Bond yields have been rising fast and suddenly, investors are starting to worry they’ll go higher for longer than the market has been expecting. Is the long US Treasury trade too risky now? Or is this presenting an attractive buying opportunity?
Transcript
John Llodra 0:00
While we think there’s still some some downside risks, we think that the balance is that we have probably sold off sufficiently in the near term here that we could see a very, you know, meaningful bounce. Even if the longer term picture for Treasury bonds we think is pretty, pretty murky given the fiscal situation.
Adam Taggart 0:21
Welcome to Wealthion. I’m Wealthion founder Adam Taggart, welcoming you back at the end of a week here with a team from new harbor financial one of the endorsed financial advisory firms by Wealthion. We had a lot to talk about this week, both in terms of what the markets have been up to, as well as reacting to some of the recent excellent interviews that have appeared on this channel joined, as usual by Mike Preston and John Llodra. Hi, guys, why don’t we jump right in. I’ve been seeing a lot of you guys this week, we just recorded a few days ago, the live q&a With all of our financial advisors. Thanks for participating in that guy’s great discussion. Folks, if you haven’t seen that, it’s a great opportunity to see what you know, a collection of different financial advisors. Think about the current environment we’re in and how they’re allocating capital. There’s a lot of agreement amongst our panoply of experts there. But they’re also some important disagreements and how they see the world. And so if you didn’t watch that q&a, folks, I highly recommend you do it and maybe consider participating in our next monthly live q&a, you can actually ask your questions directly and have our team of experts answer them, guys, so a lot going on here. We talked a lot about in the, in the monthly q&a, about rising bond yields, that there’s suddenly been this narrative of, well, bond yields can’t possibly go any higher, because the Feds going to pivot, right. And then all of a sudden, everybody has sort of shifted to the other side of the boat, oh, my gosh, yields are high, and they’re going even higher. Oh, my God, who wants to be in a long bond at this time? Bonds are a deathtrap. It’s really funny to me how quickly that narrative just kind of sprung out of almost nowhere. Now, I mean, granted, yields have been going up. But there’s just so much confidence in the market, that the Fed was going to pivot and that interest rates were on their way back down. Now, all of a sudden that said, confidence seemed to be getting shattered here. So talk a lot about that in the the monthly q&a. Like I said, I do want to pull a few strings on that with you guys. The day we’re talking here. Yields are down a bit, but we’re still at 4.2 on the 10 year treasury. John, why don’t we kick things off with you in terms of, you know, just What’s your general reaction to this? Do you think the market’s concerns here are valid? You know, I just saw an article the other day Bloomberg saying that the federal funds rate may need to go as high as 6%. Now, so have you guys sort of is this causing you to lose any confidence in your US Treasury trade? Because I know you guys are invested in long dated US Treasuries? Or do you think this is, you know, a bit of a smokescreen, bit of emotions running high, and the bond trade is still intact?
John Llodra 3:02
Yeah, I guess we think we need to kind of parse a couple of nuances as relates to the interest rate market. And I think unfortunately, a lot of times, these get conflated by the news media and whatnot, when we talk about the Federal Reserve, and what they are doing in terms of rate increases or pauses or possible pivots and decreases, that really only directly speaks to what’s called the federal funds rate. And it’s really just the short term benchmark rate that directly affects things like short term treasury bills, some short term money, markets, things like that, when we talk about longer term treasury bonds, that is less directly impacted or driven by what the Fed does with the federal funds rate, and one need only look at the the massive yield curve inversion that has existed over the last year, where longer term rates were lower than short term rates to see that that’s those two ends of the curve are not directly linked to each other in effect, the Fed can’t directly, at least in the short term interest rate markets affect long term rates. What is more affecting long term rates are things like well, certainly QE affected when they were actually buying long term bonds and now they’re in the in the mode of selling down some of their their massive bond portfolio, quantitative tightening. So that certainly can have a an impact on the longer end of the curve. And that’s probably one factor among several that has has given some tailwinds to the rise in longer term bond yields. And we’ve talked about other factors there. The tweaking of the Japanese yield curve control, these are tech tectonic shifts between major economies and central banks kind of fighting each other if you will, for for currency, you know, moves and liquidity moves. You know, the massive increase in issuance by the Treasury to fund the deficits these are all things that have can can we can point to approximate as The reason we are catalysts for perhaps the recent rise in longer term rates, we think we’re getting towards the the kind of extreme, they’re in the short term Anyways, on those those longer term rates, as you pointed out, today, as we’re talking the 10 year treasury bond is at about 4.2%. Yesterday, it was closer to 4.3. And almost to 4.4, the day before that, so we’ve seen a little little coming off of long term yields over the last few days here. But it’s not a reasonable thing to think that those even in the short term that those longer term treasury bond rates could go to say four and a half on the 10 year, or maybe even five and an extreme and that there’s a lot of there are a lot of kind of competing factors here that drive that. But we think the more likely path over the near term here is even if we do move higher in yields, in you know, kind of marginally towards four and a half or even five, we think and we agree with many of the guests you’ve had, and I know you had an interview with Daniel DiMartino. Booth, we think they’re still very much a recessionary type stays in the cards. See a lot of the data that points to that. And even just looking at, I’ve got one chart, maybe I can share here just to kind of look at that if you can enable my screen sharing. This chart here basically shows the spread between 10 year and three month treasuries. And so that’s that’s the blue line, basically, it’s the tenure rate minus the three three month rate. And you can see anytime that that blue line goes below 0% here, it means the curve is inverted, meaning the longer term Treasury rates are lower than the short term rates. And it’s not random coincidence that if you look all this, throughout this history, this goes back to 1980 or so every time there’s been an inversion like that. And then subsequently, a steepening of the curve and in other words that they were inversion gets less inverted and effects at some point becomes an inverted that without fail within some fairly tight lag has ushered in not only recessions, which are denoted here in the gray gray bars, but also some major tops in the stock market. And that’s what this orange line, this