Brien Lundin: Fighting the Crisis Cycle
Brien Lundin and Keith Weiner dive deep into the current state of the market, the potential impact of interest rates, and the role of central banks in our economy. What crisis will force the Fed to pivot? How will investors safeguard their wealth against the unknown unknowns in the economy? Keith and Brien discuss zombies, rate hikes, debt cycles, and more.
Additional Resources
Join us at the New Orleans Investment Conference
The Case for Gold Yield in an Investment Portfolio
Podcast Chapters
[00:00:00]: Brien Lundin
[00:01:09]: The New Orleans Investment Conference
[00:02:10]: Gold’s Performance and Interest Rates
[00:08:06]: The Fed’s Pivot
[00:10:35]: Fiat Currencies Losing Credibility
[00:13:18]: Setting Prices and Central Planning
[00:15:59]: The Crisis Cycle
[00:18:19]: The Resonance Effect
[00:20:57]: Diminishing Marginal Productivity of Debt
[00:24:02]: Negative Interest Rates and Destruction of Capital
[00:26:47]: Zombie companies
[00:29:50]: Warning signs
[00:34:47]: The domino effect
[00:38:33]: The hyper-proactive approach
[00:42:01]: Spread between junk bonds and treasuries
[00:44:29]: More Fed power
[00:45:54]: The New Orleans Investment Conference
[00:50:25]: Question for future guests
[00:51:08]: Join us in New Orleans!
Transcript:
BVN:
Welcome back to The Gold Exchange Podcast. My name is Benjamin Vern Nadelstein. I’m joined, as always, founder and CEO of Monetary Metals, Keith Weiner. Our special guest today is Brien Lundin. Brien is the editor of The Gold newsletter and the host of The New Orleans Investment Conference, which we will be attending this year. If you didn’t come last year, you have to come this year. Brien, thanks so much for coming on and tell us what are you up to this time?
Brien Lundin:
Well, great to be with you all. Yeah, we’re working very hard on this year’s New Orleans Investment Conference. It’s got what I think is the finest lineup of speakers at any investment event in our history. And basically that means any investing event ever. It really is a remarkable array of big thinkers, I think the finest thinkers out there today, and graced, of course, with Keith’s presence this year, so really looking forward to getting his views as well.
BVN:
Keith, I know you’re going to be on the Precious Metals panel. Everyone should come watch. Here’s some spicy things. I want to start off actually talking about gold. So most people weren’t sure where gold was going to go last year. We had the beginning of rate heights. Most people said this would be a headwind for gold. So, Keith, what were we thinking last year when we saw rate heights beginning? And are you surprised where gold is sitting now?
Keith Weiner:
I don’t remember what I said in the gold market outlook. So without the benefit of having read that and not know what I said at the time, something like, well, this obviously can put downward pressure on all asset prices, but I think gold is going to be less affected this time around versus in the 2005 to 2007 rate hikes, because I think there’s less leverage. And I think there’s a lot more people that are turning to gold for the first time because the monetary system is so screwy. And in the rest of the world, the monetary system is so screwing them that for every person who thinks Keynesian beauty contest style, well, I have to sell gold because everyone else is going to sell gold because everyone knows that rising interest rates is supposed to cause gold to go down. There’s two other people somewhere else in the world that are thinking, I have to get more gold in my portfolio. So what we see is the price of gold hasn’t moved up, but it really hasn’t moved down either. And here we are between 1900 and 2,000. Very interesting.
BVN:
And, Brien, I want to send it your way. A lot of headwinds against gold. We’ve got high interest rates other than monetary metals, of course, we do pay a yield on gold. Most people think, Well, gold has no yield. So if cash is paying five %, maybe I should sell some gold and move into cash. Now, if you’re a Monetary Metals client, maybe you don’t think that, but everyone else is thinking, Well, shiny pet rock versus cash yielding five % in a CD. It’s risk-free, whatever that means. So most people would think, Wow, gold is going to have a lot of selling pressure. What do you think?
Brien Lundin:
Yeah, I think, though, that those high rates in T-bills are competition for every asset class. So it really isn’t gold versus T-bills. It is probably more so stocks versus T-bills and other investment classes, because gold really stands alone in my view. The most interesting thing, and Keith alluded to this and you have as well, is that we’ve had since really the end of July, we’ve had a tremendous surge in yields, treasury yields, and really sovereign yields across the globe as we’ve had just a tremendous bond sell-off. That’s been accompanied by dollar strength, dollar index strength, the dollar against its trade competitors. Goes, those are headwinds for gold. Everybody knows it should be a headwind for gold, but it really wasn’t. Despite that, in August, gold lost about 1%. Basically, it was flat. Its performance has been absolutely outstanding, and the question is why. Now, if you look historically, gold rising or holding ground in a rising interest rate environment is not really that rare. It’s counterint, but it does happen on occasion. In this cycle, it actually started to happen until Russia invaded Ukraine, and that upset the whole narrative. But I think gold, like the bond market, is extremely sensitive to or is a very sensitive and highly predictive mechanism and looks forward to see what the next big thing is.
