06/2024 - “How will the growing National Debt impact me?”
Full written article below.
“How will the growing National Debt impact me?”
This question keeps coming up from clients. It used to be just a couple clients for a number of years, you know who you are, and now it’s becoming an ever-popular question.
Why is this? Well, thankfully or unthankfully the news media has finally started covering the issue of the national debt. Any person, or country for that matter, can only spend more than they make for only so long. Something I do love seeing is how the national debt is starting to become a national issue and hopefully a presidential issue.
The US is of course no-where in the same negative financial condition as Argentina, but it does make me smile and give me hope when I see positive reports out of Argentina under their now President Milei, making sweeping reforms to reduce the size of government and get their financial house in order, AP News, Milei. As an aside, if you follow this guy, Milei, you’ll be highly entertained. Some call him brilliant while others call him wild.
It’s no surprise that that national debt in this country has risen alarmingly fast in recent years, going from 20T in 2020 to 34T in 2024 – keep in mind the overall economy has been far from a recession and has continued to grow. Yes, Covid contributed to some of this, but has been no-where most of the spending, you can thank our politicians.
Thinking of spending and politics, it truly does make me sick when thinking of the mis-guided election tactics. One in recent memory is from a Senate run-off election from 2021 in Georgia where the now current Senators likely won (or I’d call it bribed) their seats by promising direct payments if they were elected, NBC news article. Of course a major problem is the source of the direct payments, where will the money come from? It’s not like the Senators were going to use their wealth to make these direct payments, or make the payments after new jobs were created. No, the payments were going to be made from simply more debt being issued. Terrible, and of course most voting Americans are too short-sighted to realize that the direct payments today simply create more taxation for everyone later. As Johan Norberg wrote in the Capitalist Manifesto “borrowing to pay for public expenses is just a way of delaying taxation.”
But getting back to the point of the National Debt, I think we can all agree the debt in this country is growing at an unsustainable pace. Something I’ve watched for a while now is the relationship between the Interest payments on the National Debt with GDP. Just like the boarder situation has become a Presidential topic, my guess is the National Debt will soon be a Presidential topic.
For years I thought the debt level was so high that it would require changes, well, that certainly hasn’t happened. I don’t believe anyone has the correct forecast as to when that may happen. This is especially confusing to me as the interest on the National Debt is already greater than spending on Defense and most Entitlement programs. Source: Peterson Foundation
I would guess that one of the first signs of the debt being too high would be that other countries would start demanding higher interest rates to offset the risk of such a high debt load, but again, that hasn’t happened yet.
So how do we change our investment allocation or selection because of higher National Debt levels? As long as we do our research on the front-end, thankfully, we don’t have to navigate much of this space as the companies we own are tasked with navigating this space for us. And if they don’t navigate better than their peers, then at some point these companies will cease to exist in our portfolios.
Don’t think I’m right with stating that the companies we own must navigate this space for us? Let’s just look at the two most recent major recessions.
Financial Recession of 2007-2009 - the overall markets dropped about 50%. The S&P 500 index was close to 750. Some companies navigated this space well and are typically much more profitable than they were before. However, companies like Sears Holdings, RadioShack, and Blockbuster were all hit, just as hard as other companies, but didn’t shift with the times and are now either bankrupt or likely close to it. The S&P 500 is now trading close to 5,200.
Covid-19 Recession of 2020 – the overall markets dropped about 30% in about 30 days. The S&P 500 was close to trading at 2,237. Again, some companies navigated the “stay home” guidance better than others. Think about the popularity of the Peloton brand, it took off like a rocket-ship rising from about $20 dollars to about $162 dollars in about 9 months. But look at Peloton stock today and it’s trading at a paltry $3 a share. On the other hand, I’m reminded about Netflix, who saw their subscriber count increase steadily from before Covid to present.
The companies that profited most during these economic downturns were the companies that worked with and through and around the challenges presented to transform their business in a positive way. This is the beauty of investing in what I would consider to be some of the best run businesses in the world.
So as we think about the National Debt, yes, “This time is different.” But then I’d argue that every negative financial event has been different, think Covid, Financial Recession, Dot-com bust, 9/11, and others. The current event is always different, but the historic market response has been similar.
From my view, this is part of the beauty of a free market which can grow, react, and change to ever-moving market conditions.
As always, if you’ve like to discuss more, don’t hesitate to call or email.
