To The Moon

$SPDR S&P 500 ETF Trust(SPY)$

As per Government The market is doing great this year. If this trend continues, we could see a S&P with additional 20% gain, and everything might seem like a "Goldilocks" economy. But that raises the key question: Are we truly in a Goldilocks economy, and how long can it last?

What could disrupt this market and the economy? Potential risks include economic slowdowns, inflation, interest rate hikes, overvaluations, and growth concerns. Or perhaps the boom cycle will never end because the Federal Reserve will step in whenever needed.

The Global Economy in 2024

The U.S. economy has performed exceptionally well, growing at 2.3%—a strong figure even for a developing country. With inflation factored in, nominal growth has been impressive. Over the past few years, consumer spending has been the primary driver, accounting for 68% of GDP, while government spending makes up 19%. Other components include business investment, residential investment, and net exports (which currently contribute negatively by -4%).

Consumer Finances & Interest Rates

Consumers remain relatively wealthy, supporting spending. However, interest rates—previously held artificially low—are rising. This is increasing debt servicing costs as a percentage of disposable income. Delinquencies on credit cards and mortgages are also climbing, signaling potential stress.

Unemployment remains at a relatively natural level, while wage growth is slowing, aligning with a broader decline in inflation.

Government Spending & Deficits

One of the biggest factors in economic growth has been government spending. The U.S. government is projected to run a $2 trillion deficit this year, making up 27% of total spending. Without this borrowed money, GDP growth could fall by 4%, flipping the economy into contraction.

Debt-to-GDP ratios have soared, climbing from 35% to over 100% in the last two decades. Projections show continued increases, even without accounting for potential recessions or financial shocks. The Congressional Budget Office (CBO) estimates structural deficits of 7% of GDP indefinitely, a major driver of economic expansion.

Is a Market Crash Inevitable?

Today, the S&P 500 is priced for perfection, assuming earnings will double in two years. But if earnings fail to meet expectations or interest rates remain elevated, a 40-50% drop would just be a return to normal valuations—not even an extreme crash.

If long-term rates stay at 4-5%, the stock market’s expected return is just 7%—barely above bond yields. At today’s earnings yield, this implies that the market could drop 50% just to return to fair value.

Investors are pricing in a “no-recession” future, but history suggests boom-and-bust cycles are inevitable. The global credit bubble is the largest in history, with debt levels doubling as interest rates dropped to near zero. But now, with interest rates rising, the cost of servicing this debt is becoming a real issue.

The Cost of Debt & Interest Rates

The rising debt burden has led to nearly $1 trillion in annual interest payments, consuming 20% of government revenue. Imagine spending 20% of your income just on interest, before even addressing principal repayments.

While many want lower interest rates, the Federal Reserve's projections are diverging from market expectations. The Fed is signaling higher rates for longer, while markets anticipate a gradual decline to around 4%. The challenge is balancing economic growth, inflation, and interest rates without causing instability.

Interest Rates, Inflation, and Global Trends

The market and the Fed are starting to diverge on interest rate expectations. While the Fed aims to bring rates lower, the market is already pricing in a 4% long-term rate.

Meanwhile, in Europe, growth is stagnating at around 1%, with some economies already in a recession. The European Central Bank (ECB) has cut rates five times, but inflation is creeping back up, weakening the euro and raising costs.

Unlike the U.S., where debt-fueled growth continues, Europe’s debt-to-GDP ratio has stabilized—resulting in near-zero growth. The contrast is clear:

• U.S. debt-to-GDP is rising → 2% GDP growth

• Europe’s debt-to-GDP is stable → 0% GDP growth

The inflation and interest rate dynamic is essentially a game—how much can we lower interest rates relative to inflation without causing it to spiral out of control? Looking at Europe, we see that growth in the Eurozone is weak, hovering around 1% or even lower in some cases, with some countries already in recession. The European Union has begun cutting interest rates, implementing five cuts so far. However, as rates dropped, inflation started to rise, the euro weakened, and consumer prices surged. This economic squeeze is being felt across the board.

Despite these measures, the European Union isn’t showing strong growth. Economic activity fluctuates, and while asset purchases initially helped, debt-to-GDP ratios have now stabilized, resulting in stagnant growth. Meanwhile, in the U.S., debt-to-GDP is rising rapidly, contributing to 2% economic growth. The key issue now is distinguishing between media narratives, which often focus on a single aspect, and fundamental economic realities.

In the last two weeks, there has been a push toward easing interest rates, with rates dropping below 4.5% from 5%. Based on fundamental trends, this could potentially go below 4%, but any economic shock could drive rates back up. The challenge is maintaining control—balancing growth, political factors, and deficit levels. A 7% deficit might sustain growth, but even if lowered to 6%, any unexpected shocks could disrupt this delicate balance. Lowering both interest rates and inflation while ensuring economic growth is a near-impossible task.

