But What Will Follow?
In the late 1970s, interest rates got way out of line, with the prime rate over 10% and many other rates more than 20%. Ronald Reagan, campaigning for the presidency, famously combined the prime rate with the unemployment rate to create an otherwise fictional and nonsensical “misery index.” But it was catchy, reflected an underlying truth about public perception of the economy, and helped catapult the former actor to the highest office in the land.
Today interest rates are again way out of line – in the opposite direction, with the best US Government rates hovering around 0%. Interestingly, Reagan’s formulation still holds: the official 10+% unemployment rate — far higher in reality – amply offsets near-zero interest rates and one need not be an economist to recognize the misery for many of the current moment.
Neither of those extremes are normal. They are, in fact, so far afield from “normal” conditions that they can be difficult to explain or understand.
Yet, there is one thing which I think most of us would agree with—unless the end of our world is at hand, which I doubt: THIS TOO WILL PASS.
But what will follow? That is today’s only important question.
If I were being flip, I might say ‘wait 40 years and interest rates will be back to 20%’!
But this is not a moment to be flip.
One big difference between 1980 and now is that the instantaneous flow of information globally, which was getting underway in 1980, has achieved what is now close to maximum penetration.
That suggests to me that when a trend develops, the magnification of knowledge due to the internet creates a force in and of itself, which then develops a momentum that carries things well past what makes sense.
That tells me quite clearly that this moment of ‘free’ money cannot last long, simply because –unless our free market system is abandoned—it is contrary to all the basic rules of financial and human behavior.
So, what follows must be a ‘reversion to the mean.’
That means we should expect interest rates to rise into a normal range.
And, when that happens, investable money will move away from stocks –where it has been going lately because bonds yield so little. Equity is the only money-making game in town now, which accounts for our bull stock market in the middle of a budding depression. As interest rates rise, much of the money now directed to the stock markets will go back into bonds again (a relatively safe, if less lucrative, shelter for money). And, as the massive federal stimulus winds down (now or after another round of relief), the stock market will again more closely reflect underlying economic realities.
What does that mean in plain and simple English?
It means that, today, stocks must be overpriced, and bonds are underperforming. That will absolutely pass, sooner or later, so get ready for a more normal world of stocks that bear a recognizable relation to conditions of the companies that issue them and bonds that pay more than hiding money under your mattress would.
Whatever that means for you, it will be beneficial to overall economic growth, and ultimately for all of us.
So fasten your seat belts, secure your parachute and sit back and hope for the best!