The Return Of Crisis

Financial markets the world over are increasingly chaotic; either retreating or plunging. Our view remains that there’s a gigantic market crash in the coming future -- one that has possibly started now.

Our reason for expecting a market crash is simple: Bubbles always burst

Bubbles arise when asset prices inflate above what underlying incomes can sustain. Centuries ago, the Dutch woke up one morning and discovered that tulips were simply just flowers after all. But today, the public has yet to wake up to the mathematical reality that over $200 trillion in debt and perhaps another $500 trillion of un(der)funded liabilities really cannot ever be paid back under current terms. However, this fact is dawning within the minds of more and more critical thinkers with each passing day.

In order for these obligations to be reset to a reality-based level, something has to give. The central banks have tried to modify the phrase “under current terms” by debasing the currency these obligations are written in via inflation. Try as they have, though, they’ve been unable to create the sort of "goldilocks" low-level inflation that would slowly sublimate that massive pile of debt into something more manageable.  

Wide-spread inflation has not happened. Why not? Because they've failed to note that plan of handing all of their newly printed money to a very wealthy elite -- while a socially popular thing to do among the cocktail party set -- simply has concentrated the inflation to the sorts of assets the monied set buys: private jets, penthouse apartments, fine art, large gemstones, etc. So yes, their efforts produced price inflation; just of the wrong sort.  

Even worse, all the central banks have really accomplished is to assure that when the deflation monster finally arrives it will be gigantic, highly damaging and possibly uncontrollable.  I'll admit to being worried about this next crash/crisis because I imagine it will involve record-setting losses, human misery due to lost jobs and dashed dreams, and possibly even the prospect of wars and serious social unrest.

Let me be blunt: this next crash will be far worse and more dramatic than any that has come before. Literally, the world has never seen anything like the situation we collectively find ourselves in today. The so-called Great Depression happened for purely monetary reasons.  Before, during and after the Great Depression, abundant resources, spare capacity and willing workers existed in sufficient quantities to get things moving along smartly again once the financial system had been reset.

This time there’s something different in the story line: the absence of abundant and high-net energy oil. Many of you might be thinking “Hey, the price of oil is low!” which is true, but only momentarily. Remember that price is not the same thing as net energy, which is what's left over after you expend energy to get a fossil fuel like oil out of the ground. As soon as the world economy tries to grow rapidly again, we’ll discover that oil will quickly go through two to possibly three complete doublings in price due to supply issues. And those oil price spikes will collide into that tower of outstanding debt, making the economic growth required to inflate them away a lot more expensive (both cost-wise and energetically) to come by. 

With every passing moment, the world has slightly less high-net energy conventional oil and is replacing that with low-net energy oil.  Consider how we're producing less barrels of production in the North Sea while coaxing more out of the tar sands. From a volume or a price standpoint right now, the casual observer would notice nothing. But it takes a lot more energy to get a barrel of oil from tar sands. So there's less net energy which can be used to grow the world economy after that substitution.

Purely from a price standpoint, our model at Peak Prosperity includes the idea that there’s a price of oil that’s too high for the economy to sustain (the ceiling) and a price that’s too low for the oil companies to remain financially solvent (the floor). That ceiling and that floor are drawing ever closer. When we reach the point at which there’s not enough of a gap between them to sustainably power the growth our economy currently is depending on, there’s nothing left but to adjust our economic hopes and dreams to more realistic -- and far lower -- levels.

When this happens most folks will undergo a "forced simplification" of their lifestyles (as well as their financial portfolios), which they will experience as disruptive and emotionally difficult. That's not fear-mongering; it's just math. (And it's the reason why we encourage developing a resilient lifestyle today, to insulate yourself from this disruption, as well as be able to enter the future with optimism.)

Too Much Debt

Our diagnosis of the fatal flaw facing the global economy and its financial systems has remained unchanged since before 2008. We can sum it up with these three simple words: Too much debt.

The chart below visualizes our predicament plainly. It has always been mathematically impossible (not to mention intellectually bankrupt) to expect to grow one's debt at twice the rate of one's income in perpetuity:

All but the most blinkered can rapidly work out the fallacy captured in the above chart. Sooner or later, borrowing at a faster rate than income growth was going to end because it has to.  Again, it's just math. Math that our central planners seem blind to, by the way -- all of whom embrace "More debt!" as a solution, not a problem.

Despite being given the opportunity to re-think their strategy in the wake of the 2008 credit crisis, the world’s central banks instead did everything in their considerable power to create conditions for the most rapid period of credit accumulation in all of history:

Lesson not learned!

