Debt

US equity markets have re conquered all time highs. Perhaps it’s due to optimism on the end of the Iranian conflict, even though it’s still not clear when and how it will happen. Perhaps investors have decided to move on when they saw oil tankers coming to the US for oil. But it’s the debt market that requires attention. It’s also at an all time high. Debt keeps piling up. US Debt has grown almost 10X over the last 26 years (as of today national debt is $39.1Tn). For China, that figure is 130X. The Iranian conflict is going to add even more debt. A big part of the world’s GDP has been created on the back of debt. And debt interconnects economies and markets. If, for the sake of argument, Japan experiences economic difficulties and needs to sell the Treasuries it owns, the domino effect will take everyone down (including equity markets). And there is a point where investors will start demanding higher rates to hold or add more debt. The chart below does not include corporate debt, or Private credit. That’s “just” government debt. Nobody is thinking about how to repay or reduce that debt, and that only works if nominal GDP growth is higher than the net increase in debt (interest cost +new debt). That’s why we are going to see inflation. Real GDP is not going to grow enough to cope with debt, which means inflation will do the heavy lifting. And no one likes long duration bonds in inflationary environments. The title of the chart may be misleading: a big debt market may become illiquid if investors are not compensated properly. Look at what happened with the long term yield of the JGBs. Rates went up 4X in 3 years. Ray Dalio’s long debt cycle at play.

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