is the s&p 500 plotted on a exponential or logarithmic, logarithmic basis. But as you can see, boom, peak here, right after this. This this is the I’m sorry, right here, the the COVID sell off right after the curve, inverted recession, however brief that was, right here, right before the housing boss, we had a steepening and ultimately an inversion big, big peak there in the market right here in the in the tech bubble. Technically, the stock sell off started before the curve started to steep. And so that was more of a little bit of advancement. But you know, we can go back through history and see that so it really matters how the curve steepens though, what we’ve seen thus far is what market analysts might call a bear steepening where the steepening is happening because the longer and rates are rising relative to the short end rates. Contrast that with with a bull steepen, or where the curve steepens because the short term rates are being driven lower by the Fed. Regardless, this steepening effect has historically, especially when valuations are as over inflated as they are and where the recessionary signals are, are almost the almost seeming inevitable. It’s been a very bad time to be in the stock market. But ultimately, the bond market tends to do very well in the short term. So we think the longer term treasury bonds are very sound risk reward, there’s certainly risks and we have hedges on. In fact, we’ve cut our position in half effectively by hedges. While we think there’s still some some downside risks, we think that the balance is that we have probably sold off sufficiently in the near term here that we could see a very, you know, meaningful bounce. Even if the longer term picture for Treasury bonds, we think is pretty, pretty murky, given the fiscal situation. And you know, basically the last 40 years, we had nothing but declining long term interest rates, we think the next 1020 years aren’t aren’t gonna look anything like that. So it’s gonna be much more challenging bond market. And just I’ll just find out make one final comment in kind of reference to that. I just saw a chart this morning showing globally the recent rise in yields and almost most of the dramatic rise in yields has been in developed markets economies like here in the US and developed Europe and whereas the rise in interest rates and in emerging market government bonds has been Much more muted. And that speaks to perhaps that, you know, what was once considered very much healthier fiscal situations in developed markets really starting to look more shaky in some ways than even some developed markets. So a lot of kind of points there. But I guess I’ll stop there. And we can probably launch off some, some topics there.
Adam Taggart 10:20
Okay. And just want to note on that chart, right, we showed how the yield curve starts and inverting right before a recession. In fact, it’s got a perfect track record in a data series you showed, that’s folks, that’s why people pay so much attention to these inverted yield curves is because they’re just such a predictable forecasting tool for recessions. And I want to share my screen here. Okay, so this article here, it’s on Yahoo, finance, title, Professor behind recession indicator with a perfect track record, says it remains way too early to call off a US economic downturn. So this is citing the work of Duke professor and Canadian economist, Campbell, Harvey, who’s done a lot of work on the correlation between inverted yield curves and recessions. So, basically, what he says here is, the longer we go without a recession, after the inversion, people start to doubt the indicator, which is fine, Harvey said, I characterize it as a low before the storm. So you know, this is a guy with a tremendous amount of expertise in this indicator that the world is has been fixated on, as we’ve covered on this channel, John, several times. Coming into this year, everybody was concerned about a recession happening in early 2023, for a whole bunch of reasons. But certainly the inverted yield curves was a big reason why, as the years progressed, and the stock market rallied. And the recession didn’t show up. You know, we saw the narrative go from Okay, well, maybe we’re not going to have a hard landing, maybe we’re gonna have a soft landing. And then in the past couple of months, that’s morphed into a oh, we’re probably going to have a no landing, right? Hey, that recession indicator probably doesn’t matter anymore. And you know, things are different this time. And I think we dodged that bullet, and it’s sunny skies ahead. Right. This is exactly what Harvey’s talking about in his article here, which is, when it takes a while it does take a while from when the curve inverts. Until the recession arrives, in fact, it generally it’s the onion version of the curve, that is a more of a time signaling mark that says, okay, the recession clock is now started. So, you know, he says, Look, you know, Human nature being what it is, people get complacent. And they start to think, you know, it’s maybe not going to materialize. So he said, you know, this, this hope for a no landing scenario, is actually what we would expect from history, because people just, they get tired of waiting, and then hope creeps in. And, you know, it’s off to the races. And, of course, as he says, that’s the calm before the storm. And sadly, what people do during that time, as they jettison their concerns, they start piling back into the market, they start going further out the risk curve. And then when the recession arrives, you know, people have made themselves vulnerable to the damage that the recession can cause to their portfolio. So that’s one of the things that we’re trying to keep people focused on by zeroing in on this data here. So, John, just a couple quick questions for you on two things you said, and then Mike will come to you. The yield curve can uninvent in one of two ways. So you basically said, look, the Fed really only controls the short end of the yield curve, right with the Fed Funds, right. So you know, it’s only the instruments that are, you know, maybe a year out or whatever, where it can really influence yields for for bills that are that short, the further you go out, it’s really the bond market that is setting the yields. And the bond market doesn’t always agree with what the Fed thinks yield should be. And of course, an inverted yield curve is a great example of that. Now, the markets I think, have been expecting, the yield curve is going to invert or an invert by the Fed pivoting and bringing short term yields down. That’s one way that it can and invert. The other way is that the bond market can say, you know, you know what, we were changing our mind, we don’t think the Fed is necessarily going to pivot. We think there’s more risk in the system now. And we’re going to start raising yields in the long end. And that’s kind of what’s been happening of light, which is why I think people are beginning to panic, you would have two pretty different outcomes depending upon the way that these curves and invert right I mean, if if if it inverts because the Fed is bringing rates back down again. Then we would expect kind of a common playbook of long dated bonds to increase in price. Probably all asset prices eventually would catch a bid after some period of time. If instead the Fed were to keep rates high and the bond market would go up to meet it. That’s actually a pretty painful world that we don’t have a lot of lived experience in. Is that correct?
