The Dividend Cafe - When Just One Topic Won't Do

Episode Date: March 8, 2024

Today's Post - https://bahnsen.co/49VU9Du It's been a weird week to pick a topic for the Dividend Cafe.  I have about six topics mapped out for future Dividend Cafes, yet none of them grabbed me to do this week.  I took an Acela to DC from New York on Wednesday late afternoon and felt pretty inspired about one topic, and then felt inspired about another as I took the train back to NYC 24 hours later.  I did a panel with David Malpass, recent president of the World Bank and Treasury Department Deputy Secretary for three Presidents, at the Library of Congress yesterday, and when I came off that stage, I had a whole new inspiration for today's Dividend Cafe.  I did a podcast with John Mauldin earlier in the week that put many ideas on the table (as all my talks with John always do).  We had a State of the Union address last night and experienced "Super Tuesday" just a few days ago.  The White House announced plans for credit card fee restrictions this week.  And the Fed announced a reversal of plans for onerous new "Basel 3" capital requirements on banks. Do you see what I am saying?  I have had one idea, inspiration, or fodder after another for this Dividend Cafe all week, and when it comes time to put pen to paper, the only choice I have is to do …. All of the Above! Jump on into the Dividend Cafe.  We have a lot to talk about! Links mentioned in this episode: TheDCToday.com DividendCafe.com TheBahnsenGroup.com

Welcome to the Dividend Cafe, weekly market commentary focused on dividends in your portfolio and dividends in your understanding of economic life. Hello and welcome to another episode of the Dividend Cafe. I am very excited to tell you that I could not decide what to talk about this week in Dividend Cafe. So instead, I'm going to talk about seven or eight different things. I actually had a topic kind of set and got inspired about it as I was taking the train down to DC at the end of the day Wednesday for a meeting. And then in a meeting on Thursday, I got inspired to another topic and then changed

my mind. And then on the train coming back from DC to New York Thursday evening, I then got inspired to another topic. And then the State of the Union was last night. And there were a couple other things that sort of went across my radar this week. And so when all was said and done, I just decided to avoid a single topic and cover a couple of different things. So that's what we're going to do today. This trip to DC, by the way, it was a very quick trip. I was literally there a total of 24 hours at a dinner meeting Wednesday night. And then Thursday, there was a conference for the Coolidge Foundation. Many of you will know that Calvin Coolidge was once the president of the United CEO Amity Shlaes, who's a well-known economic historian, long-time Wall Street Journal writer, and a very dear friend of mine and someone whom I adore. And Amity asked me to do a panel with David Malpas, who is the just immediate past president

of the World Bank. And David served as Deputy Treasury Secretary in the Reagan, Bush Sr. and Trump administrations. One of those three was actually in the State Department, but let's just simplify here. And so I was doing this panel with David yesterday, and it occurred to me we were discussing debt limits and the debt ceiling. And for those of you that have been a part of Dividend Cafe for a while, you know that I've had some pretty strong opinions in the past, and I still do, about the silliness of the debt ceiling. Now, I consider myself as fiscally hawkish as someone could be, and I vehemently oppose the excessive indebtedness

that we have. But I believe the debt ceiling is obviously not doing anything to stop that. So we basically have it for no purpose whatsoever other than to disrupt financial markets, which adds cost, which adds burden, which adds volatility, which adds regulation. It sort of imposes upon financial markets every year or every few months or every few years or whatever the frequency is, and yet does nothing to stop the growth of debt. And David made a suggestion that really resonated with me, and I wanted to share it with those of you in the Dividend Cafe, about the idea of taking not the annual amount that's going to be spent that then triggers a debt limit, which they have a million mechanisms to get around it,

to do accounting chicanery, to suspend the debt limit, to use continuing resolutions, all the different things. It just doesn't work and it's never going to. It's never going to. And if it was going to, then why not just stop the spending? In other words, if all of a sudden the discipline and the resolve and the legislative technique was all there to make the debt limit serve as a real governor on growth of spending, then why not just have a limit to the growth of spending? Why not just not pass budgets that do things we don't want them to do and pass budgets that do the things we want them to do? So anyways, okay. David's suggestion is that the debt to GDP, which is a ratio that is near and dear to my heart because I talk about it all the time,

it sort of speaks to the balance sheet of the country, the Treasury Department. The debt is the total amount of liabilities. And in this case, we're talking about the public debt. We're excluding intergovernmental debt, which, by the way, is really just basically two categories. Money that the government has borrowed from itself out of the Social Security Trust Fund and out of the Medicare Trust Fund. So its left pocket owes its right pocket money. If we just look at public debt, meaning some externality that the federal government owes money to, and then divide that by the GDP, which is, again, the measurable amount of the gross domestic product of the country,