I think gold right now is recognizing, and big pocketed investors, even central banks are buying gold right now because they recognize that this rate hike cycle is peaking or has peaked. We might have a little bit more left to it, but the next big thing is not more rate hikes. The next big thing is what’s going to force the Fed to start reversing that cycle and start lowering rates. There are a lot of bogeymen on the horizon that could force them to do that, in addition to just the basic business cycle and the harm that this rate environment does. I think smart investors are not willing to let go of gold and are actually accumulating gold at these levels in anticipation of something big on the horizon.
BVN:
And Keith, I want to send it to you now. So the first narrative was, hey, here’s gold and how is it going to be affected by this rate hike cycle? Now it feels like we’re ending this rate hike cycle, whether there are other hikes in the future or not. It feels like the real next narrative is what causes the Fed to pivot. Is it something that is a lag from their previous rate hikes? Maybe this will affect commercial real estate or the stock market or zombie companies.
Are people saying, listen, I’m loading up on gold because of some other reasons?
Keith Weiner:
People are loading up on gold for a lot of reasons, but I do think that when the Fed pivots, first of all, I don’t think it’s an if, I think it’s a when. I think Brian and I are probably on the same page on that as a when. When the Fed pivots, I think that is going to be a tailwind for gold. That is a lot of people are going to say, well, we all know that the falling rates, people should buy gold, bid it up. And the last obviously, T-bills become relatively less attractive when the interest rate goes right back down, I think, to zero and beyond as before. I think the Fed is fighting the market with his hikes, and it’s not going to win in the end. Market forces will prevail. So, yeah, I think when that happens, you’re going to see easily a couple of hundred dollars higher gold price. I don’t think ten thousand dollars or some of these ridiculous numbers, but 23, 24, or 2,500 at that point certainly seems within the cards.
BVN:
And, Brien, do you agree with Keith that not only might we be going back to zero interest rates, but we might actually be going into the negative territory as well? This is obviously uncharted waters, but a lot of people have been predicting, hey, we might be going into negative past zero.
Brien Lundin:
Well, if you carefully parse everything the Federal Reserve has said on a negative nominal rate, they have never officially rolled it out. They said things like, We’re not considering that and that thing. They’ve never officially rolled it out. Not that that really matters because, of course, they would break their word without an afterthought. They could. But one thing we can rest assured of is that whatever they do, it’s going to dramatically overshadow what they did post-COVID, which in turn was much more than what they did after the Great Financial Crisis. In turn was much more than they had done in every previous hiccup or recession. If you plot the bottoms and the interest rate cycles from really when Volker killed off inflation, it’s an ever descending staircase. Then they hit the foundation, they hit the ground floor at zero, and then they had to come up with all this other stuff to quantitative easing tart after the great financial crisis. Then after COVID, much more quantitative easing, zero rates again, other programs. At that point, monetary adrenaline, just injected directly into the veins of the economy, just deposited in people’s bank accounts. Interestingly, helicopters were not needed.
Nobody really foresaw the fact that they really didn’t need those helicopters to drop money. You can just press a key on your computer and there you go. Everybody gets money. Whatever they do now, they have to do much more. They have to come up with shock and awe to get the same effect because the patient is addicted not to easy money, but to ever easier money. With every dose, every dose has to be so much greater to yield the same effect.
Keith Weiner:
That would be easier. That is a really good way of saying that.
Brien Lundin:
Yeah. Where does this lead? At some point, I don’t know if it will be the next one or the one after that or the one after that. But the cycle is clear in that currencies and not just a dollar, but Fiat currencies in general, because we’re all in the same boat here. All the developed economies are doing the same thing. Fiat currencies in general are losing credibility with every one of these episodes. Pretty soon, even the everyday public, Joe the Plumber is going to say, We’re bouncing from crisis to crisis, and every time my dollars get much cheaper, they just flutter with all these new dollars. To held those dollars, I’m going to do what I have to protect myself. Currency is going to lose credibility and they’re going to have to regain it in some way. Frankly, I think that way is the way it’s always been. It’s going to be through some reattachment to gold.
BVN:
Keith, I want to send it your way. So a lot of people are saying, Hey, listen, every year we have this crisis and this is just how capitalism works, Keith. You don’t get it. Businesses get super greedy, then there’s a little bit of inflation, then the government comes in and they fix it. So how do you actually see the issue?