John Llodra 15:07
Yes. And that’s it. That’s why it’s called a bear steepening. When that dynamic happens, the long end does the the steepening, not the short end coming off. And that’s why it’s been painful for bonds in this in this recent rise in interest rates, it bonds have sold off pretty pretty heavily as we’ve talked about
Adam Taggart 15:24
it. So sorry, sorry to interrupt, but it’s not just going to be painful for bonds, that be the case, well, that that higher cost of capital bleeds into everything and ends up being painful for everyone. Correct? Yeah,
John Llodra 15:34
in fact, I mean, that’s one of the big, you know, kind of dilemmas or bathroom, instead we have is how unaffected the stock market has been by this. Because basically, we think about, for example, tech stocks, which have been the lion’s share of the gains in this market, especially ones that don’t pay dividends, and maybe their prices are being justified by future earnings, not not present earnings growth, you know, basically the future. In effect, those are like really, really long duration bonds. You can think about duration in the stock market as well. And those kinds of techie growth stocks that are being valued on some pie in the sky, big, big earnings off in the sunset, they should be getting hammered by these higher rates. But I guess it just takes a story about AI and, and, you know, rainbows and beliefs to be, at least in the short term counter that
Adam Taggart 16:27
everyone’s drunk
John Llodra 16:28
this week, you know, we’re talking today on the day that I guess, the video reports so that that’s a obviously a headline stock that has been really puzzling for a lot of a lot of people in terms of the valuations, that it’s still commanding.
Adam Taggart 16:44
Okay. All right. And then one other thing you quickly mentioned was the impact of Japan’s yield control, yield curve control efforts here, and how that’s impacting rates here in the US or yields here in the US? Can you just explain how for the folks that aren’t aware of of the mechanism for how what Japan does impacts us yields?
John Llodra 17:07
Yeah, and this, this also speaks to how the Fed is central banks in general. But the Fed as well could influence longer term yields, not through federal funds rate moves, and increases or drops, but their act of buying or selling of bonds in the open market. And that’s, in fact, what QE was, they print printed money out of thin air trillions and went out and bought with printed money, these bonds, that’s what drove the long term rates, the 10 year yield got as low as point 4%, I think in the heat of the COVID sell off. Some of that, of course, was panic, buying not not necessarily the Fed. But now that the Fed is is selling off some of its assets, it’s actually having a you know, kind of a tight so even if the Fed pivoted and started lowering short term rates at some point, and they simultaneously kept on selling off longer term bonds for the repo those, those two policies in parallel could could be moving the needle in opposite directions, but at different ends of the curve. So it’s a very, and what Japan is doing, they basically said, their long, their policy had been up until about a month ago, that we’re gonna we’re gonna go in and defend or buy Japanese government bonds to keep the yield on those bonds, at no more than half a percent 50 basis points, they came out and again, about a month, month ago said, you know, what, we’re gonna, we’re gonna have some flexibility, we’re gonna let that, you know, didn’t say we’re gonna, we’re gonna necessarily let it go as high as 1%. But they will have the discretion to do so. So right off the bat, a Japanese bond yielding 50 basis points higher on a relative basis is going to take some demand away from from US Treasuries, right, relative to if the yield was capped at half a percent. So it’s all about the comparative yields and the moves in the currencies. So on a, you know, you know, kind of all things, all else being equal basis arise in a foreign governments, like Japan’s government bonds in the yields, and those is going to be incrementally more attractive than the status quo had been. Alright, relative to US Treasuries.
Adam Taggart 19:15
Got it. Okay. So basically, Japan just made the deal a bit sweeter on JGBs. And so therefore, some of the money that otherwise might go to buy treasuries is migrating over to Japan instead.
John Llodra 19:27
Exactly. And it’s all complications with carriage. It’s very interconnected system. It’s not quite, you know, you know, one to one kind of mechanisms here. They’re very, very complex.
Adam Taggart 19:37
Okay. All right. So, Mike, thanks for being patient coming over to you now. So, we had a conversation just recently on the channel with Daniel DiMartino. Booth, who, you know, basically her outlook was, I think the term she used was perfect storm. Is that, you know, we’re gonna see a lot of shoes dropping in the second half of two 23 here and maybe bleeding into the first half of 24 that she thinks makes a recession sort of, you know, almost unavoidable. And I want to get into that territory with you in a second. I just want to sort of make the bridge from what I’ve been talking about with John to that conversation with, I interviewed Luke Roman, that interview hasn’t hit yet. It’s gonna hit next week. But Luke is actually he’s on team. I don’t want to be in long term, long duration bonds. And in his mind, he said, Look, there’s there’s four destabilizing events that recently happened, one, the price of oil has risen by 20% plus to the Bank of Japan is just changed the game a bit with shield curve control in the way that John just described. Three, the US credit rating got get downgraded, which we’ve already talked about in previous videos. And then fourth, the US Treasury has announced it’s going to have to borrow almost $2 trillion in the second half of this year, which is going to dramatically increase the supply of US Treasuries. And so he’s basically saying, Hey, these are all the reasons why bond investors are now saying, Well, I’m less excited to hold on to a long term, bond and don’t want to be if I am, I want to be compensated with a higher yield for it. So he believes that yields are going to keep going higher. And then he’s got a bunch of of sort of macro reasons why he thinks over the next bunch of years, the pressure is going to be to keep yields going even higher still. So he’s basically saying, I really don’t want to be in these long term bonds, don’t have to say that you have to agree with him. But you know, at least the factors that he just lifted off, there are real facts. So is a hand the baton to you. Anything you want to say in addition to what John and I have said about about the bond situation? And then I’d love to get your reaction to what Danielle had to forecast there.