which has its own formula and it's updated quarterly. And if we said any point at which it is in excess of 100% debt to GDP, that Congress goes down to a bare minimum salary. They do not get bonuses. They cannot hire new staff. Perhaps they don't get paid at all. There's all kinds of things you can do. But basically, literally not allow senators and congressmen to travel and not just make sentences a policy but embody it into law have it passed into law where out of debt to GDP breach these things can't happen well see they just wouldn't do it they would not end up you know allowing the debt to get to that level and the reason is because the second variable is going to be more outside their control. They're not going to have the ability to say, hey, we can keep driving debt

because we're going to grow GDP from it. They are well aware that they have all their hands on the levers of the numerator and very few hands on the levers of the denominator. If they were more economically astute, they would realize that they're actually hurting the denominator by what they're doing with the numerator, but I digress. So I don't think this is about to happen. And yet, I do think it's one of the first sort of sensible ideas I've heard that would pragmatically work. So many things that we throw out there, they sound great. And maybe what the left loves it, it rallies people up, or the right loves it, it rallies people up. You know, there's things that we throw out there, they sound great. And maybe what the left loves it rallies people up or the right loves it or rallies people up. You know, there's things that get thrown out there. We heard some stuff, you know, that are at the State of the Union last night, that's generally

just kind of red meat for a base of voters, you know, are they really going to go tax everybody on their actual net worth every year? Of course, no. But it sounds really good. And there's other things, you know, that the right will say about this debt limit, and we're going to shut government down and this and that. And that never happens. It never works. It never goes well and blah, blah, blah. So knowing the kind of political reality, this to me is something that's politically doable and economically and procedurally and politically wise. And so I throw it out there to say sometimes good ideas take a while to come to pass, but it's nice to know that there's at least an idea on the table that could be interesting. So debt to GDP, having to stay

under a threshold gives a lot of incentive to reducing excessive indebtedness. Switching gears, I wrote a different cafe last week about private credit, what I thought was the lay of the land in the asset class where I thought there were a lot of misunderstandings in that world. And somebody asked a question that I thought was a really fair question, which is if this is going so well, why aren't other banks jumping into it? In other words, why have private credit, which is sort of lending being done away from banks, if it's all going so well, why don't the banks just want to do it? And then, of course, you get a multiplier effect because they can participate in fractional reserve banking. Well, part of it is just vocabulary. Like, why can't you have a bank do non-bank lending?

You know, it's a tautology, right? By definition, this is non-bank lending. But I want to make clear, we put links in Dividend Cafe, but the three pretty much largest investment banks, certainly in the American economic system, Goldman Sachs, JP Morgan, Morgan Stanley, all three have announced substantial interest in expanding their own private credit platform. But they're not doing it with balance sheet capital. They're not using their money. First of all, they're pretty much eliminated from doing so. And if not eliminated, substantially limited by the Volcker rule of Dodd-Frank. So the companies are not allowed to use their own balance sheet for such things.

And then as far as using depositor money, it's so highly regulated and subject to various liquidity restrictions and risk weighted considerations in their regulatory capital that defeats the whole purpose. The whole point is that this is credit being extended outside the banking system because either it is loans being done that banks can't or banks won't, or there's just some competitive advantage to the borrower to go outside the banking system. Oftentimes, a private loan is not going to be seen by the whole marketplace, where when you go out to a syndicated loan or something that's being done from the bank system, the whole street is going to see it. So there's an opacity that is

an advantage. There could be terms that are advantage. And there are most certainly, There could be terms that are advantage. And they're most certainly, from the borrower's standpoint, is speed. They can get to market a lot quicker than the underwriting bureaucracy of a lot of banks. So the whole point is that banks generally are more asset-backed lenders. You know, the most common lending that gets done out of a commercial bank is a residential mortgage. And the collateral is the house, which is why, in theory, there should never really be losses in a residential mortgage ever, because they should, you know, not in the pre-2008 world, they got so out of hand, but they should be lending with protective equity and have the underlying collateral that

if there's a foreclosure default, they're able to recover their amount and then some. But the commercial lending space certainly can lend itself to certain risk. But again, it is backed generally by office buildings, commercial projects and what have you. And then even a lot of business loans generally come with personal guarantees. So there's a different loan and risk profile for commercial banks, where with private credit, it's oftentimes more secured by the cash flows of the business. And therefore, different risk profile, but also more opportunistic for investors, for asset managers, for lenders, and yes, for borrowers. I hope that makes sense.