Keith Weiner:
I have to give my little rant here and say whatever the word may be, for welfare system, welfare state so vast that no matter how high the progressive income tax goes, they can’t possibly pay for it. So you have to institute a central bank that centrally plans their economy by mucking around with the quantity of money and the interest rate. And on top of that, a regulatory state where every productive enterprise is regulated, most professions are licensed. The government outright owns many industries, wholesale, such as schools, roads, harbors, airports, trains, electric, water, sewer, and so on. Whatever the word is for that giant mess, capitalism is not that word.
Brien Lundin:
Yeah, people say, well, the free market healthcare hasn’t worked. Free market healthcare, are you talking about Which market are you talking about?
Keith Weiner:
Which market is less free? Finance or healthcare right now? I don’t know which one is less free, but they’re both utterly dominated by government in every way big and small.
Brien Lundin:
I have a secret burning desire to run for Congress, Keith, so I can have five minutes to ask the Federal Reserve Chairman, whoever it would be at that time, do you believe in free markets? And of course, there was a yes or yes-but, one of those yes-butters.
Keith Weiner:
Yeah.
Brien Lundin:
The counter to that is why are you setting the prices of everything? What’s the difference between you and the centrally planned Soviet economy or Chinese economy, where they buy edict, set the prices of everything. And by setting the price money, that’s exactly what you’re doing. You’re sitting there behind the curtain, pulling your little levers like the Wizard of Oz and wondering why things keep spinning out of control.
Keith Weiner:
I have a little rant about that as well. The Soviets tried to centrally plan production of grain. Now, to grow wheat is a very simple thing. All you need is the right soil, which has already been proven for thousands of years. You plant the seeds, you wait for the sun and the rain to do their thing, and at the end you harvest it. And somehow it has a simple annual cycle. And somehow, despite that being really simple and having been proven for thousands of years, they were so inept at it that they literally starved off millions or tens of millions of people died of malnutrition because they completely failed the central planning. Credit is the most complicated thing. Even as proponents admit that it has a cycle of many years, if not decades, with complicated leads and lags and interrelationships with every other price in the economy. And we’re smart enough. We think, oh, yeah, we’re smarter than the Soviets. We don’t do central planning. We know that, oh, they were fools to try to centrally plan grain. And instead, we think we can centrally plant credit. And the result is the gyrations. One of the great ironies, if you look back to the propaganda or the rationalization, why did we create the Fed in 1913?
You and this idea of unemployment inflation, that’s anachronistic. That was not the issue of the day. There was not such a thing as structural unemployment in those days, and nobody was really talking about inflation because it didn’t really exist. It was to stabilize what they imagine to be the business cycle. And even then, of course, government intruded and caused the cycle. And so if you look at the interest rate, it’s probably the best indicator and symptom of the cycle. Prior to 1913, it’s a practically table flat. And then they institute this organization to try to stabilize it. The moment you create this organization to stabilize it, it completely goes off the rails. First it’s rising, then it’s falling and we have a major depression that the world had never seen before. Then after World War II, it’s skyrocketing. Then after Volker and Reagan in 1981, it’s collapsing into the black hole of zero and beyond. And this was after we created this thing to stabilize it. God, help us if we hadn’t tried to do that. It would be even worse for you.
Brien Lundin:
Keith, the metaphor I’ve been using lately, it was not too long ago. I was on an afternoon boat ride with some friends, and it was my friend’s boat, and he had to go do something on the boat and he asked me to grab the wheel. So Is leaned over and grabbed the wheel. We’re going down this not too narrow, but this channel or bayou. And of course, I had a beer in one hand, and I’m going the wheel well. So the boat starts to drift toward one bank. Well, we’re going slowly, but I turned the wheel and rookie mistake, I overcorrected. So now we’re headed toward the other bank at a steeper angle. So what I do now, I overcorrect the other way, so we’re going to the other side. And it just hit me in the middle of this and everybody, Wait, we’re going to ground and all this stuff. But this is exactly what the Federal Reserve does. They overreact to every crisis, and each crisis, of course, being the result of their previous overreaction. Every move has to be more dramatic than the last, but it creates and is the seed of the next crisis, and that’s exactly where we’re in.
It’s not just that they have the hubris to believe that people can manage credit this very, as you well, put a very complex mechanism and an issue. But the people who think that they can manage it haven’t even been bankers, much less ever run a popsicle stand. They have never done anything. They have no real-world experience. They are literally the worst people that you could imagine, and the best people that you could imagine with somebody that would go in that room, just fold their arms and say, No, just let it ride. Don’t do anything.
Keith Weiner:
That’s what John Galt and Atlas Shrugged, right? No, I refuse the job. We’re giving you the job anyway. Okay, my first order is to shut everything down and go back to the market. Have you ever seen a video of the collapse of the Tacoma Narrows Bridge? It was a torsional wave and it would twist one side to the other.
Brien Lundin:
It’s harmonics. It’s harmonics and it’s the way it works.