The chart's global debt number is only larger now, somewhere well north of $200 trillion here in Q1 2016.  But consider, if you will, that entire world had ‘only’ managed to accumulate $87 trillion in total debt by 2000 (this is just debt, mind you, it does not include the larger amount of unfunded liabilities). Yet governments then managed to pour on an additional $57 trillion just between the end of 2007 and the half way point of 2014, just seven and half short years later. 

Was this a good idea? Or monumental stupidity? We’re about to find out.

My vote is on stupidity.

Banks In Trouble

In just the first few weeks of 2016, the prices of many bank stocks have suddenly dropped to deeply distressed territory. And the price of insurance against default on the bonds of those banks is now spiking.

While we don't know exactly what ails these banks -- and, if history is any guide, we probably won’t find out until after this next crisis is well underway -- but we can tell from the outside looking in that something is very wrong.

In today’s hyper-interconnected world of global banking, if one domino falls, it will topple any number of others. The points of connectivity are so numerous and tangled that literally no human is able to predict with certainty what will happen.  Which is why the action now occurring in the banking sector is beginning to smell like 2008 all over again:

Gundlach Says 'Frightening' Seeing Financial Stocks Below Crisis

Feb 5, 2016

DoubleLine Capital’s Jeffrey Gundlach said it’s “frightening” to see major financial stocks trading at prices below their financial crisis levels.

He cited Deutsche Bank AG and Credit Suisse Group AG as examples in a talk outlining bearish views at a conference in Beverly Hills, California, on Friday. Both banks fell this week to their lowest levels since the early 1990s in European trading.

“We see the price of major financial stocks, particularly in Europe, which are truly frightening,” Gundlach said. “Do you know that Credit Suisse, which is a powerhouse bank, their stock price is lower than it was in the depths of the financial crisis in 2009? Do you know that Deutsche Bank is at a lower price today than it was in 2009 when we were talking about the potential implosion of the entire global banking system?”


This time it looks like the trouble is likely to begin in Europe, where we’ve been tracking the woes of Deutsche Bank (DB) for a while. But in Italy, banks are carrying 18% non-performing loans and an additional double digit percentage of ‘marginally performing' or impaired loans. Taken together, these loans represent more than 20% of Italy's GDP, which is hugely problematic.

The Italian banking sector may have upwards of 25% to 30% bad or impaired loans on the books. That means the entire banking sector is kaput. Finis. Insolvent and ready for the restructuring vultures to take over.

On average, in a fractional reserve banking system operating at a 10% reserve ratio, when a bank's bad loans approach its reserve ratio, it's pretty much toast. By 15% that's pretty much a certainty. By 20% you just need to figure out which resolution specialist to call. At 25% or 30%, you probably should pack a bag and skip town in the dead of night.

This handy chart provides some of the context for Europe more broadly. I’ve highlighted everything from Europe in yellow, showing how the banks there currently top the list of awfulness:


The extreme weakness in European financial shares, combined with other factors, is dragging down Europe’s stock market dramatically. The decline has now wiped out all of 2015’s market gains and has broken convincingly below the neckline (yellow line, below) of a typical “Head & Shoulders” formation: 

Since the beginning of the year, the stock prices of these select banks are down (as of COB Friday 2/5/16):

  • DB -28.3%
  • Credit Swiss -29.9%
  • MS -22.6%
  • C -22.0%
  • Barclays -21.7%
  • BAC -21.2%
  • UBS -20.3%
  • RBS -19.6%

Those are pretty hefty losses over a short period of time, and that’s meaningful. While the headline equity indexes are managing to keep their losses minimized, these bellwether stocks from the critical finance sector are stampeding out the back door.

And when I say ‘critical’, I mean in the sense that a hefty amount of the overall earnings within the S&P 500 and other major stock indexes were fraudulent profits were derived from the banks feeding on central bank thin-air money and front-running central bank policy.

What's there to worry about? Well, just pick something. It could be a combination of headwinds conspiring to drag down bank earnings from here. Take your pick: reduced trading and M&A revenue, and lower profits from ridiculously flat yield curves and negative interest rates.

However, we have to include the possibility that No more bailouts are coming. Why not? Mainly because it would be politically incendiary at this moment to even try such a thing. Public resentment of the banks is high all over the world, and in the US specifically, there’s an election primary that is hinging for the Democrats on Wall Street coziness. Maybe the markets are pricing that in? 

Or it could be that these banks have been playing with fire (again) and got burned (again). We know for sure that a number hold a boatload of junk debt from the energy sector that will need to be written off. And we suspect many are staring at losses from writing too many derivative contracts that have turned against them.

But It Gets Worse; A Lot Worse

If only the greatest near-term risks were limited to the bad actions of the banks. But that's sadly not the case.