A crucial but often overlooked factor is real productivity, which remains weak. On paper, things may look better, but real productivity growth is below 2%, and when adjusted for recessions, it drops to just 1%. While leverage can artificially boost growth, rising interest rates eventually limit that effect, bringing things back to fundamental productivity levels.

Europe vs. U.S. Growth

In contrast to the U.S., the Eurozone is struggling. Growth is hovering around 0.9%, with some countries already in recession. Despite five rate cuts, inflation is creeping back up, the euro is weakening, and purchasing power is declining. While the U.S. has fueled growth through aggressive government spending, Europe’s growth remains stagnant due to tighter fiscal policies.

Market Valuations & Risks

If we examine high consumer spending and confidence, we see it concentrated in financial assets, pension funds, deposits, and real estate. However, if long-term interest rates rise, these assets—currently inflated by a financial bubble—could face severe corrections. A 50% decline in U.S. wealth would not be surprising, as such a drop would merely represent a reversion to historical norms.

Looking at stock market valuations, the CAPE ratio currently sits at 38—higher than during the Dot-Com Bubble but lower than previous historical peaks like the Nifty-Fifty bubble and the 1920s boom. History shows what happens when valuations reach such extremes:

• In 1929, the market peaked at 578 and bottomed at 100—an 86% decline.

• In the 1960s, it peaked at 966 before dropping 75% by 1982.

• The 2000s saw a similar trajectory, with a massive drop in real returns.

Despite the current optimism, the U.S. has gone 15 years without a major recession, leading to a "Goldilocks economy" that seems too good to last. Another concerning factor is projected earnings growth—Wall Street expects earnings to double in the next two years, which appears highly unrealistic. Real earnings for the S&P 500 stand at 200 points, but analysts adjust figures upward to 240, assuming 14% growth year after year. These expectations are baked into market valuations, making the current situation fragile.

If interest rates remain at 4-5%—historical averages—the expected return on stocks would be around 7%. However, the current earnings yield is just 3%, plus a 2% premium. To normalize at 6%, the market would need to decline by 50%. Given the unrealistic earnings expectations, a 40% correction wouldn’t even be a crash—it would simply bring valuations back to rational levels.

Debt, Market Cycles, and the Risk of a Bust

For the past 15 years, central banks and governments have done everything possible to avoid recessions, leading to an extended credit boom. But what if this cycle reverses? If we examine global debt trends, we see a concerning picture:

• Global debt has doubled relative to GDP since interest rates were slashed.

• The cost of servicing this debt is rising—U.S. interest payments alone have jumped from $500 billion to $1 trillion.

Interest rates dropping from 20% to near zero enabled massive debt accumulation, but this debt isn’t disappearing. If rates stay at 5%, at what point does the boom turn into a bust? It’s impossible to predict—perhaps it lasts another decade, or maybe the downturn begins tomorrow. What’s clear is that risks are mounting.

Financial markets are currently priced for perfection, assuming continued government and central bank intervention. Many believe there will be no recessions or market crashes because the Federal Reserve and European Central Bank (ECB) will bail out the system if needed. This assumption is based on historical interventions:

• The 2008 financial crisis led to massive money printing.

• The COVID-19 pandemic triggered another wave of stimulus.

Now, with Treasury issuance rising, the Federal Reserve may have no choice but to continue supporting the market. While the ECB has begun selling some assets, this is minor compared to their prior interventions and recent rate cuts.

The Long-Term Reality

Predicting exact market movements is impossible, but the risks are clearly accumulating. The current environment does not justify taking excessive risks. Being more conservative—not necessarily bearish, but prudent—may be the wiser approach.

The fundamental question remains: what are the real returns on money printing and low interest rates? History has shown that prolonged credit booms eventually end in busts. Excess liquidity has driven the S&P 500 dividend yield from 3% in past decades to just 1.23% today. Even a minor reversion to a 2% yield would imply a 40% market correction.

I’m not predicting a crash in 2025, but I do know that these risks are not "Black Swans"—they are visible, obvious threats. Policymakers are doing everything they can to extend the cycle, but history suggests that the longer imbalances build up, the more severe the eventual correction will be.

While I hope this economic expansion continues, my investment strategy is focused on prudence—preserving wealth in real assets and ensuring resilience in an unpredictable future. The coming years will be interesting, and the best approach is to be prepared.

Disclaimer: I want to make it clear that I am not a financial advisor, and nothing I say is intended to be a recommendation to buy or sell any financial instrument. Additionally, it's important to remember that there are no guarantees or certainties in trading or investing, and you should never invest money that you can't afford to lose.

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