I think the biggest event of the week was not State of the Union, wasn't anything particular in the market, wasn't even the employment report that came out today. But it was the word that I think the Fed had been kind of a little bit telegraphing this was coming already, but making official this week that this fear that the new vice chair of supervision at the Fed, Michael Barr, who had come in with guns a-blazing and had requested or put a proposal out for a Basel III supervisory regulatory apparatus for the big banks. And what that came down to is just far tighter definitions of risk-weighted assets, reformulizing how much capital banks held against certain types of assets. The more capital they have to hold, the less capital banks held against certain types of assets. The more capital they have to hold, the less capital is put to productive use, which limits profitability. It's a big deal.

You do not want undercapitalized banks. You do not want irresponsibly capitalized banks. But if you have excessively overly capitalized banks, by definition, that means you have underproducing banks, which hurts the whole economy, especially in talking about the limited number of big banks we have in our country. And it really appears that J-PAL and the Fed are kind of throwing out the whole thing. Now, they are coming out in June with a set of counter proposals. But the Basel III that was going to require some of the big banks to increase regulatory capital by 16 percent, it was a big deal. The banks were going ballistic over it.

They're now looking at recalculating how banks would do losses, the risk weighting around certain assets. And perhaps in the wake of what they learned from the Silicon Valley bank failure, re-measuring how different customer deposit categories count. Instead of having all deposits counted dollar for dollar the same way, viewing certain uninsured depositors, depositors that have above a certain amount of different categories, allowing these deposit ratios to be kind of weighted around the sort of stickiness of that deposit base itself can't be perfect, but it can be formulized to some degree. And that I think is going to be part of it. So all that to say, very substantive dodging of a bullet this week around the way in which the regulatory capital requirements of banks

are now not going to be redone as had been previously threatened. Another news release this week was the Biden administration announcing out of their Consumer Financial Protection Bureau, which again, we don't even know if this bureau is going to survive a pending Supreme Court decision. which again, we don't even know if this Bureau is going to survive a pending Supreme Court decision. My own guess is that the existence of the Bureau will survive, but it will be that they will rule in the favor of the plaintiff that is arguing that the Bureau's current funding and structural mechanism is unconstitutional. I mean, I don't want to get ahead of myself because until the court rules, we don't know. But there's already sort of existential issues lingering about the whole existence of this

bureau that you recall was a post-Dodd-Frank creation with Elizabeth Warren in the Obama administration. And I have my own beliefs about the efficacy of this bureau and what they've done. But this week, they added to my beliefs by saying that credit card companies can no longer charge more than an $8 fee. That's the number they set for late payments. And if they're going to charge more than that, they have to come explain it, justify it, and get permission as to why the fee structure ought to be more. Now, you know what? Maybe they shouldn't be charging nothing. Maybe $30 is a good amount.

Maybe $5. Maybe $8 is the perfect amount. I have no idea. I do know the two people I believe most qualified to make that decision are the card carrier and the card company together, two private parties in a transaction together. But be that as it may, the point I want to make is a broader economic theory point for Dividend Cafe listeners, viewers, and readers. They are going to get this revenue. If they cap the amount of $8, then the companies will end up adjusting with the borrowing cost. They can affect the interest rate. They can affect the way the underwriting. They can affect other introductory fees. They can take it out of card benefits and point systems. There is some way, I don't know exactly how, but see, this, all you do is you move the cost from one place to another. And it's going to be the people that they say they're

trying to help who pay it. So these unintended consequences are important to understand. Another theory of the case in terms of economic cogency in the State of the Union, but also just sort of throughout the week. Look, this is not new, this theory that was promulgated last night about greed causing inflation. Corporate greed is why prices have gone higher. It's been out there for a while, and it is a popular leftist screed. And I don't mind that different people view this issue differently than I do, but I just want to make a point empirically,

as people wrestle with kind of what they think inflation is, where they think it comes from. Do we think that greed comes and goes? Is greed transitory? Like were some companies interested in good profits for the last six months or last two years, but for the 30 years before they weren't? For 1990 to 2020, we had a 2.17% annual increase in consumer prices. And yeah, we then went to an 18-month period where things went higher. You still, by the way, over 34 years have an inflation rate less than 2.5% per year. But if the reason that certain prices have gone higher is corporate greed,

why did they forget to be greedy for a long period of time? Why does greed come and go? Well, see, of course it doesn't. If you define greed as people trying to make the most profit they can, the issue that's forgotten is that there is a permanent tension in economic calculation between volume and price. Would I rather sell a million units at a dollar per unit or 500,000 units at $2 per unit? Well, that's going to get you to the same place. And then those knobs have to get turned about what's easier to do. Higher margin, lower volume, higher volume, lower margin. That's economic calculation. That's what businesses do. And they don't get to do it in a vacuum because they also have to do it with consideration to what their competitor is doing.