The collapse in the price of oil has been vicious, but it's likely not done. The oil patch has morphed into a capital-destruction zone for many drillers and as we have been warning all last year, the fallout is going to be worse than we can imagine. And it's just getting underway.

In Part 2: The Breakdown Has Begun, we lay out our prediction for the terrifying wave of defaults that will swamp the energy sector soon, as well as the many, many related industries that service it. Avoiding losses during this period will be the key priority. And precious metals will regain their role as a preferred save-haven asset class -- a victory long-suffering bullion holders should cheer.

We are now in the chaos management phase of this story. Take care to make smart choices now. Your future prosperity depends on it.

Click here to read Part 2 of this report (free executive summary, enrollment required for full access)

This is a companion discussion topic for the original entry at

Jeffrey Gundlach has been warning very loudly and consistently about the credit markets, for reasons that share and think are pretty obvious.  But it matters to some that a person managing big money is saying it, so here he is again, with today’s renewed warning:

DoubleLine's Gundlach calls market trends 'relentless and powerful'

Feb 8, 2016

Jeffrey Gundlach, the widely followed investor who runs DoubleLine Capital, repeated a December warning on Mondaythat the dramatic slowdown in global growth will trigger a collapse in some credit funds, saying that the high-yield "junk" bond market still has not hit bottom.

"Credit fund bankruptcies are coming," said Gundlach, who warned in December that the Federal Reserve might regret raising rates because of deteriorating financial conditions. "It's not a market to be flopping around in. The trends are relentless and powerful."

Gundlach, in emailed comments to Reuters, said: "Clearly, weaker-than-hoped-for global growth is the major factor in this weakness" in credit markets. "That and the credit overload I have been warning about ad nauseum."

"This is not a trader's market," Gundlach said. "It is a freight train that you want to stay in sync with. There's too much order and belief in markets in spite of big losses."

He said equities are in a bear market, with the Nasdaq down 18.3 percent from its highs and "many, many, many stocks down over 25 percent from their highs." On Monday, the Dow Jones industrials average was down more than 200 points.

What’s interesting is that he’s saying many credit funds will be going into bankruptcy. 

All of this bears very careful watching.  One of our favorites is to look at the junk bond ETF JNK which, as it happens, is both cratering and is the product of Barclays, a bank stock that did especially poorly today.

I'm relieved to say I moved a lot of money out of my Barclays accounts last week!  I'm still interested Chris to hear whether you think TPTB will try further wacky stimulus before a major bank run.  I get the feeling from recent events they may be running out of time.

Here's some real on the ground data. 
Exports are good. Retail sales are at record levels, $450 billion per month. 

Trade deficit is 43 billion per month. Annualized, less than 3 percent of GDP

Unemployment levels have fallen. U6 is falling as well. 

MBA Purchase Applications are at 1996 levels.Obviously, no imbalance there.

Auto sales running at 17 million annually. Cyclically, these have room to fall.

Fannie Mae reported that Single Family Serious Delinquency rate at 1.55 percent. 8 year lows.

Hotel Occupancy rates are solid. Better than 2015, better than the 2000-2007 average. 

Construction spending is up 10 percent YOY. 

Federal deficit is less than 3 percent of GDP. Capital flows are coming IN to the US. US bond rates are getting crushed lower. 


Now the above data doesn't mean that the stock market wont take a dive. Stocks are doing their own thing. They have ripped for years due to all the funny money. All parties come to an end just as this one will. Total US bank exposure to the oil bust is nowhere near the size of the subprime mortgage market. European banks have a problem with emerging market loans, however. It remains to be seen what the consequences out of Europe will be. Interestingly as Chris points out, bank stocks have been hammered to levels below 2009 crisis lows but the general indexes are hanging out 12 percent below recent highs. 

Bottom line. This "crisis" is just a hiccup. I don't see any real crisis emanating from the recent turmoil.The US is still the number one economy in the world. Capital will continue to flow into the US, (sorry Peter Schiff you are wrong again) affording us super cheap rates. Soon the 10YR treasury will be sub 1 percent LOL. Imagine that, US gov interest expense will continue to fall.

Longer term, I don't know what will happen.I cant forecast beyond 6 months.But what I do believe is that the US economy can sustain 35 trillion in debt no problem. Maybe after 35 or 40 trillion things start getting weird. There's nothing I can do to stop that from happening. Obviously as Chris says, get more resilient which I agree with. But these minor hiccups don't cause me to fret. We survived 2008-2009 which was a real crisis. The game has changed. Central banks are bolder than ever. Governments are bolder as well, willing to bend the rules to keep the game going. Dont be surprised to see the fed balance sheet balloon to 15 trillion. We already have 4.5trillion fed balance sheet and the deflation monster is coming back. 


