Free Money and Retirement Planning
What an amazing world we live in? The stories that are deemed newsworthy get more detached each day.
I consider myself a decent decanter of news flow, gatekeeping my sources to those that are trustworthy and less than sensational, but the insanity seems to be everywhere.
The past two weekly comments have focused on inflation. To write these I read a broader set of news stories to get a feel for public opinion and narrative as well as gather facts.
The way the inflation news stories have progressed is astounding, as illustrated by the meme below.
The narrative keeps changing to make inflation an okay part of our lives, rather than something our leaders should be held accountable for.
The latest wrinkle in the financial markets has been the identification of the new COVID mutation: Omicron.
There are a lot of opinions and few facts about what this might mean for both the reestablishment of lockdown protocols and financial markets in the news right now. Let’s wait and see what new facts are revealed in the next few weeks.
It seems that the new variant showed up at a very convenient time relative to interest rates and inflation data.
New lockdowns might ease inflation concerns, but with already clogged-up inventory channels, and consumers buying up everything they can get their hands on, the opposite affect may take hold. Again, let’s wait and see.
If you forced me to take a side right now in the debate, I would bet that inflation forces grow (not shrink) in the coming six months.
Looking at the longer term, as the economy it fulfills its destiny of being the ravenous destroyer of purchasing power, it is time to shift gears and explore the pathway inflation takes if left to complete its financial metamorphosis.
My focus will be an interesting phenomena that has taken hold since March 2020, in the area of baby-boomer retirement.
At the start of the COVID-19 lockdowns, the wall of baby boomers expected to retire was starting to flatten out as the largest cohort bulge had already attained regular retirement age and left the workforce.
Then March 2020 came and three things happened to those nearing retirement age:
- The unknowns around the future prompted those who could afford to retire a little earlier to do so.
- The government sent out free money to people, so leaving early and getting paid still could happen.
- Asset prices (houses and stocks) went up, so near retirees felt richer and more able to retire.
Howard Marks of Oaktree fame summarized the net results of the psychology changes of 2020, in terms of labour like this:
“To sum up, many workers experienced a “timeout” during the pandemic – not working, working part-time, working from home, and/or certainly not traveling on business. For many, this may have occasioned a reset, giving them an opportunity to conclude. You know, my career isn’t everything; family and quality of life count for more. I’m going to reorient my life and put less emphasis on work.”
The following graph shows what this looks like in America.
Most of 2021, has been a magic moment for those who left the workforce.
In essence, one could retire from their job, stay at home, hold/trade stocks and make more money than they made at work. The cherry on top is they got to collect government benefits at the same time.
Maybe all the free money was going to be the secret sauce and make the need to work obsolete for those with assets?
Why didn’t anyone think of this before…It has been truly the middle class “bonfire of the vanities” moment in history.
Well, here’s the news. It has been both thought of before and done.
The problem is the utopic conditions above are but a fleeting glimpse, rather than a permanent view.
The summer of 2021, was the beginning of the post-metamorphosis life of inflation.
Looking forward, the real asset values (nominal price minus inflation) of 2021, are likely to be much more “transitory” than the modest inflation narrative and free money they are built upon.
If higher interest rates are on their way up, asset prices are going to at least stop rising and likely decline.
Which brings me to the most important part of this comment.
The higher asset values that made those taking retirement early feel confident in their decision, has now been joined with a historic jump in the costs of living.
Food, energy, shelter and most everything else has ripped higher quickly eroding away their income’s purchasing power.
So far, those higher costs of living have been offset by higher net worth statements to the point that retiring boomers are still apt to think they are immune to the negative impacts of inflation. However, a growing subset of society smells the stench of unsustainable cost of living increases.
Below is a chart of consumer sentiment in the US. Why would consumers be less confident now than they were in March 2020?
The logical response to a loss of purchasing power in your currency, is to spend it as quickly as possible to buy “stuff” before the price goes higher.
High spending with low consumer confidence is a hallmark of the beginnings of out-of-control inflation cycles.
Which brings us all the way back to the stock and bond markets.
Both Bay Street and Wall Street analysts continue to look at the stock market through the lens of continuing low interest rates.
They base that forecasts on the central bank’s control of the fixed income market and keep interest rates low for a long time. That may happen and inflation keeps running ahead or it may not happen.
Here are the charts of the US and Canadian 5 year bond yields.
Visually, those charts look like they want to move to higher yields to me.
And what would these continuing higher interest rates mean for asset prices in Canada?
The following news bullet is a fair summary when looking at real estate:
Increased risk in Canadian housing market, according to the BoC.
In a speech delivered by Bank of Canada Deputy Governor Paul Beaudry yesterday (last week), he stated that risks around the housing market have intensified following a significant rise in prices that are seemingly driven by speculative investment activity.
According to Bloomberg economics, “the number of new mortgages held by investors has doubled over the past year, while those taken on by repeat homebuyers is up by more than 60%.”
This means that the sudden influx of investors that we have seen in recent months have likely been the biggest contributing factor to the rising price increases. Beaudry stated that this could possibly “expose the market to a higher chance of a correction.”
The higher prices are also pushing households to increase their debt burdens, which in turn, adds to the risk associated with the market.
Debt becomes a greater burden with higher interest rates. It makes for an interesting coming few quarters in the markets.
In conclusion, the Christmas rally season for stocks is upon us.
Historically the time between US Thanksgiving and the New Year is positive for stock markets. Let’s watch and see while keeping a careful eye on those interest rates.
As always, if you have any questions, concerns, or want to discuss your portfolio, please don't hesitate to reach out.