Global finance markets declining

[Brodiaga]

Great information, everybody. As somebody who has a decent layman's knowledge of the economy but is looking to have a much firmer grasp, how do you recommend going about this?

As for the decline in the financial markets: How do you protect yourself from this or even take advantage of it?

Nobody can time the market consistently.

If you believe that the stock prices will go down a lot, you can keep your money in cash, use CD ladders and peer to peer lending, though there will be more defaulters among p2p borrowers if there is a recession/crisis.

I am keeping most of my money in diversified index funds, mostly s&p500 with some international and alternative asset exposure. Even if there is a recession, if I don't sell them, the stock market is likely to go up on the long run resulting in long term gain even if stocks are not bought at the lowest price points. Automatic dollar cost averaging works better than active trading, at least for me.

I never short the market and would advice against doing so unless you are an experienced trader.

 

[The Beast1]

For those looking to short without true "shorting" just google "inverse etf list".

I have 200 shares of SPXS. It's a Direxion SP500 3X Bear. meaning it's triple leveraged. Don't stay in this too long as the swings are crazy.

 

[DamienCasanova]

Great information, everybody. As somebody who has a decent layman's knowledge of the economy but is looking to have a much firmer grasp, how do you recommend going about this?

As for the decline in the financial markets: How do you protect yourself from this or even take advantage of it?

Buy Gold

 

[Slim Shady]

Fed Funds hike coming. Meeting is going to take place from today to tomorrow. Investors should definitely earn about what this means for you.

 

[thoughtgypsy]

So what does this mean? Any opinions? I'll take a stab at it.

A rate hike means the cost of debt service will go up across the board. Asset prices that are heavily reliant on credit should drop, as a higher interest rate means the principal must be lower to produce the same payment amount. That should mean a drop in real estate values. Home building may be hit. The auto industry will be hit.

Stock market prices should correct, though modestly. Higher debt servicing costs mean companies must spend more of their cash flow for buy backs, which will make them less attractive. Highly leveraged companies with high PE ratios could be hit harder than others.

The carry trade will be affected. Cracks in HY bonds will start to form, and the modest yield difference won't make the added risk worth it. I think we're already seeing this.

I cashed in my stock portfolio for now. Growth has been anemic since QE4 ended, and PE ratios adjusted for stock buyback activity is close to bubble territory. Keeping cash on the sidelines for when prices are a better value. Also bought some QID (Short the Nasdaq) due to the Y2K level PEs of tech companies.

 

[samsamsam]

For those looking to short without true "shorting" just google "inverse etf list".

I have 200 shares of SPXS. It's a Direxion SP500 3X Bear. meaning it's triple leveraged. Don't stay in this too long as the swings are crazy.

To be clear, these ETFs are risk the capital you put in. That is the way I have always understood it. I don't mind losing all I bet, I would hate to be asked for more, given these potentially crazy times coming, I just want to make sure my understanding is solid. Thanks.

 

[Disco_Volante]

Wouldn't a fed funds rate hike only affect NEW debt issuances though?

I didn't think federal debt was floating rate...it has a set coupon at issuance, and the yield only changes in the secondary market between traders setting the price between eachother. When they talk about the 30 yr rate changing....that is referring to the secondary market for the debt, the coupon (interest) the government pays would be the same as it was at issuance. what am I missing?

 

[Travesty]

Curious does anyone have P2P lending experience here? Sounds shiny, don't know anyone personally with experience though.

Was the juice worth the squeeze as far as the research involved to lending the money?

How did it compared to just throwing it in a high dividend stock or a government bond?

 

[thoughtgypsy]

For those looking to short without true "shorting" just google "inverse etf list".

I have 200 shares of SPXS. It's a Direxion SP500 3X Bear. meaning it's triple leveraged. Don't stay in this too long as the swings are crazy.

To be clear, these ETFs are risk the capital you put in. That is the way I have always understood it. I don't mind losing all I bet, I would hate to be asked for more, given these potentially crazy times coming, I just want to make sure my understanding is solid. Thanks.

That is how my investment advisor explained it to me. In other words, it doesn't have unlimited risk like a typical short. (This is not investment advice).

 

[Peregrine]

For those looking to short without true "shorting" just google "inverse etf list".

