What Awaits the Chronically Ill 60-Year-Old Debt Junkie?


Another night of flat markets.

Dow up a little. Gold down a tad. Bond rates a touch softer. Aussie dollar steady.

Boring…for now.

The much-loved Aussie property market — the one we are told repeatedly is NOT in a bubble — had some negative press this week.

According to news.com.au piece entitled ‘US election result hits Australian home buyers, with mortgage interest rates on the rise’ (29 November 2016):

DONALD Trump’s impending presidency is hitting Australians where it hurts most: interest rates.

First home buyers can expect a tougher, more expensive mortgage market courtesy of the property-developer-cum-leader-of-the-free-world, economists say.

And it’s already begun, with Westpac, St George, Bank of Melbourne, BankSA, Rams, ME and Ubank hiking mortgage interest rates by up to 60 basis points on Monday, and the other major banks expected to follow.

What else can we blame Donald for? I know…our cricket team’s woeful performance in the first two Tests…the players were in need of counselling, just like the PriceWaterhouseCoopers staff.

In case you missed it, from The Australian (19 November 2016): ‘Corporate giant PricewaterhouseCoopers has offered to counsel its staff in Australia who are worried by Donald Trump’s US election win.

As they say, ‘You can’t make this stuff up.’

Anyway, back to the Donald indirectly bumping up the repayments of indebted Aussie homebuyers. The rate rise mainly relates to fixed term — two, three and five-year — loans. Therefore, the rate increase only affects borrowers who elect to take out a fixed term loan as from last Monday. Although, UBank, a division of NAB, is bumping its variable rate up by 0.10% on 2 December 2016.

The reason for the rate rise, according to the article, is:

“The US Treasury benchmark is such a critical benchmark, not just in the US but on the global scene, that it will have a flow-on effect,” Mr North [Digital Finance Analytics] said. “It’s already having an effect in Europe, the UK with mortgage rates there.”

This is a chart of the US 10-year bond rate since 1 January 2016.

Source: MarketWatch
Click to enlarge

The vertical leap in November was the Donald effect…which has taken the 10-year rate back to where it started the year.

However, rates were already on a steady trajectory upwards since July. ‘The Donald’ was at long odds to win back then.

For the first half of 2016, long-dated rates around the world — Australia included — had been pushed lower by the negative rate policies in Japan and Europe.

In July, markets started pushing back…demanding a little more return for the risk of a potential sovereign default or restructure. Once upon a time, in a land where central bankers didn’t meddle in market operations, bonds were considered a ‘risk free return’; these days, they are referred to as ‘return free risk’. The market is trying (as much as it can against central bank bond-buying efforts) to correct the risk/reward imbalance.

Trump’s grand spending plans have the market all jittery about inflation. What I think will happen is that the spike in the 10-year rate is going to fall back in the coming months, as people start to realise Rome was not built in a day.

Nothing Donald has proposed is ‘shovel ready’. In fact, to undertake the projects (once all the plans, approvals and finances are in place), Donald is going to have to outsource a good percentage of the work to…foreign firms:

The U.S. doesn’t have the skilled labor and experience to do such a large infrastructure spend and will have to depend on Chinese and foreign firms and labor to implement the program…

Furthermore, the U.S. is at full employment and only 936K (as of October 2016) of the labor force is employed in heavy construction and civil engineering. You can’t take an unemployed banker and have him/her build a bridge or hospital.

Global Macro Monitor, 18 November 2016

All these foreign construction workers coming to town…that’ll play out well on the Mexican border!

No doubt the Democrats will have a lot of fun with the irony of all of this.

There are a lot of political and practical hurdles in the way of Donald’s proposed infrastructure spending spree.

My view remains that deflation, NOT inflation, is the biggest threat to global markets.

Some commentators are saying Trump’s proposed tax cuts and spending plans are similar in style to Reaganomics.

Take a look at this dashboard comparing the economic, financial and social statistics of 1982 (when Reagan became US President) with today.

Source: 720 Global
Click to enlarge

The only thing Trump and Reagan have in common is that they were both actors in a previous life.

Today bears no resemblance to the conditions that existed in 1982.

Interest rates had a long way to fall.

Debt levels had a long way to rise.

The share market was cheap…trading on a price-to-earnings ratio of seven times.

Baby boomers were youthful, energetic and happy to spend.

Back then, the world was in the midst of a recession; today, we are on the cusp of one.

What you’re looking at are the medical stats of a once healthy 26-year-old who has spent the past 34 years having one hell of a party.

If you believe the spin, the now 60-year-old with clogged arteries, restricted lung capacity, a bung knee and an extra 50kgs on the frame is going to be back playing professional football any day now.

Yeah right!

The economy’s glory days are behind us. We now have to deal with a sluggish, bloated system that bears no resemblance to its former self.

Debt is a drag on growth. Money that could once have been spent in the economy is being diverted to principal and interest payments.

Is the world becoming more or less indebted?

Not sure? Then go to the World Debt Clock.

The debt clock is spinning faster than a water meter attached to a burst pipe.

The debt ‘ball and chain’ attached to the economy gets heavier by the minute.

While I think long rates will pull back a little in the coming months, as deflation starts to negatively impact government budgets around the world, there are likely to be all sorts of fireworks going off in the bond market.

The risk of sovereign default — due to falling tax revenues — and downgrading of credit ratings (Australia’s AAA rating is one that’s under threat) should eventually see bond rates move higher in recognition of the increased risk of lending to governments that are technically insolvent. The bond rate increases will be from default concerns, and NOT from the fear of inflation.

Ironically, while the bond market moves rates higher, central banks (the RBA included) will be forced to push the cash rate lower…to try to stimulate demand for more debt.

Where does all that leave borrowers? In a state of uncertainty.

Banks — in need of offshore capital — will be forced to pay higher rates to access funds while, at the same time, cash rates are falling. These two will likely net each other out.

Therefore, I expect any future rate cuts will not be passed on to borrowers.

Which throws a huge spanner in the RBA’s ‘growth’ strategy…which is basically keep making money cheaper so people keep borrowing more to inflate the GDP numbers.

In the meantime, that forgotten specie, the saver, gets royally fleeced by the falling cash rate. Which, in turn, means they have less to spend, and they basically shut up shop on all but buying the necessities.

Deflation, NOT inflation, is in our future, and it’ll wreak havoc on portfolios laden with debt and so-called ‘growth’ investments.

The chronically ill 60-year-old debt junkie is getting ready to fall flat on his/her (in this gender-sensitive world) face.


Vern Gowdie,
Editor, The Gowdie Letter

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Vern is a contributing editor to Money Morning — Australia’s biggest circulation daily financial email. (To have Money Morning delivered straight to your inbox you can subscribe for free here).

Vern has been involved in financial planning since 1986. In 1999, Personal Investor magazine ranked Vern as one of Australia's Top 50 financial planners. His previous firm, Gowdie Financial Planning, was recognized in 2004, 2005, 2006 & 2007, by Independent Financial Adviser (IFA) magazine as one of the top 5 financial planning firms in Australia.

Vern has been writing his 'Big Picture' column for regional newspapers since 2005 and has been a commentator on financial matters for Prime Radio talkback. His contrarian views often place him at odds with the financial planning profession. In his leisure time Vern remains active with triathlons and pilates.

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