Keith Weiner:
It was resonance. And there’s a wind that comes down that gorge that hit the bridge and the bridge had the wrong aerodynamics and it got caught by the wind. But the wind, as I understand it, it’s not a steady-state wind. The wind has a periodicity to it. It occurs at a certain frequency, boom, boom, hitting the bridge. And that happened to be the resonant frequency of the bridge. So with each cycle, the bridge twists. And then it twists a little more. It twists a little more. It twists even more. And eventually the steel tore and the whole thing dumps into the water. And that’s the Fed with the overcorrection. And I was going to say, I don’t know how much beard you had, Brian, and we won’t get into that. But usually like drunk drivers, when they’re overcorrecting, it’s because there’s this lag that the car is starting to veer. And unlike a normal sober driver, which would just make little tiny corrections almost instantly, they wait too long and then, of course, overcorrect. But it’s the waiting too long part.
If that wait too long is of the right length, then you end up with this resonance and positive feedback loop that eventually ends up in one ditch or the other.
Brien Lundin:
Yeah. And building on that, it’s interesting that these crises are coming more frequently. And those harmonics at resonance, those cycles reflect the world in general and life in general. So you can say, well, you can’t blame COVID on financial mismanagement. Well, you can blame what came after COVID on financial mismanagement. But the market just seems to run in these cycles and we’re getting more and more crises, one after the other. We had the tech wreck, then we had great financial crisis, and it was a little while longer until COVID, but we had a decade of zero growth because of the dampening effect of what the Fed was doing. But it just seems like the water these days is circling around the drain and moving much more quickly. We are approaching the end game of this decades-long cycle. Again, I don’t know whether that means two years or 20 years, and I don’t think anybody does. But what I tell people over and over again is nobody can really predict what’s ahead, but you can be pretty confident that you’re going to want to earn gold and silver and associated investments going into it. And that’s just a smart thing to do.
Keith Weiner:
Yeah, it’s reaching inevitable terminus. I’ve had arguments with some very prominent supply side and they acknowledge, okay, there’s a debt problem, right? And then one of my arguments is there’s no extinguishment of debt. The debt has to keep growing exponentially. And they would say, well, okay, sure. But the nominal debt is now, they would say 33 trillion. I think the last time I had one of these arguments, it was more like under 20. So here we are greater than 50 % growth already. Yeah, sure, the nominal debt is 20 trillion, whatever. But if we just had some slightly more pro-growth, lower taxes and less regulation, then we could grow our way out of it and the debt service as a percentage of GDP would shrink. So there’s an economics term, I didn’t coin this term, called marginal productivity of debt. That that’s a measure of how much GDP juice you get for every fresh new dollar of debt squeeze. And if that’s rising, then that would confirm the of the supply side, Wall Street Journal view. And if that’s contracting or diminishing, then that would confirm that we’re headed towards some ultimate crisis from which the system is not going to recover in its current form.
And so I plot every once in a while a graph of marginal productivity debt. I should probably update it, just note this off. You have to gather a couple of different data series from the Fed and do a simple spreadsheet to graph it. In the marginal productivity of debt is in a line downwards from 1950. This is a very long term structural problem. I only say 1950 because that’s the oldest data I’ve been able to find. I suspect that it actually begins either in 1933 when FDR destroyed the gold standard or 1913, when Wilson created the Fed. I just don’t have the data to show that. And so this is a downward, there’s jitter in it. It went below zero in 2008. It recovered. But it’s a it’s a noticeable, unarguable downward trend. What happens when marginal productivity debt gets below zero? That means we have to borrow more in order to contract the economy. And put.
Brien Lundin:
It another way, each additional dollar of debt only buys whatever it is, is below a dollar or below zero to what you’re measuring it. But let’s say for each additional dollar of debt created, government largest doled out, you only get, say, 70 cents today in falling of actual real economic activity. Again, what do you have to do in the next crisis to get X amount of economic activity to rescue the economy? You have to come up with, say, 3X of new liquidity when before you maybe had to do 1.5X. And that’s why you have to keep doing more and more because of that marginal utility of debt is falling and keeps falling.
Keith Weiner:
That’s right. And it’s going negative at some point. And when it does, that’s the, I call it the heat death of the economic universe. When you’re borrowing in order to shrink. And if you stop borrowing, you’re going to collapse. If you keep borrowing, you’re shrinking, and then you can’t service the debt anymore unless you have lower and lower interest rates. What happens when interest rates go negative? Well, it’s an obvious destruction of capital, right? In any normal economy, if I’m running an enterprise that destroys capital at a rate of minus one % a year, I should be out of business. And the sooner, the better, so that my people and less than my capital can be deployed into something that’s productive. But if the interest rate is minus two %, I’m being given capital at minus two %. I’m only destroying it at a rate of minus one %. I can mark a profit of plus one %. I should scale up and do more of this. So if you have interest rates, it becomes very obvious that all enterprises have to become wealth-destroying enterprises and there’s only a finite amount of capital to go around when it’s all destroyed, whoa, onto us, we have to live with the aftermath of that.