Mike Preston 21:54
Yeah, a couple of comments. You know, Luke points out some very good points. And all of these things are real facts, but many of them are going to have short lasting effects, not necessarily long lasting effects, there’s a lot of different things that can be positive for the bond market, particularly the long term bond market. And I should, I should probably pause and say that we don’t want to be in long term bonds for a long period of time, either. I think that the bond yields are likely to go higher in the long run, it’s really the now to two years from now that we’re most interested in. In bonds, bonds have had a wicked sell off. And a lot of the reasons that you talked about are the reasons why but in our opinion, the, you know, the current prices of bonds, if you look at TLT, for instance, has lost nearly half its value in the last year more than account for all of these factors. And there’s a lot of different things that can happen to bonds that could be good, the on inversion of the yield curve could happen in such a way that the 10 year goes from, from 4.2 to three, and you know, the short end goes back down to one, I think that we’re taking it as a given that short yields are going to stay at 5.2%. Forever, that’s not very likely, an inversion of the yield curve can happen. And it can happen in such a way that long bonds actually benefit. And also a big drop in the market or a, you know, economic crisis is in our opinion, it’s going to cause money to flow into the long end to try to nail down those long term rates. And so, you know, the sell off in bonds has been pretty drastic, and we think, really overdone. It doesn’t mean it can’t get worse. We presently have hedges in like John just said, to make sure that our clients can can handle it if it gets worse. But we wouldn’t be surprised to see your bonds rally sharply in the next year to two, you know, TLT, which is, you know, a proxy for the long bond market. It’s having a nice day today. It’s up around almost 95 and got as low as 92. In what I think is a second panic sell off, kind of an echo capitulation to what we saw last. Last fall last October could could go back to 120 to 140. If we see rates come down in this yield curve, on Invert, certainly it will help if the s&p gets a long overdue sell off as well. So those are all the reasons we’re in that trade and you do get paid to wait nearly 4% at current prices, current income. So you know, there’s a lot of talk about bonds, a lot of talking about interest rates, this seems to be the hot topic these days. That’s usually when a turn at least a short term. Turn is at hand when everyone’s focused on this. So that’s probably I think we probably said enough about bonds autonomy. Talk to what Danielle DiMartino booth said for a moment you guys have already covered a lot of it. She says this is the closest to recession that she thinks we’ve been since 2008 2009. And this time there’s probably no zero interest rate policy to help doesn’t mean the Fed won’t try mean the Fed Certainly, we’ll go back to quantitative easing. If we have a big market crash or an economic contraction, the big question is, will it matter? You know, we talk to people all day long. And almost invariably the question is, well, can’t the Fed just do this forever? Won’t they just return to zero interest rate policy, they’ll probably try. But each of the times in the last 20 years, the markets have had big downturns. And the Fed has, you know, cut rates and went to easing the market tumbled anyway. And I think the worst thing that could happen, the scariest thing that could happen is that we have a market tumble, the Fed pivots and reverts to printing money, quantitative easing, and after maybe a brief bounce in the market, the market continues to collapse. Anyway, that would be I think, a real, the emperor has no clothes moment. And that would be a really scary time. And that’s, in fact, what I think is likely to happen. So, you know, we’ll see. And, you know, we’re still in this period of time, post COVID, were $7 trillion was released directly to consumers. They spent it all they gambled on meme stocks, they bought options, you just did a, an interview with another gentleman, I’m sorry, I can’t remember his name. But he talked a lot about the options market and how the retail trader got into the options market for the first time. Well, that’s still exist, but it’s not going to last much longer. That was direct money into people’s hands. We talked about fiscal stimulus this year. And you know, the Fed borrow the Treasury borrowing and other 1.9 trillion that has maybe forestall the recession, but uh, won’t have the lasting effects of this direct to consumer money that Danielle talked about. And, you know, just to wrap up with with the things she talked about, she taught you and she talked a lot about the paycheck Protection Program, and how that put a lot of money into the into the economy and had a lot of abuse attached to it as well. And then how the the ERC, the employee retention credit continues to, to put money directly into the highest income earners, most of the money from those programs went to the top 20%. In terms of income earners and wealth holders, you know, those people do buy a lot of luxury goods and spend a lot of money. Daniel points out how ERC is probably going to end. And that’s going to have a negative impact on the economy and the markets also away,
Adam Taggart 27:23
right, right around the same time that student loan repayments are going back into Exactly,
Mike Preston 27:29
exactly. And she points out that inflation is coming down is probably going to keep coming down. We agree with that. And lastly, she wraps up with some things that she does, like she talked a little bit about treasuries being mildly positive. But she really talked Well, she also talked about municipal bonds. Look, if treasuries rally municipals will rally as well. So we can’t disagree with that. But really, her biggest message was, sit on the sidelines, don’t be afraid to sit on the sidelines, take an 18 month vacation. We agree with that. Right now we’re
Adam Taggart 28:05
in not not necessarily cash but in cash and instruments like T bills or money market funds, where you’re getting paid five plus percent to sit and safety.
