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Some of the most popular companies are free falling - Apple down over 11%, Tesla down 25.7%, Nio down 36%, leading some people to speculate that we are in the beginning phases of a market crash that’s going to be worse than what we’ve seen since 1929. Let me explain what is going on and show you which stocks I'm buying and investing in.
Imagine the economy represented by a complex equation with many variables. Economists and investors disagree what these variables are exactly but we know some of them include things like Productivity measured by things like the GDP or the gross domestic product, the national debt levels which for us are at historical all time high, and interest rates which are at historic lows. One of the variables that central banks are able to control in order to help the economy grow is decreasing the cost of borrowing money aka the interest rates. By lowering interest rates, you help with economic growth because it encourages people to go out and borrow money to buy assets like stocks, real estate, and it spurs consumer spending. But, there’s a limit to how much you can decrease the rate before you lose control of that variable and you can’t lower it any more without it having zero effect.
Investors are worried that central banks (Jerome Powell) have reached the limit of stimulating the economy by decreasing interest rates alone because there’s a limit before techniques like quantitive easing aka the infinite money glitch aka money printer go brrrr no longer have any impact. Something interesting begins to happen and we have to help the economy grow to fight off potential inflation from what’s happened in 2020 and potentially this year as well with the 2 trillion dollar stimulus package. That’s where people have fears over the potential tightening of the monetary policy which means an increase to interest rates. When that happens, interest rates of bonds tend to go up as well, which in turn makes people fearful about the stock market, and it falls. All of this growth fueled by monetary expansion over the last few decades must eventually come to an end. This forces investors to look at what’s called the risk premia / premium.
Risk premium is a fancy way of saying what we as investors need some minimum return on our money in order to take the risk of investing our money in the first place. Why buy risky assets when you can hold on to cash or bonds if they return a comparable amount? That’s where bonds come in and it’s spooking people into thinking this is a potential market crash signal.
Bonds are a lot less risky than stocks, so let’s do this: what I were to give you a choice between receiving $100, guaranteed no risk - or you can risk that $100 to get $1,000, it’s a 50 50 chance. Now imagine this scenario: I will give you a guaranteed $500 or, you can risk it for the same $1,000 - it’s a 50/50 chance. Does that sway your decision? For most people, they would probably risk the $100 for a potential $1,000 - that might be worth the risk and that’s a good way to understand why rising bond rates are bad for stocks. Why would you take a risk on $1000 in the stock market when you can get a guaranteed $500? That’s why bonds yield increases incentivize people to move from more risky assets (high flying tech stocks like Tesla) to less risky ones (stable dividend stocks).
After a long term debt cycle, it’s usually followed by a new credit system which I find interesting because it lines up with the rise of cryptocurrency and Bitcoin this year. Even though I’m a big believer in Bitcoin / Ethereum, I still invest cautiously because the regulatory outlines of our legal, financial, and justice system are very far behind. My investments could still go to zero so instead I choose to spend most of my money on cash flow (income producing assets like stocks) so I'm buying stocks heavily focused on the general market (VTI ETF).
*None of this is meant to be construed as investment advice, it's for entertainment purposes only. Links above include affiliate commission or referrals. I'm part of an affiliate network and I receive compensation from partnering websites. The video is accurate as of the posting date but may not be accurate in the future.
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