Brien Lundin:
Yeah. We’ve talked for years about how there are huge swaths of the US economy, and I guess globally as well, but particularly in the US, there were zombie companies that could barely pay the service cost on their debt in a zero interest rate environment. They had very low interest rates yet they were barely able to make their payments. That was a huge amount of the US economy. What we’re seeing now is that there is a tsunami offshore that’s building and about to crash of debt resets at higher rates. It’s going to be like the proverbial machete to the head of these zombie companies. That is going to be… I don’t know what’s going to cause the Fed to start lowering rates and to pivot. I don’t know what the precipitating factor is, but I think that is one of the most likely because you can just see it building and coming, and over the not years ahead, but months just ahead, it’s coming. Jim Grant calculated the additional interest costs that are going to hit the economy. I don’t remember the exact number of trillions, but I do have it was equal to the combined economies of Japan and Germany, just in additional interest rate burden that are about to hit the US economy.
It’s just amazing. It’s irrefutable. It’s coming.
Keith Weiner:
I’m going to steal Ben’s line. What I thought Ben was going to say is we had a zombie month on the Gold Exchange podcast a year ago, October, the lead up to Halloween. The theme was the zombie companiesand we had a bunch of different guests that were experts in various aspects of this. I think it was the number of them, 20 % of all corporate debt outstanding back before rates were going up was zombie debt. And the profits were less than interest expense at zero. Then you hike the T-bill rate to five or five and a half %. And what is the zombie company going to have to pay when it’s loan resets? And its how many companies that weren’t zombies at zero interest rates are now zombies at seven or eight %? There’s a whole other cohort that’s probably half or more of all corporate debt is zombie debt. And these rates, what is the Fed going to do? Well, obviously, it’s only a question of how much crisis they allow to unfold before they slam the rates back to zero and beyond.
Brien Lundin:
Yeah. And that debt, when they default, that money goes to money heaven. So you have a tremendous deflation. As we know, central bankers are raised at their mother’s breast to a poor deflation. That’s one thing they all agree on, is you cannot have deflation. So again, if you thought that the great financial crisis prescription was traumatic, if you thought that the post-COVID prescription was traumatic, wait till you see the floodgates opening up when this hit. Do you remember.
Keith Weiner:
When the New England Patriots got caught deflating the football?
Brien Lundin:
Yeah.
Keith Weiner:
So there was a meme that showed Paul Krugman screwing his face up. And he was like, What? You’re trying to say what? What? Deflating what?
BVN:
Brien, I want to ask you in terms of the zombies, another thing that we discussed actually on our last podcast with Bob Elliott, we were saying, hey, listen, the Fed is not going to get trapped in the same scenario twice. If they know that, hey, last time the toilet exploded, so I really got to make sure, okay, make sure no water leaks out of the toilet, then they’re forgetting that the shower also has a spigot. So it might come out of the shower or it might come out of the faucet or it might come out of the tiles. So the one area that they’re looking at, okay, yeah, maybe they can have some extra padding there. They can really keep their eyes on it. They’ll make sure that nothing happens. There’ll be no deflation, God forbid. But they’re not looking at the faucet, the shower, the sink, the incinerator. All these other places where water can leak or all these accidents can spring up. Another example would be commercial real estate. When they have to go and say, hey, this 20 billion dollar building doesn’t really make sense at eight % mortgage rates, people are going to say, well, here are the keys.
I’ll just send them right back. So question for you, Brien, other than, let’s say, these zombie companies, where are some places that investors should be looking and saying, hey, am I in one of these dangerous zones that the Fed is just not paying attention to?
Brien Lundin:
Well, all over the place. You talk about commercial real estate, there’s one. You can look at multifamily housing, which the permits soared just the last month, but there’s no financing stacks being put together for new construction. They got these permits, but there’s just nobody investing, and new starts are about to, from what industry insiders are saying, are about to fall off a cliff. It goes back to what the Fed wants to happen, and make no mistake, the Fed actually wants a recession because they believe, and I think rightly so, that that’s the only thing that can kill off this job market in the US, which is amazingly tight and resilient. As a side note, the US economy is incredibly dynamic and you have to really screw things up to send it into a recession or depression. Bad news, they’re really screwing things up and they really do want a recession. But again, it’s like, Be careful what you ask for because you have all the issues that come from going from the easiest monetary policy in human history, followed by one of the harshest tightening cycles ever seen. You have all the issues arising from that: the debt resets, the housing, the commercial real estate, everything else, and the just general delays that an upcoming recession is going to create.