Mike Preston 28:14
Absolutely. I mean, you know, the yield curve on the front end is very flat, three month t bills as 5.26 month t bills, 5.22 year treasury bonds or 5%. With a good chunk of money, yeah, get it, particularly if you’re over invested, particularly if you’re sitting in a 6040 You know, never touch it portfolio, take a chunk of that out, get down to below 30% equities. For instance, don’t worry so much about selling the high quality long bonds that you have at present, because those are probably actually going to get a pretty good bounce, but particularly within the equity space, which is ridiculously overvalued still, you reduce that and take a chunk of that cash, put it in US Treasuries up to two years, I’d say sit back and take a vacation, you know, don’t sit in cash earnings zero, you can you can get 5.2. And so we we presently have close to 40% cash equivalents earning 5.2. We have 5% net stock exposure if you don’t count gold stocks, if you do, it’s about 15%. And so we’re still we’re still waiting frustratingly for, you know, a bigger pullback to be able to take some more action. The last couple of weeks, the markets had a big bounce, we’ll see what happens we’re back to some resistance points. This would be an obvious place for the market to turn over. And you know, we’re looking at levels of about 4200 on the s&p if that happens. And there’s some big events and nividia earnings everyone’s watching the video the tech stocks have been driving this market, but we think the risk is lower
Adam Taggart 29:50
income. So I took away from from the Daniel discussion and from the discussion with the options fellow His name is Imran locka. By the way, he’s an options experienced options trader, but spends most of his time now educating people about how to use options. And they said two things that I think put together are worth focusing on. One Daniel, I think thinks about bonds, particular treasury bonds, very similar to the way that you guys do. And so she thinks that look for this, this all the reasons of her sort of perfect storm of economic depressors that are coming down the road, she thinks that the Fed whether or not it has successfully tamed inflation, by that time or not, is likely going to have to start cutting rates. Again, she doesn’t know exactly when that’s going to happen. But you know, six months, within the next 12 months, probably I’m putting words in her mouth, but I think she would agree that that’s probably the probability window that she’s looking at. And that the Fed is going to have to take rescue efforts to try to rescue things that are breaking in the economy under these higher rates while in recessions arriving, and therefore that aggressive coming rate cut program is going to be pushing the prices of bonds higher. So you know, she’s basically highlighting two things. She’s saying, Look, you can position ahead of that in longer duration bonds, and ride that appreciation if you want. But even if you don’t, you know, you can just for the first time in a long time, park and safety in those short term, short duration assets, you just mentioned, Mike, and just get paid to wait to see how the movie plays out. And then your liquid, right, so you can quickly deploy once the market opportunity becomes clear of really where capital should go, right. We haven’t had, we haven’t had like high probability events like that in a long time as investors. So those were two opportunities, sort of relatively rare opportunities on the bond side. What Imran was telling us on the option side is the option market. It provides a fair amount of intelligence to the investor that watches it closely. And a number of times that intelligence can kind of be a leading indicator, and what he talked about, as you’ll see, when people are getting bullish or bearish, they will be basically increasing or decreasing their level of protection using options. And usually, you know, the more bullish people get, the more protection they buy, just in case they’re bullish trade goes against them, right. And what he noticed was that as the markets were, you know, had been kind of drifting downwards over the past couple of weeks. He hasn’t seen, like a commensurate change in protection positioning, which leads him to believe that people aren’t really freaking out here. So in other words, he’s sort of saying, I’m not seeing the early indicators that I would expect to see, prior to like a real big market rollover or downdraft, there just doesn’t seem to be that much fear in the markets right now amongst these participants. So of course, that can change on a dime. But you know, what he’s saying is, is looking at that key indicator, he thinks, more than likely, the downdraft that we’ve seen, or that this or that this relatively slow, short pullback that we’ve seen in the markets, in the short term is probably going to be short lived, things will start recovering again and start trying to power higher, who knows what will happen, we’ll see. But I thought that was a really interesting indicator. But a key thing that he mentioned, is he said, downside protection insurance in the market right now is ridiculously cheap, right? This sort of the sense that there really is no fear. And that if you want to buy some long term insurance against your current portfolio, you said, it’s not the cheapest it’s ever been, but it’s close to the cheapest it’s ever been to buy puts on the s&p right now. And so, again, if you’re an investor, who’s just, you know, kind of worried by some of the macro issues that we’ve talked about here that Danielle talked about this week, that Luke Grohmann is going to talk about next week. Well, if you want to buy some insurance using puts pretty good time to do that. Now, I know you guys use puts a lot as hedges in your portfolios. I’m just curious. You know, John, do you have a? Are you guys taking advantage of this window right here where some of this insurance seems to be sort of historically cheap?
