech and global boom from 2023 or so into 2036-37: ARK Innovation, or ARKK.

ARK Innovation is an ETF started in late 2015 by star venture investor Cathie Wood. She is already a proven new venture investor in the technologies destined will lead the next technology cycle.

Here’s her criteria for what she chooses to invest in during the most tricky and risky early stages – more in the 0.1% to 1% phase of the S-Curve currently:

The technologies must have a strong declining cost curve with each doubling of volume, as things like semiconductor chips had
They must have broad applications across many sectors
They must also be a launching pad for further innovations

I have been saying that blockchain technologies are Internet 2.0 – or, as some, like Mark Yusco at our IES conference, put it: “The Internet of Money.” That means the digitization of all financial assets. And yes, that fits all three of Wood’s criteria.

Here are Wood’s five sectors of focus:

DNA sequencing
Collaborative robots
Energy Storage, aka electric autos, solar roofs
AI – artificial intelligence
Blockchain technologies

You can see why she invested heavily in Tesla, not as a car company (something Rodney has been touting for years).

The good news is that ARKK now has a 4-year track record and has traded at a healthy average volume of 260,000 a day in the last 65 days. In the last 3 years. it has averaged 33% a year vs. 13% for the S&P 500.

Here’s how it has performed vs. the QQQ in the last bull run from the early 2016 bottom.

Wow! The fund does not perform quite as well on the downside, but to date is still at 199% vs. 104% since early 2016. That’s why I’m not recommending it until we either see a clear upside break or that larger downside correction first I have been anticipating.

It pays to be in the earlier stages of technology – but only if you have someone like Cathie who knows what she is doing. It is the most risky stage.

I’ll continue to watch and recommend this fund once this finale becomes clearer – and that’s likely to be soon. Be sure to get the latest updates on all of our recommendations here.

P.S. If you haven’t signed up yet… my colleague, Adam O’Dell, is holding a live webinar tomorrow at 1 PM ET, where he’ll reveal his innovative timing strategy that has earned an average of 46% gains on every trade recommendation. You can sign up for free here!

The Meaning of All This Chaos

I’m on my way to Australia today. Well, I left yesterday, but travel takes so long from Puerto Rico that it’ll take me at least two days to get there. (And I don’t mess with trying to comprehend the international date line until I’ve landed!)

Anyway, I’m going to Australia for some speaking engagements, as I do once or twice each year. I love Australia, the people and the scenery. And they’re very familiar with my books, seemingly having read them all. So I like them even more.

Reason I tell you all this is that I was putting the finishing touches on my presentation just a few minutes before I stopped to record this video. It’s basically an adaptation of last December’s Leading Edge, my flagship newsletter. And I think that issue is so important that I’m making it available to you now, even if you’re not a subscriber to the newsletter. In my opinion, it’s one that you’ll want your kids and grandkids to read.

Now, I know what you’re saying: “Harry, that’s awfully confident.” But it is! Because it puts the current situation we’re in within the property context and perspective.

Look, we are not in an enviable place right now. I get it. The stock market’s at the highest it’s ever been, and looking to tumble. We’re in this enormous bubble, and things could get pretty bad pretty quick. But you need to keep the longer-term outlook in perspective: The best is yet to come.

We’re heading into 2020 with as much economic and political uncertainty as ever. So, to help you prepare for the inescapable unrest and financial hardships ahead, I put together the best set of resources I have to make sure you’re as prepared as possible for the challenges that lie ahead for so many Americans.

Learn how to get full access here!

I know people always think of me like some permabear, but the reality is that’s not true. We’re just in phase 1. That may be ending soon, but better times are ahead after that. So expect a little chaos for a couple of years, but a bright future after that.

And if you don’t believe me here, read last December’s Leading Edge to learn exactly why.

