The Third Bubble’s the Charm

05/01/2012 11:00 am EST

Focus: MARKETS

Harry Dent

Author, The Demographic Cliff

An asset bubble that dwarfs the dot.com and housing bubbles is coming just in time to meet a retiring boomer-fueled economic decline to cause a real crisis, says Harry Dent.

Harry, it’s an election year. There’s a lot going on in the economy. Give us your view.

The broad view: we’ve been bullish for decades, because we’ve been watching the baby boom. More and more people earning, spending more money, borrowing money, buying houses…

But we predicted 20 years ago that would come to an end right around 2007 or so. From 2008 on, the baby boom generation—again, the largest generation in history—is moving from a spending cycle to a saving cycle.

A lot of people say they’re retiring…no. They’re just starting to retire. The bulk of them peaked in their spending in 2007, and they’re kind of plateauing as their kids get anywhere between high school and college and get out of the nest.

When the kids leave the nest, spending just plummets. Because people don’t spend money on themselves. They spend money on their kids. They don’t eat the food, the kids do. They drive the kids all over the place in cars. As soon as the kids are gone, they don’t drive their car anymore. They don’t need a bigger house. On and on…so they downsize and then they retire.

The Fed is fighting something you just can’t fight: 92 million baby boomers saving for retirement. They are not going to borrow more money. That’s why despite massive stimulus and the lowest mortgage rates in history, home prices aren’t going up and people aren’t buying homes. Because they don’t need to.

The next generation is too young to be buying homes on any scale. That’ll happen about a decade from now, and the whole economy will come back with the next generation. That’s No. 1. Every 40 years this happens, and economists totally miss it. A 46-year lag on the birth index…the simplest thing in the world to predict. We predicted it 20 years ago, the boom and bust.

The second thing, which is unique to this boom and we haven’t see in our lifetimes, is the greatest debt bubble in history. It wasn’t just the government debt that went from $5 trillion to $10 trillion from 2000-2008, and now it’s at $15 trillion and rising. Private debt went from $20 trillion to $42 trillion.

It’s unlike anytime in history. Everyday people could borrow heavily against real estate for the first time in history. At this great debt bubble, real estate bubbled, stocks bubbled, commodities bubbled, everything bubbled around the world with all these low interest rates and easy credit and borrowing. And now this debt bubble is unraveling.

In 2008, when the system melted down, it wasn’t our public debt. It wasn’t our government debt melting down, although it’s too high. It was the private debt melting down and all the leverage in the banking system. The Fed is having to fight $42 trillion in private debt—way more than public debt—deleveraging, and 92 million baby boomers aging. You cannot win that war.

Our economy is going to slow down. Debt is going to delever over time, and the Fed is just going to create trillions and trillions more debt and make the whole situation worse. They are literally pouring gasoline on the fire. In other words, to treat an economy that has way too much debt with debt has got to be stupidest thing ever done in history.

Well, Harry, let me follow up on that, then. What does that mean for investors’ portfolios right now?

Well, what it means is that the Fed is creating a third and final bubble. We had a bubble…remember tech stocks? Well, we created that, but the Fed helped with very low interest rates. That crashed.

People immediately went into housing speculation, real estate. That bubbled up from 2000 to 2005 or 2006, crashed, and it’s still crashing. Emerging markets bubbled up and crashed.

Now we have a third bubble that is totally artificial. The system is melting down, the Fed throws trillions of dollars of QE. That is literally injecting money directly into the banking system—free money. The banks turn around and reinvest it. Why? Because they can’t lend it. They don’t want to lend and consumers and businesses are so over in debt they don’t want to borrow.

Instead of going in to expand the economy, it’s just being reinvested in stocks, commodities, anything that moves. Because the government, the Fed, has made it so you get negative real returns on either T-bills or long term Treasury bonds. In other words, safe investments for retirements no longer give you 4, 5, 6%. You pretty much get minus-2%.

These pension funds and the banks that get this money reinvest it often, at a high leverage, right back into all these things, and so we got all this stuff. Everything is bubbling.

I would ask anybody, if you can show me a time in history where commodities, bonds—including junk bonds—stocks, domestic, international, small cap, large cap, every single asset category has bubbled up at the same time. Never happened. All of it is going to bubble and all of it’s going to burst in the next couple of years.

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