A recession is, I would think, the most likely thing that will force the Fed’s hand, but that’s a very general term. Where will that recession originate? What will drive it? Which then leads to how deep and how sharp it will be, which then implies what the Fed’s reaction will be and how sharp it will be. But these things tend to build on themselves. I’m not a big believer that we can have just a little bit of a slowdown without the whole economy starting to trip up on itself in light of what the Fed is doing. But you also have, as possible candidates, the banking crisis that could reignite at any time because the business practices of birth, Republican, Silicon Valley Bank were not that far removed from the normal operating practices of just about every regional bank out there. Silicon Valley Bank was a classic bank run fueled by text messages and Twitter. It just came a lot more quickly than we saw historically because of that. That can reignite in a flash. We have the whole derivatives issue that’s always out there. There’s the interconnectivity of these derivative positions and the dominoes where one can fall and cause trillions and trillions of liabilities to all of a sudden come to the fore.
The bottom line, if you’re looking at what might be the thing that creates the next big crisis, I think it’s most likely to be something nobody’s really considering. It’s going to be a bit of a surprise. That’s what we’ve seen many times. There’ll be one person who figured it out and bet on it like we saw in 2007, 2008. But generally speaking, I don’t know that it’s going to be something that’s already made the headlines. I think it may come out of left field.
BVN:
Yeah, Brien, I do tend to agree with you that it’s always the unknown, unknown, right? We do know some of the known, unknowns. We don’t know how bad it is in commercial real estate. Hey, we don’t know what’s going to happen with these zombody companies, but at least we know that we don’t know. The real issue are the unknown unknowns. We’re like, we didn’t even think to look over there. And of course, Keith, I want to get your opinion on this. All the economy is centrally planned or otherwise are interconnected not only by the interest rate, which affects pretty much all businesses, but the liabilities of one businesses are sometimes the asset or maybe always the asset of another business. And this can lead to a domino effect where, hey, if Keith didn’t pay his bill on time, well, I can’t pay my plumber. And if my plumber can’t pay his employees, well, then they can’t go out to Shake Shack. And then I mean, Shake Shack and so forth and so forth and so forth. So, Keith, tell me a little bit how did the liabilities and assets Domino’s play out with high rates?
Keith Weiner:
So the problem with Silicon Valley Bank was the value of their asset, which was the Treasury’s liability, went down, right? So rising interest rates is the strict math amount to lean towards the CSA. If rates are going up, then bond prices at least are going down. There was no credit risk because they own treasuries. They didn’t own corporate bonds, mortgages, leverage loans. It was just treasuries, as far as I’ve read. But the treasury bond fell in market price, and that was enough to cause them distress, to say the least, and then they failed. In most other places, you not only have the market price risk, but you also have the actual credit risk itself. So if I have a balance sheet that’s loaded up with commercial real estate bonds, the market price of any bond is down because it’s a higher interest rate environment. But on top of that, there’s also a risk that the commercial real estate developers that owe me this money that they have high vacancy rates. So Monetary Metals, our office is here in the Scottsdale Galleries, which is a large commercial product that was originally built as a shopping mall, ironically, during the 1990s, failed as a shopping mall and then it was redeveloped as a commercial office complex.
And It’s a parking lot is virtually empty. When you come into there’s a giant atrium and then all the offices on three levels are all around it. Most of them look dark to me. There’s not a lot of people walking around in the atrium. There’s a huge amount of furniture there. There’s all these different settings people to basically have coffee and have meetings and whatever. Most of that furniture is empty most of the time. How is this developer doing on making their monthly debt service payment? I don’t know, but there’s a problem. So if my balance sheet is loaded up with this stuff, so I owe, let’s say, a billion dollars to my lenders, and then I have a billion dollars worth of property developer debt as my asset and their liability, and then they default. Now suddenly my balance sheet collapses, the asset side collapses. Therefore, I can’t service my liabilities, which is somebody else’s asset. And so you get dominoes. And so they go all the way around the monetary system, the entire thing, you want to talk about deflation. Their worst nightmare, actually, it’s our worst nightmare as well. I don’t think anybody should want to see this happen, is that everything that everybody considers to be money is all wiped out in a giant zero event.
And we all go back to whatever base money is that is ineffective by this. I’m not sure how much that would be. That would be an epic wipe out. That would be a collapse and a major disaster. And people think deflation is good because I’m going to have the same amount of money. But all these other consumers that are trying to compete against me at the grocery store, they’re going to be out of my way. It’s like, why do people vote for LightRail? And we had Brent Kaplan on our podcast, and he disagrees with me on this point, but I still hold it. I think most people vote for light rail. Yeah, okay, it’s green, good for the environment, blah, blah, blah, blah, blah, blah, blah, blah, more social. Everybody should be riding the train together. But I think most people vote for light rail because they’re stuck in traffic on the freeway and they think all these other cars will be out of my way. All these other people will be riding the light rail, and therefore I’ll have the road free to myself. Yeah, okay, that’s worth some tax dollars for that. And of course, all the other drivers looking at them with the same assumption.