John Llodra 34:14
Well, so let me first comment on I didn’t see the video that the other guests of yours have. But I certainly Mike and I know the dynamics of the option markets pretty intimately. And a lot of the retail activity in options that you spoke of, is very speculative, typically, buying very short, dated call options, you know, basically the equivalent of a lottery ticket, right? And that’s been a lot of the activity. There are many ways to use options, the way we use options are truly as as hedging or income producing instruments. So for example, simple strategies like covered call writing, where you sell call options against an underlying security and get paid a premium which can be you view it as a special dividend or a downside buffer or whatever you want to call it. Buying put options, like you’ve just talked about are way to kind of put a line in the sand insurance floor, if you will, on a particular holding. And you can combine calls and put options. So for example, we’ll oftentimes use caller strategies to basically sell call options at a level that we frankly don’t assign much probability of the whatever thing we’re writing call options on going above that strike price. So we’re getting paid a premium for forgone upside that we don’t think, is likely there to begin with. And we use those premiums oftentimes to buy put options. Now, put options have gotten more expensive. In recent days and weeks, because the VIX has, has risen a bit, anytime you get a bit of a ripple in markets, you’re gonna get a little bit of a increase in the cost of insurance. But so we talked about the hedge, for example, that we have on our longer term bond position, about half our position that involved a collar strategy where we sold call options and bought put options. And those put options are now deep in the money, which basically has the effect of saying, hey, for that half that’s hedged with those put options where we are right now, there’s almost no downside. In that piece, it’s effectively neutralize the downside risk. Sometimes it can make sense to buy put options outright, just understand that when you’re out laying premium like that, it can add up pretty quickly on an annualized basis. So we like to, rather than outlay premium, we generally like to finance that premium or pay for it by taking in call option premium. And there’s nothing speculative about this strategy that we use, we use they’re very much hedging strategies, and, you know, not you know, that in and of themselves a speculative bet on a market moving one way or the other. So yeah,
Adam Taggart 36:54
okay, well, sort of my quota on this is, while we’re in a time where in general insurance is still, you know, quite affordable on a historical basis, if you think you might want to implement some of that in your portfolio, you know, as options are a bit mathy, there’s certainly math easier than just, you know, buying a stock long or short. If you don’t have a lot of experience using them, I highly recommend you sit down with a financial advisor who’s got a lot of experience using them. And again, not not for necessarily speculative, you know, aggressive kind of gambling, but more sort of, you know, how to use it as a hedge in your portfolio. If you’re interested, sit down with your financial advisor, or or find a financial advisor who understands these products well, and say, Look, this is what I like to do, can you, you know, basically construct a strategy for me that I can take advantage of these low insurance options. While they’re still there. archives will look as we begin to get near the back half of this conversation, I want to, I want to share my screen one more time and get your reaction to this article that I just saw this morning, when this talks about the amount that Americans have saved for retirement, or I should say maybe the scarily small amount that the average American has saved for retirement. So look at this on average Americans between the ages of 50 and 59. So the court that’s getting ready to retire, have around 189,000 in their 401 K’s right. That’s not a lot of money to finance, you know, the next 30 plus years of your life. Right? But and we talk a lot about this averages can be deceiving, you really want to look at the median. So they say most people have less than a third of that amount saved the median 401k balance for Americans in their 50s is only $57,000. So again, the median is the 50th percentile. So everybody who’s got money in a 401k the person right in the middle of that distribution is sitting there at 57,000. So you know, 57,000, I’m sorry, it’s just not enough to finance a retirement from you know, your mid 60s to your end of life. So I love to just kind of get your guy’s general reactions, Michael, come to you here. But you guys are talking with people day in day out, who are, you know, aspiring to make sure that they don’t have to work until they die, basically. And, you know, all that comes down to a lot of commitment in terms of earning income, saving it, investing it well. And obviously, the younger you are when you begin that process, the better. But you know, you guys are in the business of trying to help people retire. So I’m curious to get your reaction that data in general, and maybe just sort of talk about some of the general strategies that you work with people with especially those who are maybe saying okay, Yeah, I’m entering my, my 40s or 50s. I haven’t saved up as much as I’d like to yet, but I really need to get going, how can you guys help me?
Mike Preston 40:08
Yeah, um, those topics are things that we talk a lot about as financial planners, it’s a very common conversation, do I have enough to retire? I’m really worried and how much is enough. And by the way, people are generally worried no matter how much they have, even if they have a whole lot more. It’s never, it never feels like enough, because you don’t know how much you’re going to need. You don’t know what inflation is going to be. You don’t know how long you’re gonna live. So I’d warn people that basically just come up with a plan and try to have some, some tranquility about it, I think it’s, I think it’s more common to have a plan and just kind of continue along once you have a plan, and feel less anxiety about it. Yeah, but those numbers are pretty stark, definitely, there’s a number of different things that I would talk about, we would talk about with somebody in that type of situation, if somebody was in there in their 50s, and had that median number of $57,000, we would ask them a lot of questions about their life, their lifestyle, whether or not they’re married, have children, talk about what their real estate investments look like, if they have any, whether they’re expecting any inheritances and whatnot. But if we could run a whole full financial plan that would give them some more ease about what their picture would look like. But for most people, Social Security is going to be a main component of their guaranteed income. Social Security is likely to be there, a lot of people are worried that it’s going to it’s going to go away, or it’s going to be means tested. If you’re in that lower strata, they’re in terms of a relatively low income and a relatively low retirement plan balance, even if there is means testing, you’re probably not going to be means tested out of it. So I wouldn’t worry about that. Secondly, in terms of the Social Security fund being bankrupt, yes, it’s true. But I’ve got no doubt that the Treasury and the Fed is going to just print money to