You Say You Want a Revolution

We’ve made more progress in the past century than in all human history put together, says Harry Dent. Today he joins us to discuss a special report that covers the trends and issues affecting the country right now, and changes coming for the next generation. Watch now to find out how reports like this are available in The Leading Edge newsletter.Get your Revolt 2020 Action Plan here: https://pro.dentresearch.com/m/1407198

Posted by Economy and Markets on Friday, November 15, 2019

The Crazy Card Worth Carrying

Shanghai Pudong Development Bank recently sold $7 billion in convertible bonds. As usual, the bank took orders for the bonds ahead of time, and then allocated the bonds among potential buyers. What made the sale notable is that investors put in orders for more than $1 trillion worth of bonds, or 140 times what Shanghai Pudong Bank offered for sale.

That’s crazy, but shines a light on what we all want: growth, with protection.

The Chinese economy is slowing down, with GDP growth recently falling to the lowest rate in almost 30 years. The government worried that the financial crisis would derail the economic miracle, so it set about goosing demand by lending copious amounts of money. The results were predictable. Construction and infrastructure took off as developers and heavy industry used the cheap cash to build as fast as possible.

Companies made tons of money… for a while.

Now the government, worried about a debt bubble and what will happen when it bursts, wants to rein in the profligate borrowing and spending. Part of their plan is to adopt Western-style bankruptcies, allowing companies to fail instead of bailing them out as they have in the past.

But when companies go under, they take investors with them, and that’s a problem.

The Chinese have gotten their first taste of losing money on bankrupt companies, and they don’t like it. The experience has driven at least a portion of investors away from the equity markets, leaving them with few choices, like real estate and bonds.

Property prices are already high, and developers in several major cities recently cut sales prices, leading to demonstrations by current owners who paid higher prices.

That leaves bonds.

The Possibility of Big Gains

Local Chinese governments are notorious for working with shadow banks to issue debt used to finance big projects. The move keeps the municipalities within their official debt guidelines, but still gives them access to cash. These schemes can be just as risky as equity.

Which leaves investors with large, well-known companies, and the new craze for convertible bonds.

This year, Chinese companies have issued a record $40 billion in convertible debt, up more than 80% from last year. Just as in the U.S., convertible bonds in China carry a lower coupon than traditional debt, which makes them a lower burden for the issuer. They also offer the holder the right to convert to equity if the share price of the company rises to a certain level, giving the investors a way to participate if the equity rally continues.

Until the shares convert, investors hold the bonds, which regulators favor in the event of a bankruptcy or some other problem.

Chinese investors want the possibility of gains while getting at least some limited protection, which appears to be driving the incredible, and some would say crazy, demand for convertibles.

But it’s not all great news in the space. Like bond markets around the globe, many issues suffer with poor liquidity after the initial sale. Government bonds and those issued by large, well-known companies typically have respectable bid/ask spreads, but bonds issued by small or questionable firms can have a bid/ask spread you could drive a truck through.

Gaming the System

That’s another risk that keeps investors in China and elsewhere focused on the biggest companies.

As for being 140 times oversubscribed, that could be a function of the sheer number of people, and amount of money looking for a home, in the Middle Kingdom.

It used to be worse. Before regulators cracked down on buyers bidding through multiple accounts, over-subscription numbers were much larger. China Citic Bank issued $6 billion in debt and received $33 trillion in orders, which is 150% the size of the U.S. economy.

Most of that is gaming the system, putting in way more orders than can be filled, hoping for a bigger allotment.

It’s likely this is just the latest bubbling asset that will disappoint investors when the markets eventually roll over. While convertible bond buyers might get a little more protection than straight equity holders, it’s unlikely they’ll be happy when they receive pennies on the dollar after a long, tortured path through bankruptcy, and that’s a feeling everyone understands.

No one feels good about watching their investments take a nosedive, and we’d all like some protection against loss. With markets near record highs, GDP growth slowing, and an ugly election in front of us, now’s a great time to protect some profits so you don’t end up with the sinking feeling the Chinese investors, along with the rest of us, are trying to avoid.

P.S.  If you haven’t already, click here to register for Adam O’Dell’s free webinar on Tuesday, November 19th, at 1 PM ET. He’ll go into detail about one of his favorite timing strategies that’s been handing investors unbelievable profits, including returns of 331% over the last seven years! You don’t want to miss this!