Where are we in Ray Dalio's Economy Curve?

I was reading Ray Dalio's article on LinkedIn about the current state of the economy, and I wanted to "dumb it down" (both for my own enjoyment of saying I "called it," and for those of you who are troubled as to where the market it heading).

Ray Dalio has an amazing video on the Economic Machine. I have written about it here in my "Where are we on the Ray Dalio Economy Curve?" article (apparently he's trying to figure the same thing out), and the YouTube video can be found here.

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The stock market has been crazy, and even from the perspective of an academic -- of someone who studies the markets and looks at charts for entertainment -- I've been trying to wrap my head around the whipsaws I've been seeing these past few weeks.

An oversimplification of Ray's Economy

Ray Dalio's credit cycle is often oversimplified into a question of:

a) "are we in an uptrend,"
b) "are we at the top right before a deleveraging [think, recession or market crash if it is done wrong],"
c) "have we crashed and now is the government printing money and trying to get us to ease our debt," or
d) are we going back up again?

But within the initial "a)" uptrend, there are hundreds of mini up-top-deleverage-down-recovery trends cycling over and over again -- this is the short term debt cycle.

With all of the printing of money by the US Federal Reserve in their QE programs, other countries similarly started printing. Who knows if it was trillions of dollars or more, but the whole WORLD has become overleveraged with fiat cash that has been printed and transferred into the stock and bond markets. The big fear is that on a big scale, there we might be at the top of a cycle, ready for the kind of crash we saw in 2008.

For years following the 2008 stock market crash, the US government was all about home mortgage loan restructuring, avoiding foreclosures, and getting the country's debt under control (either by bankruptcy, debt renegotiations, or government programs). This is where we started our Cashman Law Firm, PLLC in 2010 -- helping individuals avoid foreclosure. Well, at least that was the idea about it -- I had no idea that such a thing as a "copyright troll" would show its ugly head just a few months later, and being someone who spent most of my post-law school legal practice working on the issue of "patent trolls," we immediately knew defending copyright infringement cases was an area in which we could help people. Hence, in 2010, we also started the TorrentLawyer Blog, not realizing that this would end up being our law firm's focus for the next eight years (really, 8 years in June, 2018).

Back to Ray Dalio.

The point of the article is that there are many short term debt cycles within one larger debt cycle (just as an Elliott Wave impulse wave up has a 1-up, 2-down, 3-up, 4-down, 5-up trend). Here, it appears as if the stock market is simply on a deleveraging short-term trend on a larger up-trend. I'll explain.

THE PROBLEM: NEARING THE TOP OF THE LONG TERM DEBT CYCLE

Stock markets are going up. Demand for product is going up. As a result, the producers can't meet that demand. This means that more cash is thrown at a now limited supply of products, causing their prices to increase. Prices increase, companies make more money. Hence, their stock prices have been going up because of the increased revenue. However, increasing prices and diminishing supply also causes the nasty head of inflation appear, and inflation creeps up.

The Fed is kind of like the exterminator, and inflation is the bug. Once inflation shows up, the Fed has their "interest rate level" where they tick up the interest rate to slow the stock market. (Increasing the interest rate is like spraying poison on inflation). Ticking up the interest rate reduces the available credit in the market (because nobody wants to borrow at high interest rates). This means that it ends up costing more future cash to borrow money now to buy products. As a result, people don't want to borrow on credit to buy those products anymore at that high cost, so demand drops. Demand dropping causes the prices to drop. Prices dropping causes the stock market to drop.

THAT is where we are.

Where are we?

I still think that we are on the uptrend, but for the moment, at a smaller scale, we are on a correction within a larger uptrend. The stock market falling will cause the Fed to reduce interest rates, which will cause it to go up again (but this is likely a longer-term event, so there will be short-term pain in the correction).

The issue is that even though we understand that we are on a short-term debt cycle deleveraging, as Ray Dalio says, "we don't know precisely where we are [in the larger debt cycle] -- i.e., we don't know exactly how far we are from the top in the stock market and then the economy, though it is clear we are past the top in the bond market."