back that. And I hate to say that, because I hate to, you know, I often rail against what the what the Fed and our government is doing in terms of, you know, creating money, somewhat fake money, you might, you might say sometimes, but I think that’s exactly what they’re going to do social security is going to be sacred. And I think that’s something that you can count on. So, you know, that’s the first thing we’ll take a look at social security, then we’ll take a look at your current assets, and try to project what they might be down the road. And will we it’s pretty easy back of the envelope calculation to calculate what your income is then likely to be, you take your guaranteed sources of income, Social Security, maybe pensions, if you’re lucky, plus the future value of your current investments and then apply some conservative withdrawal rate to that 5%. So in this example, you can pretty much predict what somebody’s income is going to be 10 years from now, as long as you don’t make any big mistakes with the money and lose it all along the way. But we’ll we’ll put that aside for a minute. Even if you just put that money into something guaranteed, you know, 5%, over the next 10 years, you can pretty much see what their income is going to be. But and so it really comes down to the the most obvious things, try to earn more money along the way, try to save more money in tax efficient ways, maximize the 401 K, if you’re a business owner, there’s, there’s pension options and self employed retirement plans that we could talk about where you could put more money in. Because if you put more money in over five to 10 or 15 years, it could be a big difference. So make more, save more, don’t lose it along the way, calculate what Social Security and other income sources will bring. And then lastly, oftentimes, you know, I’ve had the pleasure of traveling to different parts of this world, I’ve visited South America and in other places. And I often have talks with people that maybe for the first time, I introduce ideas that never heard about before. For instance, consider retiring to a different place in the world. There’s many places in the world where you can live on Social Security alone, you know, El Salvador, Colombia, all the other Argentina, a number of them happen to be Central and South American countries. And that’s not for everybody, particularly if you don’t know the language. And maybe you have kids here that you don’t want to leave. But some people have really thought about, where can I go, that’s less expensive than here, because we have the benefit of still the world’s reserve currency, a very strong dollar. And there’s many places in the world, that even if you mess everything else up in your life, and you arrive at 65 or 66, with nothing but social security, as long as you’re willing to do something uncomfortable, different. You can live in places in this world. On just a social security payment Philippines also comes to mind. We’ve got a number of clients that have done that.
Adam Taggart 44:50
Great I love that sense of like, hey, creative thinking, you know, there are lots of instruments and strategies just to deploy in the financial world. But then you can say look up Think outside of the box, sort of as the accountant said on the program, Tom wheelwright, he says, If you want to change your tax, you got to change your facts. Sometimes if you change your facts, from retirement standpoint, you can really change your outlook there. And just as a quick nod, my kid’s sister lives in Colombia. And it’s a phenomenal country. I mean, it’s an absolutely wonderful country. And most Americans stole associated with the FARC. And the cartels down there. Very different world down there than it was, say, back in the 80s, and 90s. But it’s just one great example of the times I’ve gone down to visit or I’ve been like, Oh, my goodness, like, I’d love to retire here. Alright, well, one other important thing you said, too, is, you know, I think a lot of people who aren’t confident about their retirement situation, they generally sort of live in a state of, of shock and denial, like, I don’t really want to look in the mirror on this right now, because I’m afraid of what I’m going to learn, right, the and of course, by doing that, you just don’t make any progress. Whereas if you put a plan in place, even if you’ve got some catching up to do, getting that plan in place and starting, you know, executing against it, it’s just that forward movement, putting one foot in front of the other. And of course, the more you do that, the more you get the potential of compounding to start working as a tailwind at your back and all that stuff. So, folks, you know, if whether or not you’re in that cohort, you know, with the median, or even the average amount of retirement savers that we just looked saw in that article, there’s just no downside to you know, meeting with your advisor, you know, getting a personal financial plan created, doing the projections out there and saying, okay, great, what other levers can I be pulling here to either bring in the date of my retirement or to increase my probability that I’m gonna hit the retirement by the date that I need to
John Llodra 46:50
add, I’d like to add a little little subtext to Mike talked about one important thing is, is trying not to lose big when you’re in the pre or post retirement years. And that that is critical, because oftentimes, folks who feel like they’re behind and need to play catch up, they may be to take more aggressive swings, tempted to take more risk, because they feel like they need to. And they’re simply times in the market where taking more risks doesn’t magically give you more upside or return, it may in fact, and buy more downside that can be utterly damaging. And it’s simple math. And I got to share a picture here, because if my verbally saying this, I don’t think does the same justice as the picture. And if they say thank you to some unknown person on Twitter, who put this crap together, it’s not politically proprietary, or anything like that, but it saved me the work of having to pull one together. But this is the economics of loss, basically. And the simple reality is compounding works in both directions. If you suffer losses, the bigger the loss, the greater the subsequent gain, you need to get back to 11. So the name of the game, obviously, no one likes to lose money, we as investment managers, hate to see our clients, it counts down even even a little bit. But the key is, if we keep the losses pretty small, you can easily come back, you know, 5% loss essentially needs roughly about the same amount to get back to even 10% loss, you need a slightly greater subsequent return to get back to even. But look what happens if you start to suffer some bigger losses, you know, 50% loss, you need 100% Return to get back to even simple math, you have $100, you lose 50%, your $50, you need to double your money to get back 100. This is really critical, especially when we’re in a phase of the market cycle where and we can measure this where valuations are utterly extreme, you know, all the things we’ve already talked about in this discussion here today. But that’s we believe one key role that we can play with folks do is to help them be grounded in their expectations and to not add insult to injury. Simply because they feel like they need to play catch up, there’s a time to play catch up, but it’s when the risks will likely or the you know, taking the risk will likely be rewarded in a helpful and productive way.
