The various news feeds and sources of financial commentary I follow are becoming increasingly vocal about the rising risk of global debt. Starting in early 2018, commentators have been warning that global debt levels are spiraling out of control, possibly leading to a repeat of the 2007/8 financial crisis.
Global debt levels are at historic highs and central banks around the world are unwinding their enormous balance sheets and reducing liquidity. After so many years of cheap credit, financial debt ratios are signalling red across the board. In the US, corporate debt has reached nearly 50% of GDP. In China, total debt has reached nearly 300% of GDP. Reported at $84 trillion in the year 2000, global debt levels reached $173 trillion in 2008 and nearly $250 trillion today!
When interest rates are low, credit is cheap. People load up on credit card debt, companies extend their lines of credit, investors borrow to fund new deals and it all seems so very, very affordable. But what happens when interest rates start to rise?
I can’t see any other way to view this than to define our current global economic system as being firmly in a debt bubble. Sometime around the second world war we began to borrow from tomorrow to pay for today’s spending and we never really stopped.
Rather than home loans causing the issue, this time, I think it’s going to be corporate debt. It’s reached an all-time high but with many companies suffering a slowdown in earnings and margin growth, they’re likely to suffer as interest rates start to rise.
The US government is another major issuer of debt. Did you know that the US Government will soon be paying more on servicing its debt than it down on defence? (And believe me, that’s not a small bill!).
Of course, suggest that anyone trim the budget and all kinds of geniuses spring up to argue that we’re not spending enough! We need more police, more schools, more roads, more government! Forget the fact that we’re burying ourselves alive, just keep spending!
What are the Big Boys doing?
Recognising that I’m usually able to improve my investing strategy by watching and speaking to other investors, I regularly review the actions of central banks, large hedge funds and global investing gurus to see what snippets of investing wisdom I can glean. One of the more recent sources I added to my watch list is the World Gold Council, or WGC.
The WGC is the market develop organisation for the gold industry, provide insight into global gold flows as well as thought leadership on gold as an investment commodity. Among their publications is the Gold Trend Report, a quarterly publication that provides a market update on buying and selling of gold. A report from September 2018 shows that Central Banks added 193 tonnes of gold to their reserves in the first half of 2018, which is the strongest half year result in 2015.
Central banks aren’t the only large market players increasing their gold holdings. Major hedge funds and investment funds like RIT Investment Trust also represent significant buying power in the market (interestingly, RIT Investment Trust is chaired by Lord Rothschild and has also been increasingly their exposure to gold).
Traditionally, gold is seen as a hedge against risk and a safe store of wealth in times of market turbulence. The fact that major institutions are increasing their holdings indicates that they’re looking to minimise their downside risk from upcoming events.
Research indicates that recessions occur about every 10 years, on average. As the last one was 2007/8, that means we’re about ‘due’ for another one. The build-up of debt is a good indicator that things are reaching a boiling point, and the continuing volatility in the markets is a good indicator that investors are increasingly nervous.
My belief in equities as a long-term source of wealth creation and preservation remains unchanged. By seeking opportunities to invest in strong companies at good valuations, combined with positive cash flows and sensible asset diversification builds a ‘margin of safety’ over the long-term.
Although I continue to watch the geo-political situation with some concern, I am fundamentally an optimist – life today is better than it was 100 years ago, and I believe that trend will continue throughout my lifetime.