The Dividend Cafe - David Bahnsen - Investors told to Brace for Steepest Rate Hikes Since 2006

Episode Date: December 13, 2017

David Bahnsen - Investors told to Brace for Steepest Rate Hikes Since 2006 by The Bahnsen Group

two signs fm information station with traffic and weather together on the sevens it's two sons morning news with mike rap on one oh four one kqth kqth news time is seven forty nine we have low fifties around town all eyes on the fed tomorrow mid predictions that will raise its benchmark by a quarter of a percentage point joining joining us to talk about it this morning is David Bonson. He's founder and managing director of CIO. Good morning, David. Good morning. Good to be with you. Thank you. I tell you what, what does it mean when we hear the phrase

tightening of monetary policy? So tightening is just basically the catch-all phrase for contracting the money supply, making money harder to come by. It primarily is a fancy way of saying raising interest rates because a higher interest rate is the Fed's favorite tool for tightening money supply. But after the financial crisis, they created this quantitative easing, another fancy term, where they essentially were buying bonds with money that didn't exist. So another way to tighten is to do the opposite of that, to take those bonds out of circulation,

which is another way of decreasing how much liquidity is flushing around the economy. Well, what does that do to folks who are on a fixed income when you start messing with their bond rates? Well, when you start messing with interest rates, what it does to people on a fixed income is it gives them a pay cut. And so essentially, in 2006, you could buy a one-year CD for about 4%, and in 2009, you could buy one for about 0%. As it stands now, we're a good eight years past the financial crisis, and a one-year CD is somewhere less than 1%.

So those on that kind of short-term fixed income, money market rates, CDs, short-term treasury bonds, safe money, they are the ones who have been victimized by the very low interest rate environment. Well, what's next for the rest of us? Well, I think that the Fed is going to continue a very slow process of tightening. The better word when we use with clients is it isn't really tightening, it's normalizing. There's no one in their right mind that believes with unemployment at 4% and an economy that appears to be headed towards north of 3% GDP growth, that we need an interest rate at 1%. So they need to get that short-term federal funds rate back up to normal levels, not only for savers, which is what you alluded to in your question, but also just to quit distorting capital markets. People make bad decisions when the cost of money is distorted or intervened with.

And then furthermore, they need some arrow in their quiver next time we have a recession. Right now, they're not prepared for it because they're still in hyper-defense mode. And if they all of a sudden needed to intervene in the economy, they wouldn't be able to. Well, what about that? I mean, we talk about the American economy, and often we have a lot of people pointing to Washington as them having the ultimate control and brains over the U.S. economy. When I get the idea that the U.S. economy is more like a freight train and they're just throwing rocks at it, what about economic policy and its genuine ability to affect how our lives move forward? Is it a responsive kind of thing that we get from the Fed, or are

they directing us in a particular direction? Well, it's a wonderful question, and there obviously are a lot of different perspectives on it, and it's very complicated, and yet I think that some guiding principles are in order here. I think that most of the time, central bank intervention is distortive, where if they sit there as the lender of last resort and sort of stay out of the way and allow what I call a rules-based monetary policy, just kind of have monetary policy set so that the money supply is managed in concert with the way the economy is organically growing, I think that they do less damage. What happens is we end up in normal recessions, normal business cycle downturns, which are

a part of economic life. And I think often the remedy ends up creating a worse scenario than the condition itself. So I don't believe that they're ill-intentioned. I don't have conspiracy theories to offer about the Fed. I just simply believe that they operate from an ideology that believes that they can do

better good for the economy top-down than those of us who are in the economy day-to-day, bottom-up can do. In reality, I have the best way to run my diet and exercise when my scale works. By tinkering around with the scale, I don't really help my diet or exercise. Yeah, well, I'm really what I really weigh. Yeah, I understand, David.

That's a great way of putting it. All right, David Bonson joining us this morning as Wall Street economists are telling investors it's a brace for the biggest tightening of monetary policy in more than a decade. David, thank you so much. Have a good holiday. You too. Thanks.