I have 200 shares of SPXS. It's a Direxion SP500 3X Bear. meaning it's triple leveraged. Don't stay in this too long as the swings are crazy.

To be clear, these ETFs are risk the capital you put in. That is the way I have always understood it. I don't mind losing all I bet, I would hate to be asked for more, given these potentially crazy times coming, I just want to make sure my understanding is solid. Thanks.

That is how my investment advisor explained it to me. In other words, it doesn't have unlimited risk like a typical short. (This is not investment advice).

This is correct, because you are long the ETF. Shorts have theoretically unlimited risk because you've sold something you borrowed. You eventually have to buy it back to return it, even if it costs a floppityjillion dollars to do so.

 

[Slim Shady]

Right, you always have the risk of a short squeeze, but if you are not stock picking, but actually looking at models, perhaps looking for alpha, using alpha transfer techniques with specific sectors, use fundamental analysis/macro factors, and hedge your risks you should be fine. Well I guess shorting itself is a hedging technique.

Otherwise why not look at put options? You have to pay the option premium, but your risk is significantly reduced from the potential (unlikely) infinity to just the premium.

 

[DamienCasanova]

The Fed raised interest rates for the first time in 7 years to a whopping .25% today. Will this be a minor hiccup for a recovering market, or the straw that broke the credit camel's back?

 

[Slim Shady]

Higher Interest Rates = lower bond prices, counter-intuitively, so a great time to get into the bond market. I'm actually going to be spending the next 5 months or so writing a thesis/drawing out a portfolio on how this will actually affect investment strategies and the global economy in general. Interesting development, though obviously this was foreseen. The rising debt ceiling will compound these changes. I wonder however if a Trump Presidency will bring a stop to a lot of changes this would have otherwise brought if say Bush or Clinton were elected...

It's going to be a bad time for China and anything linked deeply to the Chinese markets however. Everybody lies, but China lies more than others.

 

[Disco_Volante]

I have to ask this again...

If federal debt is NOT floating rate, that means the interest paid on debt will be the same rate. only the Yield rate changes on the secondary market between traders as the price of the bond rises and falls. So changes in interest rates only affect new issuances, or bonds trading between people in the secondary market. the 18 trillion of government debt....the interest rate is already set for that batch.

So in essence, the price of a bond changes in the secondary market, but the original coupon rate paid by the borrower is the same. So I don't understand how the government's interest payments would rise unless the 18 trillion of debt was all floating rate..... what am I missing?

 

[samsamsam]

I have to ask this again...

If federal debt is NOT floating rate, that means the interest paid on debt will be the same rate. only the Yield rate changes on the secondary market between traders as the price of the bond rises and falls. So changes in interest rates only affect new issuances, or bonds trading between people in the secondary market. the 18 trillion of government debt....the interest rate is already set for that batch.

So in essence, the price of a bond changes in the secondary market, but the original coupon rate paid by the borrower is the same. So I don't understand how the government's interest payments would rise unless the 18 trillion of debt was all floating rate..... what am I missing?

Setting aside the floating aspect of it. Just focusing on the fixed interest bonds. I am not a bond expert.

The US government has debt at different dates of expiration/maturation. I don't know the weighting (i.e. 15% is 5 years or less, 5% is 10 years, etc.) So the government probably doesn't pay off debt it probably just refinances when a loan comes due. And that is when the interest expense pain will hit, on refinancing in a rising int rate environment.

Whatever is floating will experience immediate hits.

 

[thoughtgypsy]

I think samsamsam is right. I alluded to the implications of this in my previous post here. If you look at the graph in the post, you'll notice that as the interest rate drops, there is a corresponding expansion in equity prices over time. That is because they were able to roll over debt at lower cost, and take on additional debt to finance further growth.

For a simplified scenario, imagine a company takes out $10,000 in debt. They have enough current income to service the debt at $1,000 annually. Interest rates go down. Now the same company can not only roll over the $10,000, but let's say take on an additional $2,000 and still pay the same $1,000 in debt service costs annually. Now their debt is at $12,000 and there's no pressure to pay it off. This can go on and on as long as interest rates continue to fall.

Eventually a company can accumulate huge amounts of debt that it is forced to roll over as it matures, essentially backing it into a corner. Once the interest rate climbs, the trend reverses, and the music stops. With higher interest rates comes the expectation of contraction instead of expansion, and companies must find ways to pay down existing debt to avoid rapidly rising current expenses once their debt matures.

