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The price of debt.

Urged on by the White House, the US like most developed economies, is reducing its rates of interest. The aim is to encourage more consumption, more investment and more growth. But loose financial conditions come with a price. They encourage investors to take out more debt in their search for higher returns so building an overhang that threatens eventually to break the system.

The International Monetary Fund (IMF) recently published its economic update – its Global Financial Stability Report. It makes sober reading. Here are my three take aways:

– Low interest rates are well and truly here. Indeed the use of negative interest rates has risen markedly since April. Government and corporate bonds with negative yields stand at $15 trillion.

– An economic slow down half as severe as that of 2008 leads to the “sobering conclusion that debt owed by firms unable to cover the interest expenses with their earnings would rise to $19 trillion!”

– Pension funds and other institutions are already seeking to juice their financial returns by taking on risky and illiquid investments. Any market correction could lead to a herd like sell off, a sudden and excessive drop in asset values and prejudice the foundation of these core funds.

Here are my conclusions;

1. Do not ignore the IMF – its warnings are important.

2. The US remains the most resiliant economy (see numerous of my earlier articles) but it is hard to see other nations avoid the crunch. There will be a flight to invest in the US as the safest haven which will lead to what has been called elsewhere a short term “melt up” here in the stock market.

3. So keep alert, invest as I have been advising in US centric, low p/e, high growth and solid dividend stocks. There will be a window of opportunity  on the upside Рthen it will be our turn! 

Have a good day, James