So as far as the stock market is concerned, we are close to the top, but not there yet. Classic market wisdom says to move to bonds for safety when the stock market is rolling over at the top of a cycle.

BUT "WE ARE PAST THE TOP IN THE BOND MARKET."

Bonds would be the safe bet in a traditional system, but the Fed has messed up the ability of investors to move into bonds because they have been artificially pumping them up since 2008 in their QE cash printing in an effort to prevent the country from going into a deep recession. The Fed was trying to create a "beautiful deleveraging," but instead, they created a MASSIVE BUBBLE and artificial increase in the prices of US bonds (and other countries doing the same with their bonds) which they are now trying to sell off to balance their books.

Why now is the WORST time to buy bonds

NOW IS THE WORST TIME TO BUY BONDS. Why? Because the Fed -- the holder of trillions of dollars in bonds -- is acting like a crypto whale about to sell all of their coins. In other words, the Fed is about to cause the price of bonds to drop significantly because they are selling their holdings. When you sell a lot of something, the value of that something decreases.

So just as the market is correcting, the bond market bubble is about to implode. What is a savvy investor to do?

PERHAPS BEING A GOLD BUG, A COMMODITY BUG, OR A CRYPTO BUG MIGHT SAVE YOUR ASSETS

I hate to be a gold bug or a commodity bug, but -- and this is simply a random guess -- investors need to put their money into something that will hold it's value and that won't go down from government manipulation (or the de-manipulation as is what is happening here). My best guess is that money is going to flock to gold.

Then I think about crypto, Bitcoin, and blockchain as a method of storing wealth. Crypto is a very young market, and would happily benefit from trillions of dollars pouring into it simply because investors have nowhere safe to go.

I really don't have an idea of what is going on, nor do I have an idea of where the safest bet to put your money is.

POSSIBLE SOLUTIONS TO SAVE THE ECONOMY

If the Fed was willing to keep the trillions of assets they have on their books while this minor debt cycle rides itself out, I believe this is part of the solution. At least this wouldn't cause a crash in the bond market just as the economy needs bonds to perform to shield them from a market crash.

What appears to be happening is that the Fed is bringing on the "pain" now before the actual top. They are selling bonds causing their value to decrease, they are stopping the printing of money which is having a deflationary effect, and they are increasing interest rates which is having a deflationary effect... Short term purposeful deflation.

I really do think that this is all just preparation for the top. Perhaps they'll sort everything out when we actually hit the top... Because if we hit it today, the Fed will be sorely unprepared for the deleveraging and societal chaos that would come next. But as much as I would like to criticize the Fed for questionable past monetary policies, really, now it appears as if they are experiencing an "oh shoot!" realization that they went too far and created both a BOND MARKET BUBBLE AND A STOCK MARKET BUBBLE, and want to be able to avoid a crash the next time the top comes. They should have done this in 2008-2016 rather than cheaply pumping up the economy, but this is where we are now.

WHAT I WOULD DO IF I WAS INVESTING

If I were investing, here is what I would do. I would prepare myself for massive inflation, because the Fed will need to increase interest rates to prepare for the big crash. I would possibly put money in gold and/or crypto -- or at least a higher percentage than the 8% Ray Dalio suggested in his All Weather Portfolio strategy.

NOTE: his All Weather Portfolio strategy relies on a strong bond market to shelter funds during a stock crash, but it won't work this time around.

I would also have to look more into commodities -- I can't remember where they are useful in the mix. Then, before the market topped, while there is no way to "time the market," at some point next year 2019-2020, I would probably go into ALL CASH (or maybe ALL CURRENCY, perhaps a currency that is not losing value). I hate the idea of people holding their retirement funds in cash, but really, the stock market is not safe, the bond market is not safe, and gold and commodities are correlated with the markets so they are not safe either. Doom and gloom, but with a smile.

DISCLAIMER: Anything written here on Steemit is my own personal opinion and is not to be taken as legal advice. We have a law firm (https://www.cashmanlawfirm.com) and you can e-mail us at [email protected] if you have any questions about what I have written here.