In an earlier writing, I think back in October or November when the market really started to act like a see-saw, you made the comment that you were really interested in the short and long term condition of the banks/financial institutions.  If something were to start the ball rolling toward another crisis, it would be there.

The above writing is really helpful, and is the sort of info I have been watching for.   One of the things I appreciate about your perspective is the reliance on data and how it molds your opinion.  If the overall problem is too much debt in all aspects of our society, then we should look to those who issue debt, to measure their pulse, to see how they are doing in the current environment.  Most of us just don't have the time to research this.

With all of the debt out there, when the ball does start rolling down hill, it certainly looks like it will be painful. As you have said this could play out over weeks, months, years, or decades…no one knows.  Thanks for the info.

Can't do everything, but continuing to work toward more resiliency.  Pruning old apple trees on my land to make them part of my orchard.  Saved seeds from last year's garden to continue with the home food preservation effort.  Will be taping my maple trees in a few short weeks.  Probably getting chickens and bees in the spring.  Buying an ounce or two of silver when I can.

As always, thanks for the heads up.


There is little connection between the price of a stock and it's underlying asset.   The stock market is a casino in which the object of the game is to try and guess what everyone else is going to bet next.
It used to involve a lot of undignified shouting. Now it is all left to the Algos. 

In my model it is a game almost divorced from Reality. (A worthy topic in itself.)
Almost?  I suppose that there must still investors out there who peruse the company statements.

And then there is the meta-analysis aspect of the market's hive mind's prognostications. 

The question then becomes "can the Algos prognosticate?" No.  
Wetware functions in Quantum space and is hence probabilistic in nature. (As far as I can tell.)  Digital logic is a poor substitute for Quantum analysis and it's sum-over-histories approach.
Considering that our current quantum computers have only a few gates compared with the innumerable synapses in the evolutionarily honed average brain, it is hubris to consider that quantum machines will come anywhere near the power of the intimately interconnected hive mind of humans. 

It is for this reason that digital technology must be removed from the exchanges. It is blind to reality. 

Bring back the shouting.

I wonder what the credit markets are doing right now, behind closed doors…
Surging Credit Risk for Banks Is Becoming a Major Issue in European Markets (Wall Street Journal)

Europe's 'doom-loop' returns as credit markets seize up (The Telegraph)


Haven't we heard this sorry story all before in 2012 ?  While USA banks crapped themselves gambling their depositors funds on capital market derivative shenanigans it created a contagion scare-off that caused other country's well-regulated banks to get dumped too.  Canadian banks are renown for being very tight regulated and consequently low risk.  So when we heard all that Euro Debt Crisis this and USA debt ceiling that back in 2012 shareholders dumped the Canadian banks.  Same goes for 2008/2009 when US banks were going "tits-up" Canadian bank stocks got unloaded like hot potatoes but in hindsight those were most excellent buying opportunities that have rewarded Canadian banks shareholders well consistently.  This is a great buying opportunity for Canadian banking stocks as foolish uneducated ill-informed investors dump Canada's banking stocks. Don't count Canadian banks along with all the other debt-corruption-ridden ilk south of the 49th.  Buy low.  Sell high.

Chris - Love your work!  And have for several years now.  I'd be interested in your thoughts on this; what do make of this latest report stating only 4% of global oil production is unprofitable at $35? Over the years I’ve come to believe the opposite, that only about 4% IS profitable.

Chicago - The Wood Mackenzie Report has been featured throughout the "energy pages", seemingly by the cheerleaders for the status quo.  It appears that Wood Mackenzie's analysis covers "production data and cash costs, including royalties" from over 10,000 oil wells.  Those operating costs do seem to indicate that most operators can produce 'profitably' for <$35/bbl.  However, the operating costs do not include the capital costs of drilling, fracking, and well development. So, if well drilling were free, and we only considered the cost of pumping, the companies would be profitable.  Since it costs 5.5 - 10.5 million dollars to drill and frac each well (depending on the well field: Bakken, Eagle Ford, Marcellus, Permian Basin), those sunk capital costs may never be repaid at sub-$35 oil. 
That's my thumbnail sketch.  I'm sure Chris could provide a more detailed analysis…

To fill in a few details: Due to transportation costs, Bakken producers get about $10 less per barrel than the WTIC price.  Drilling costs are probably about $30-$40/barrel on average.  Then there's interest, company overhead, and land lease costs (I bet they aren't in the calculation since they are fixed).  I bet that's another $20-$25 or more per barrel.  True break even is somewhere in the upper double digits or low triple digits for most producers.