Adam Taggart 49:13
Yep. And that’s, I’m so glad you interjected with that there was a great chart, by the way, too. But that’s exactly where I was going. My last point on this, which is, you know, we just had the interview with Danielle, where she talks about high likelihood of this perfect storm coming. Right. So like, you know, back to that article about how well the, the yield curve. The inverted yield curve hasn’t resulted in a recession yet. So maybe it’s not and maybe it’s we’re gonna have a no landing and it’s different this time. That convinces people that it’s okay to go out and take on more risk. Right. And to your point, John, if they’re, if they’re compounding that by saying, Hey, I’m behind in my savings goals, I’m going to have to take really aggressive risks here. You know, we could be in market conditions right now that could be the absolute worst time to do that because we may have A really big period of instability coming, you know, Luke Roman, who, like I said, comes to some different conclusions on key assets like bonds from Danielle and you guys, he still thinks, you know, even with that sort of differing of outcome, he still thinks that we’ve got a really massive problem ahead of us here. He looks at it through the lens of sort of a, a sovereign debt crisis and the commensurate injuries that come along with that. So my point is, is there’s just a lot of credible, you know, data that suggests that we have a turbulent period lying ahead of us here. And so to your point about look, if you want to build wealth over time, avoiding the losses really should be at a higher priority than reaching for gains. You know, we’re at a part here where you probably do want to play it relatively safe, given the risks that are out there, at least until they resolve a little bit more, and we have a stronger sense of the probabilities. And as we were talking about earlier, we’re kind of in this lucky moment where you can sit in safety and get paid a decent return on it, insurance is still relatively cheap. So you can buy some cheap insurance in your portfolio. Like there’s lots of things that we didn’t even have a couple of years ago, that can help the cautious, prudent investor right now navigate what’s coming is kind of the main thing I wanted to underscore. Alright guys, we’re gonna have to start wrapping it up here. One quick resources. Just want to mention for folks Wealthion online fall conference. Tickets for that just went on sale. The conference itself is going to be Saturday, October 21. We have an amazing lineup for it our best lineup yet. We’re still adding faculty to it. But here’s who we have so far. We’ve got Lacey hunt, kicking it off with the keynote. We’ve got James Grant talking about interest rates. Michael Kantrowitz is going to be talking about his hope framework with a special focus on employment. We’ll have Ivy Zelman talking about the housing market, we’ll have Stephanie Pomeroy talking about the forces of inflation and deflation and how they are likely to manifest as we head into 2024. We’ll have Kyle bass talking about the key geopolitical trends that are most likely to impact global markets. We’re going to have Mike Leibowitz talking about the outlook for the bond market from here. So a lot more still to come on bonds. Rick Rule as he did last time, we’ll be sharing his top picks, top stock picks in the Natural Resources space. on the energy side, we’ll be joined by Bloomberg, who will talk about the global energy situation, but then he’ll be joined by Justin Hewan. And the two of them are going to dive deep into the opportunities that are being presented today by investing in nuclear energy. Of course, we’re going to have our advisors there, like John and Mike and Lance Roberts from real investment advice. And Jonathan, welcome from rocket link up there in Canada. And you’ll be able to get their commentary throughout the day. But we’re also going to have a pretty liberal live q&a session with them again, too. So you can ask them any questions you want. And again, we still have faculty that we’re adding to that list. But you can see this is shaping up to be our best hardest hitting conference ever, to learn more about it. And to sign up, just go to wealthion.com/conference. And if you do it, now, you’ll get the early bird price, which is practically I think it’s, I think it’s almost 30% off the full price for tickets. So we want you to get that best price. Now. Secondly, if you are an alumnus of one of our previous conferences, check your email, because you’ll have gotten a discount code that will give you an additional 15% discount on top of that 30%. early bird price. So again, we want to make sure that everybody who wants to go can lock in these low prices while they’re available. And wrapping up here, folks, I’ve mentioned many times the wisdom of working with a professional financial advisor, who takes into account of the macro risks that we in folks like Danielle and Luke and some of the other folks who have recently appeared on this channel are flagging, if you’ve got one who’s doing that for you putting together a personalized portfolio plan and then executing, executing it for you great stick with them. They are very, very rare. But if you don’t have one, or if you’d like a second opinion, from what new does, consider scheduling a free consultation with one of the endorsed financial advisors that Wealthion endorses. To do that, just go fill out the short form@wealthion.com only takes a couple of seconds. These consultations are totally free. There’s no commitment to work with these guys. It’s just a free public service that they offer to the public to help people position as prudently as possible for a lot of those events that we talked about that might be headed in our future. John and Mike great. As usual, folks, if you continue to like these, these weekly recaps with the team at new harbor, please vote your support for that by hitting the like button, then clicking on the red subscribe button below, as well as that little bell icon right next to it. Mike, I’m gonna let you have the last word here. Any parting bits of advice for folks?
Mike Preston 54:36
Oh, no, not nothing that we haven’t already said. I just want to thank everyone for watching. Thank you for what you do, Adam and all the great guests you bring on board. You know, we’re it’s a dangerous time. You know, the markets been in rally mode since last October, I believe is trying to top there’s a lot of mixed signals. Just you know, just play it safe. Keep it simple. And I’ll echo what Daniel said, you know Take a break, get on the sidelines with a good part of your assets and enjoy the rest of the summer.
Adam Taggart 55:06
All right, well said. All right. Well guys, enjoy the rest of your summer. Everybody else. Thanks so much for spending this hour with us. We’ll see you next time.
John Llodra 55:14
Thank you. See you next weekend and thanks.
Adam Taggart 55:17
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