Additional Data: Each month I get asked by clients what additional resources I’m looking at. Please hear me in stating I’m not trying to predict anything whatsoever, just some of the interesting data I’m watching.
- Stocks versus Bonds – Every few years a researcher named Jeremy Siegel updates his classic investing book titled Stocks for the Long Run and each time it’s updated I make a point to read the 400+ page textbook. This referenced article shares two very powerful charts showing the long-term relationship between Stocks and Bonds. The statistic that surprises most is the 10 year mark where historically stocks have outperformed bonds in both good and bad times.
There’s no guarantee with investing, but looking at historical information shows that the longer you invest in the broad stock market, the greater your odds in out-performing Bonds and T-Bills.
Longer holding period has historically resulted in lower volatility
- Keeping Ahead of Inflation – In this wonderful article by FirstTrust, Bob Carey outlines the power of how dividends have historically out-paced inflation 5.78% to 3.13%
- Presidential Election Concerns? – How will your investments perform with this or that President? A very normal and well-founded question. For anyone who has even had a hint of this question in their mind. Please do yourself a favor, take 5 minutes right now and read this short but effective article from JP Morgan.
- Federal Debt as Percentage of GDP – I think all of us will agree that Debt in this country is a problem, it’s been a problem and it’s a growing problem. This chart by the Federal Reserve puts the debt payments in reference to GDP. Helpful to put this in perspective.
- Trillions in Money Markets – At it’s highest level every reported, there’s 6.3T in money market funds, up from 6.1T last month. In the investing market, this is called “Dry Powder.” These are dollars enjoying higher levels of interest than in years past. But ask yourself, what do you think will happen when/if the Federal reserve starts to cut interest rates and banks start paying less in interest on these accounts? Do you really think people will just continue to hold their funds with less interest, or do you think they’ll look for other alternatives to make money? My guess is assuming interest rates come down, these people will start to move some of these funds back into the broader market. So what do you think would likely happen to market prices if this does occur?
- Breakeven Inflation Rate - 5-Year Breakeven inflation rate is now 2.34%. When you study this chart, you’ll see it goes back to 2004. Gosh darn close to the long-term average.
- Federal Reserve Balance sheet – For months the Fed was following through on it’s statement made in May 2022 of reducing the balance sheet by 47.5 billion per month in months June-Aug 2022, then reducing the balance sheet by 95 billion per month. But, just recently, you’ll see the balance sheet spike up by 300 billion with the new bank lending program but then a quick reversal. We’re now down to March 2021 levels and declining.
Market Truths
1. The Stock Market cannot be consistently known or timed
2. The Economy (as you define it) cannot be consistently known or timed
3. Over the past 100 years, the market has returned 10.45% (with dividends reinvested). It’d be difficult for someone to achieve this return if they did not simply stay invested. Data Source
4. The average intra-year market decline is about 14% and the market drops 15% or more every 3 years. J.P. Morgan | American Funds
5. Investing in equities has historically been volatile, my guess is it always will be, however when you consider equities (using the S&P 500 as a proxy), Real Estate, short-term bonds and corporate bonds, over the long-term, equities continue to be the historical winner. To crystallize this point, just look for yourself NYU.edu.
Market Beliefs
1. Because the future cannot be known, we must embrace the belief that the world isn’t going to end during our lifetimes, and if it does, our money doesn’t matter
2. The world has continued to advance, since well before Jesus walked the earth, so assuming the world doesn’t end, it’s rational to believe the world will continue to advance
In closing: We of course cannot control what the market does from here and we cannot predict when the next market downturn will occur. But we can control our behavior to these outside events and continue to stick with our long-term investment strategy.
As always, if you have any questions/concerns please contact me.
David Hobbs, CFP®
Wealth Advisor | Owner
Hobbs Wealth Management
Standard & Poor’s 500 (S&P 500) - a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy.
Russell 2000 – The index measures the performance of the small-cap segment of the US equity universe. It is a subset of the Russell 3000 and includes approximately 2000 of the smallest securities based on a combination of their market cap and current index membership.
MSCI ACWI ex USA – The index measures the performance of the large and mid-cap segments of the particular regions, excluding USA equity securities, including developed and emerging market. It is free float-adjusted market-capitalization weighted.
Federal Funds Rate - refers to the target interest rate set by the Federal Open Market Committee (FOMC). This target is the rate at which commercial banks borrow and lend their excess reserves to each other overnight.
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