It’s the same thing with, Oh, yeah, let’s have some unemployment to reduce prices at the grocery store. So all these other consumers will no longer be out competing me at the grocery store. Well, what if it’s you losing your job? And besides, we have such a vast welfare state at this point. I’m not really sure that consumption goes down all that much and people lose their jobs. They just go on to welfare and unemployment and whatever. Certainly, they’re still buying the same food as they were. So how does this cascade? I think the Fed, the difference between the Fed today, as I read it and the Fed of 2007 to 2008, is the Fed at that time, I mean, forget the propaganda when they say everything’s fine, it’s all contained, blah, blah, blah, blah. They feel that animal spirits animate the economy and they have to be optimistic lest they become a self-fulfilling prophecy, which is rubbish. But I think the difference is the Fed today is hyper, I’ll use the term hyper proactive. The slightest leak in the dam and the squid, spouts another tentacle to plug the leak and another one and another one.
They’re doing all kinds of things even now. So this problem that happened to Silicon Valley Bank, as Bryan said, happened to every other bank as well. It was not unique to Silicon Valley Bank. And so what does the Fed do? They said, we’re going to have this term Loan Bank lending facility. I think I forget what they called it. Basically, it’s repo for treasury bonds. But for banks that qualify, they’re going to repo those bonds at face value, whatever the bank paid back at the peak prices in the summer of 2020, not today’s prices, which are 25 % down from those prices. So they’re going to repo it at full par value, which effectively means now they said it’s full recourse against the bank, but if the bank needs to bail out now, they’re in no position to demand any recourse. They said it’s only one year, but if things don’t change in a year, they’ll extend it. This effectively creates, bifurcates the interest rate. So there’s one interest rate for us. If you want to borrow money today as a business, T-bills are at five and a half % and you’re getting a spread to that.
SOFR is at five % and six % and you’re getting a spread to that. But if you’re a bank and you’re stuck with all these assets and your balance sheet, then the interest rate is effectively right back to 0.65 %, which is what it was in the summer of 2020. So that’s an example where they’ve sprouted a tentacle to plug that leak. Another one that’s really been concerning me, and I think I’ve written about this and I’ve muttered about it on a few podcasts over the last year and a half or so, why has the spread between junk bonds and treasuries? So anybody can go look at B of AML option adjusted spread. A lot of people look at, what is it? Tlt minus J and K. You can do that in your brokerage account. The spread between junk and treasuries. Why is that not blown out? I mean, everything has gone up together, but that spread isn’t really particularly wider, and it should have completely blown out and has it. And that’s really been concerning me. So I had a very fascinating conversation with a friend of mine in the insurance business, and he was talking to somebody on the asset management side of a big insurance company.
And they said that the insurance companies, depending on what asset they buy, they have to reserve a certain amount of capital against it. You can use the greatest leverage for things like T-bills and much, much less leverage if you’re buying junk bonds. They get some special credits for purposes of their balance sheet capital if they’re buying junk bonds today, that isn’t normal. So the regulators are saying, stuff yourself to the gills with junk bonds, and we will look the other way. Perhaps the way the authorities did when Silicon Valley Bank was loading itself up with 10-year Treasury bonds back by demand deposits, we’ll just look the other way and allow an accounting fiction to let you get away with this. So the Fed is very proactive in trying to find buyers for all this stuff and trying to tamp down the volatility that would otherwise already have exploded as they did post-COVID, as they did post-2009. Each of these things that change the rules, let’s make things less honest, less transparent, and then tamp down the selling wave that would about to explode in our faces. Then to your point about, okay, that’s the toilet, but what about the shower?
What about the sink? What about all the other things? The dog bath in the basement. It’s going to come exploding out of a source that they didn’t anticipate. And then if they’re a little bit drunk and the leg is too late and then they react to that, it was slightly delayed and then overcorrect. All we can say right now is the pressures are building and they’re already enormous.
Brien Lundin:
The insane thing about what you just described is that so many people, including at the Fed, will make that argument or use that as the argument for why we need the Fed, and down these things and rectify the failures of the free market? Because obviously, when you have a free market, things spin out of control. The answer then is going to be, we need to get the Fed broader powers and stay out of their business, let them do what they want. And that’s going to be what comes out of Washington after the next crisis, is they need more power, they need more ability and more programs and more levers to pull.
BVN:
Right. The issue was not, hey, this whole system itself is incentivized to create problems. Look at what you did here and there and you even admitted, oh, this was us. But the issue is never let’s get rid of this. Let’s privatize this. Let’s do something here. The issue is always we just needed more people. We needed more PhDs. We needed more broad authorities to look for commercial real estate this time. Oh, if we only had ten more PhDs, we would have seen commercial real estate.