Much of market pricing is based on future expectations, so even though the full ramifications won't be seen until all of the debt matures, asset values will certainly fluctuate. Raising the fed funds rate also puts a floor on debt instruments, so all new credit rates will be instantly affected: bonds, mortgages, home equity, etc. At least, that's my understanding of it.

Total US debt market is over $60T. It's been expanding exponentially precisely because zero bound interest rates have permitted it. Our entire economy has been predicated on ever shrinking debt service cost to grow and pull forward future demand into the present. We've been kicking the can down the road for decades but at 0%, it can't be done any longer. Any significant rise in rates will raise debt servicing costs enormously, and disrupt the business models of entire sectors. We are in the beginning of the final act. This will not end pretty.

 

[EvanWilson]

I have to ask this again...

If federal debt is NOT floating rate, that means the interest paid on debt will be the same rate. only the Yield rate changes on the secondary market between traders as the price of the bond rises and falls. So changes in interest rates only affect new issuances, or bonds trading between people in the secondary market. the 18 trillion of government debt....the interest rate is already set for that batch.

So in essence, the price of a bond changes in the secondary market, but the original coupon rate paid by the borrower is the same. So I don't understand how the government's interest payments would rise unless the 18 trillion of debt was all floating rate..... what am I missing?

The part that you are missing is the average duration of the total debt.
http://www.investopedia.com/terms/d/duration.asp

What that means, is how long, on average is the debt committed for.

As two extreme examples: Suppose two different ways of financing the debt at opposite extremes, 30 year bonds verse 4 week T bills.

If all of the debt was financed as 30 year bonds, then changes in the fed funds rate would not matter as much, since the interest payments would be locked in for 30 years. At the end of 30 years, the bonds would have to be paid off or rolled over with new borrowing. The disadvantage of locking in such a long term rate is that the interest rate would be higher. Today a 30 year bond yields about 3%.

If the debt was financed with 4 week T bills, then the annualized interest rate would be much less, at only 0.20% annualized, meaning that if you could keep rolling over the debt at that rate, you would save 2.8% per year .

The problem with having all of the debt in 4 week T Bills is that the rate is not locked in and can change when the debt needs to be rolled over (pay off the maturing borrowing with new borrowing). That is where the problem is.

The average duration on the US debt is some where around 4 to 7 years. In the recent past the duration was down to three years. (I found that for June 2014 the average duration was 68 months, so a little over 5.5 years).

So the problem is that as interest rates rise, and the old debt has to be rolled over with new debt, the interest rate on that new debt is going up.

The interest rate on the debt is somewhere around 2.5% now and the debt is 18 trillion, so if rates keep going up, every quarter point in additional average rate is another 45 billion in interest that adds to the debt, since the United States is running in the red.

If rate went back to a more historical 5% for long rate (or higher), that would be 2.5% higher in interest and add another 450 billion in interest payments, plus whatever the budget was typically short now, would probably make the yearly deficit over $1 trillion, forever.

 

[n0000]

I have to ask this again...

If federal debt is NOT floating rate, that means the interest paid on debt will be the same rate. only the Yield rate changes on the secondary market between traders as the price of the bond rises and falls. So changes in interest rates only affect new issuances, or bonds trading between people in the secondary market. the 18 trillion of government debt....the interest rate is already set for that batch.

So in essence, the price of a bond changes in the secondary market, but the original coupon rate paid by the borrower is the same. So I don't understand how the government's interest payments would rise unless the 18 trillion of debt was all floating rate..... what am I missing?

The problem is that the majority of debt is now short term(1-3 year notes) as opposed to 30 year bonds. So there is a substantial turnover rate for the debt. If the cost to borrow were to spike to 10%, we would be completely screwed because a large % of the debt would roll over to the higher interest rate.

 

[The Beast1]

China sneezed yesterday and America got a cold.

Dow dropped around 450 points briefly. Still a red day. Will this be a sustained drop?

 

[Onto]

China sneezed yesterday and America got a cold.

Dow dropped around 450 points briefly. Still a red day. Will this be a sustained drop?

If we bounce from here to the 2025-2035 spx range then I'll take my first short position.