Monday, December 14, 2020

We're richer than ever

Every time the stock market reaches new highs, the worrywarts trot out their bubble theories. That is especially true today, since "everyone knows" that central banks all over the world have been pumping money by the kiloton. Surely the stock market this time is inflated, and it wouldn't take much to pop this bubble, right? 

In my 40 years as an investor I have lived though four equity market disasters which were invariably termed popped bubbles by many pundits. The most recent—which began last March—was burst by the Global Pandemic Shutdown. Prior to that we had the onset of the Great Recession in 2008, which left the entire world financially and economically devastated by early 2009. Prior to that we had the bursting of the dot-com bubble in 2001-2002. My first popped bubble came in 1987, when I worked at Leland O'Brien Rubenstein (LOR), which many accused of precipitating the bursting (LOR invented "portfolio insurance"). 

Are we getting close to the next popped bubble? I wish I knew. But I don't think it's obvious or inevitable, at least for awhile. The best I can do is to survey the charts which follow, since they help to put the current situation in perspective. What I think they show is that over the long march of financial history, things just get better and better. The occasional bubbles are painful, but they are eventually overcome, thanks to the engines of free markets, free trade, and the incentives of capitalism. And while monetary policy has never been as "easy" as it is today, other important measures of financial and economic well-being are not out of line with what we have seen in my lifetime.

Despite all the huge ups and downs, the average person today is richer than ever before. And he or she will likely be even richer before too long—it has been ever thus. This is the fundamental case for being a long-term, rational optimist. 

Chart #1

Chart #1 shows the key components of the net worth of U.S. households and non-profit organizations (total assets minus total liabilities). Most of the increase since the Great Recession has been healthy: financial assets have soared, while real estate and debt have increased moderately. This has not been a debt-fueled expansion like we saw in the runup to 2008.

Chart #2

Households' balance sheets have improved dramatically since 2008, as shown in Chart #2, thanks to the fact that financial asset valuations have improved by much more than the increase in debt. Households' leverage (total debt as a percent of total assets) has dropped by almost 38% since 2008, and it has not been this low since late 1983. Without excessive leverage in the system, the system becomes inherently more stable.

Chart #3
Our government's net worth has taken a beating, thanks to the federal government borrowing just over $4 trillion this past year. Total federal debt owed to the public now slightly exceeds our GDP for the first time since WW II (see Chart #3). Doesn't this just offset the declining leverage of the household sector? Not exactly.

Chart #4

Federal debt is huge, but that is not as bad as you might think, thanks to the extremely low level of Treasury yields. As Chart #4 shows, the true burden of the federal debt (debt service costs as a percent of GDP, which is equivalent to the debt burden of your household, which is debt service payments as a percent of your annual income) is historically quite low. Federal debt ratios have increased, but the debt burden has decreased; interest costs have fallen even as total debt has increased. Federal debt burdens could become problematical in the future, but only after years of rising interest rates and continued borrowings.

Chart #5

Meanwhile, the real, inflation-adjusted net worth of the private sector (see Chart #5) has been steadily increasing. The nominal and real net worth of the U.S. private sector is at its highest level ever. As the chart also suggests, real net worth tends to increase by about 3.6% on average over time. That is extraordinary. Yes, there have been huge setbacks along the way, but in the end, things continue to improve. This chart also suggests that conditions today are not out of line with historical experience. As least they are not nearly as bad as the period just prior to the Great Recession.

Chart #6

To be fair, the growth of the U.S. population and its workforce accounts for some portion of our increased net worth. Chart #6 addresses that issue. It is the result of dividing the statistics in Chart #5 by the size of the US population. The chart suggests that the average person in the U.S. has a net worth of about $370K, which is about six times our per capita income. To be sure, there are lots of billionaires which are likely distorting these numbers, but what really counts is the aggregate wealth of our country, since that wealth is a function of all the roads, bridges, trucks, stores, houses, factories, corporations, knowledge, computers and personal services that are available to each and every one of us. On this basis also it's clear that things have never been so good. Never before has the average person enjoyed the benefits of such an elaborate infrastructure we have today.

Chart #7

Chart #7 shows the long-term view of the progress of U.S. corporations, as proxied by the S&P 500 index. Here we see that the nominal value of our major corporations has increased by about 7% per year on average. Nominal net worth per capita has increased by almost 6% over the same period. Corporate wealth has likely outpaced individual wealth because globalization has allowed our corporations to expand their market share worldwide. Caveat: take all trend-line projections such as this with a grain of salt; they have a large subjective content. 

Chart #8

Chart #8 shows the nominal value of global equities, which, since 2004, has increased by almost 8% per year and now stands at a lofty, all-time high of $100 trillion, according to Bloomberg. (Note that this calculation is based on actively traded primary securities, which means that ETFs and ADRs are excluded in order to avoid double-counting.)

Chart #9

Chart #9 compares the market cap of US and Non-US equities. US equity valuations have improved by far more than non-US equities since the Great Recession, but non-US equities have slightly outperformed for the whole period. 

Friday, December 11, 2020

"Texas or Bust"

Here's another cartoon from my friend Hector Cademartori. It's a sorry commentary on California's one-party system which seems hell-bent on curbing pollution and eliminating bumper-to-bumper traffic by making the state a bad place to do business.

         (click to enlarge)

Virtually everyone we know here in California admits to at least one time considering a move to another state.