Keith Weiner:
There’s a sarcastic joke lingering in my head right now. What’s the word for when the Fed policy screws it all up and causes a great big failure, free market failure.
Brien Lundin:
Right. And we need better models, so we need more PhD economists and the staff expands and they’re making $250,000 each. And it really does make me want to run for Congress just so I can ask them, what the hell are you doing?
BVN:
Well, unfortunately, it seems like if we ever have really high unemployment, the Fed can just have everyone do a PhD paid for by the government, then the government will say you don’t have to pay for the PhD, and then the Fed will hire everyone with the money that they’ve borrowed. So I think this is an actually viable economic plan. But, Bryan, I want to ask you. The New Orleans Investment Conference is coming up. We’ve got an incredible lineup of speakers, Keith included. So who is coming this year? What can we expect? And with the environment, what do you think are the main topics?
Brien Lundin:
Well, the main topics, I believe, are just what we talked about, that the end of this tightening cycle is coming. So what’s the next big thing and where is it going to come from? And I’ve got this, I think you all will agree, just an incredible lineup. I’m just looking at a list of our speakers at the head of it is Matt Taibi, who is not so much macroeconomics, but represents another big issue, the assault of government on free speech and censary. We just saw obviously COVID brought out a lot of new efforts by the government to throw free speech, and Matt has been at the forefront of exposing that. He’s going to have a special presentation for our audience on that topic. But on macroeconomics, we have James Rickards, Danielle Di Martino-Booof, George Gammon, Rick Rule, Dominic Frisby, Brent Johnson, Lynn Alden in person, rare to see her in person at an event. She’s coming in. Dave Cullum, who’s always a hoot Peter Bookvar, the resident contrarian on CNBC, just absolutely brilliant. Jim Stack, a long time friend of mine, going back decades, has predicted every bubble and bust really over the last 35 years.
Peter Schiff, Jim Iuorio, Tavi Costa, Adrian Day, Mark Skousen, Keith is going to be there and really just going down the list, dozens and dozens of the top experts, not just in macroeconomics, but in metals and mining, which is one of the areas obviously that we’ve covered over the decades very closely, and in really every asset class. We also have Constantin Kisin coming, who is more on the geopolitical end, but he, I think, is the most eloquent commentator out there today on freedom of not just freedom of speech, but anti-voteness and really personal liberty. And very happy to have him and a couple of special presentations. It’s been called the world’s greatest investment event. And I think this year’s lineup, this year’s roster lives up to that like never before.
BVN:
Yeah. And, Brien, what I find so interesting about the event is not only if you’re an investor, you can say, Hey, I want to learn about commercial real estate. There’s going to be an expert there. Hey, I want to learn about whatever, yield on gold. Well, all right, Keith is going to be there. All right, hey, I want to learn more about the mining sector. Okay, you’re going to have mining companies there, right? This is not just, hey, every mining company is showing up. And if you’re not interested in miners, well, the embed is not for you. It feels like there’s actually a speaker, a talk, and an event that’s really catered to just everything that you need to know, and that goes back to the unknowns, unknowns. Well, now you might know about a couple of them.
Brien Lundin:
Yeah. The agenda goes from seven in the morning till about nine o’clock at night. Just absolutely jam-packed workshops and speakers, lots of opportunities, social opportunities to mingle with the other attendees, and every single thing is recorded. You don’t have to feel it sounds overwhelming, but you really can go in there and dip a ladle in this information stream and this one and that one, get back, review everything you weren’t able to attend personally and put it all together. But there is no other gathering out there of independent, really smart thinkers, thought leaders out there like this year’s New Orleans Investment Conference. Our room block is going to be closing well before the event and the price is going to be going up. I really urge people to register as soon as they can and make sure they get a spot in our host hotel and save as much money as they can because you won’t see another event like this anytime soon.
BVN:
Absolutely. So, Brien, final question here. What’s a question I should be asking all future guests of the Gold Exchange Podcast?
Brien Lundin:
Oh, that’s a great question. I would ask them, do you tend to do gold price predictions? Because that always puts people on the spot. Makes them squirm a bit.
BVN:
Ryan, I want to thank you so much for coming on to the Gold Exchange Podcast. Where can people find more of your work? Where can people read the Gold newsletter? And of course, where can people sign up to come to the New Orleans Investment Conference?
Brien Lundin:
Well, they can go to neworleansconference.com, very simply, neworlandseconference.com to get all the details on the event and they can sign up for Gold newsletter or our free e-letter, market commentaries, and they can go to goldnewsletter.com for that.
BVN:
I want to thank you so much for coming on as the unknown unknowns rear their ugly heads. We’ll be sure to have you back on. And of course, we’ll see you all in New Orleans. So we hope to see you there.
Brien Lundin:
Great. Thank you so much!
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