And so this idea of greed is very true. The companies want to make as much money as they can, which is what causes them to have to compete on price. I want to sell more units for $1.90 than I would sell at $2. And even though we would charge $2.4040 there's another company charging $2.10 so we push down to $1.90 you know the the fact of matter is is that greed is a solution to inflation not the cause of it meaning it puts downward pressure through the competitive process and until we understand that greed self-interestinterest, economic calculation, human nature, these things are all

present in how prices get set. But the notion of a profit mode of being inflationary is utterly absurd. Okay, speaking of utterly absurd valuations, I believe that the most significant things that happen that damage markets are debt-fueled bubbles that implode. And we've talked much in the history of my podcast and my own work and writing on Japan, on dot com, on the seminal moment of my career, the global financial crisis of 2008. These were all leverage-driven bubbles. And all bubbles that unwind that do systematic damage are levered. There are times that something is just overpriced and it has to come down. And if there isn't a whole lot of systemic leverage behind it, it doesn't become a systemic problem.

But what do you do when there is a valuation richness, when things are just overpriced in the market, as I would suggest a lot of the bigger cap weightings of the index currently are? Well, there's three things that could happen you could have an asset bubble burst and again japan.com the gfc 2022 crypto is a great example where it explodes drops a whole lot and then has to kind of reload and rebuild assuming it does it all some some don't then you can just have a regular bear market. And a bear market where prices drop 20% or so to take excess frothy valuations and just right size them. And it can happen kind of suddenly. It can happen violently.

It's not fun. But a bear market just brings the overpriced price down. And then you move on with your life. And then the other possibility is this idea of a flat range bound market where maybe a company that's very overpriced has its earnings grow a lot over the next three, five, seven years, but doesn't have its price grow a lot over three, five, seven years. And so you end up sort of earning your way into the valuation, but without any investor gain for a long period of time, this kind of range bound, flattish market.

I think all valuation excesses get solved one of those three ways. And the third one is by far the most benign. And I don't know that there's a better scenario on the table than that. And the other two are worse. Do I think when I talk about the index being in a range bound market for the next three, five, seven years that I'm saying something hyper bearish?

No, I think I'm saying the best outcome of all of them. Something to think about. I talked in my what's on David's Mind section of the DC Today. Keep in mind, every DC Today that you get, Tuesday, Wednesday, Thursday, I'm writing myself the What's on David's Mind. Brian Saitel is doing the market synopsis and the questions that come in and his own commentary from the daily market and economic events, and he's doing the podcast, obviously.

But what I wrote about in What's on David's Mind yesterday, Thursday, I just want to repeat in the aftermath of last night's Day of the Union, that, yeah, the questions are heating up big into my inbox about the election, politics, what to expect. And that's to be expected. We do have a little bit less than eight months to go now. Yay us. But I do not believe that markets in the economy respond to politics the way many people believe they do. There's too much nuance. There's too many caveats. There's too many push-pulls and uncertainties. And so I expect that there could be some heightened volatility. And I think markets are always trying to price in what they can.

But I remain of the opinion that markets can't price who's going to win the presidential election because it is going to be very close, it appears. But they, even if they could, can't price what's going to happen the presidential election because it is going to be very close, it appears. But they, even if they could, can't price what's going to happen with the House. They can't price what's going to happen with the Senate. And because the odds are overwhelmingly high that the Republicans will take the Senate, the odds are reasonably good that the Democrats will take the House. And then you have a 50-50 on the White House, I think markets have a lot of reason to expect that whatever happens, it happens with gridlock or divided government yet again.

So I will be following the political scene closely for the next eight months. I can't imagine I've ever wanted to do so less, but I'm going to. And part of it is because it's habitual. but I'm going to and part of it is because it's habitual. I'm a political junkie and part of it is because it's my job. So stay tuned. Chart of the week in Dividend Cafe, very helpful as gold makes an all-time high to look at gold adjusted for inflation throughout my lifetime and get a clear idea why we don't view gold as the inflation hedge that many others do. A hint, it's because of math. I love covering all these different topics. Please reach out with any feedback you have. Looking forward to being with you again next week. Dividend Cafe will be recorded next week also here in the New York studio. In the meantime,

looking forward to a really good and productive week. I love the month of March and we hope you'll reach out with any questions or comments you have. I do appreciate you listening and watching and of course, reading The Dividend Cafe. Thanks so much. Have a wonderful weekend. The Bonson Group is a group of investment professionals registered with Hightower Securities LLC, member FINRA and SIPC, and with Hightower Advisors LLC, a registered investment advisor with the SEC. Securities are offered through Hightower Securities LLC. Advisory services are offered through Hightower Advisors LLC. This is not an offer to buy or sell securities.

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