Stock investors are euphoric... Bonds are a disaster... Don't ignore capital structure... Rampant speculation... The deep belief in mega-cap tech stocks... How to avoid disaster...
The S&P 500 Index is less than 3% from a new all-time high...
In other words, everyone is still following the "Trump Always Chickens Out" on tariffs trade I wrote about last week.
What folks are missing is that tariffs aren't the issue.
Tariffs are an attempt to address the massive trade deficit imbalance, which is another way of saying the U.S. buys more goods from other countries than they buy from us.
But there's another massive imbalance that might be more important. I'm talking about government deficits, financed by enormous and rapidly rising government debt.
The stock market might be ignoring the warning signs. But the bond market is flashing red.
Just consider...
The U.S. bond market is in its longest drawdown in nearly half a century...
Charlie Bilello, chief market strategist at wealth manager Creative Planning, recently looked at Bloomberg U.S. Aggregate Bond Index data going back to 1976.
On social platform X, Bilello shared that through June 2, the U.S. bond market fell for 58 months. That's more than 3.5 times longer than the drawdown from July 1980 to October 1981.
Put another way, the U.S. bond market is in its longest bear market in nearly 50 years. Bilello's data shows the maximum decline during the period was 17.2%.
That doesn't sound disastrous. The drawdown is relatively shallow, likely due to the index's inclusion of various investment-grade, fixed-rate bonds. It contains Treasurys, corporate bonds, mortgage-backed securities, asset-backed securities, and collateralized mortgage obligations.
The situation looks a bit more dire if you focus solely on what is normally thought of as some of the safest bonds in the world: long-term Treasurys. The most popular exchange-traded long-term Treasury fund – the iShares 20+ Year Treasury Bond Fund (TLT) – peaked in August 2020 and has fallen as much as 51.8% since. Lately, it's about 50% below its August 2020 high.
Losing half your money in the safest securities in the world seems like it shouldn't happen. But it did happen... It's still happening... And no one knows how long it will continue happening.
What's weird is the stock market doesn't seem to mind...
Bonds are supposed to be safer and less volatile than stocks – especially the investment-grade bonds in the Bloomberg index. When the safer instrument is in big trouble, you would think folks tend to worry even more about the less-safe ones...
One of the first things you learn about a company's financials is that equity is the most junior security in the capital structure. I explained this many years ago in the August 2007 issue of Extreme Value. I listed the elements of the capital structure from the most senior claim on corporate assets to the most junior claim:
- Secured creditors get paid when the pledged property is sold or refinanced, then
- Unpaid wages, then
- Taxes, then
- Trade creditors, then
- Unsecured debt holders, then
- Subordinated unsecured debt holders, then
- Preferred stockholders, and finally, after all these other claims are met,
- Common stockholders get whatever is left.
As stockholders, we're in last place.
Most of the time, this hierarchy doesn't seem too important...
The details of capital structure are little more than an accounting technicality to most investors.
Lots of great businesses have plenty of debt, which they service with no problem, because they gush so much cash profit.
Many more companies have lots of debt and little or no profit, but they've raised billions in cash and are unlikely to encounter a financial problem for many years.
But when a company goes bankrupt, the capital structure becomes the word of God. If you're a secured creditor, you'll likely get your whole investment back. If you're an equity holder, odds are you'll get nothing, which could be potentially catastrophic.
The idea carries into the overall market. All those bonds in the Bloomberg U.S. Aggregate Bond Index are senior to all the equity in the S&P 500 Index.
With bonds in an unprecedented bear market, you'd think the stock market would be down 20% or more and stay there until whatever's ailing bonds gets worked out.
But the S&P 500 – representing more than 80% of the U.S. market by market cap – is close to making a new all-time high.
So it's not just that stock investors aren't worried... they're over the moon with optimism and have pushed the S&P 500 into mega-bubble territory, at a cyclically adjusted price-to-earnings ("CAPE") ratio of 36.52.
The stock market seems to have no thought whatsoever for what's happening in the bond market. It's as if capital structure doesn't exist.
Successfully 'buying the dips' has bred rampant speculation...
From the late 1960s to the early 1980s, we saw a brutal sideways market. Nobody was talking about buying any dips back then.
But since 1980, the S&P 500 has increased roughly 60-fold. No matter how poorly stocks have performed since then, you could always keep buying, and you wouldn't have to wait long before you saw a profit again. So after a while, people started to believe that you can make money buying absolutely anything.
Just look at the state of cryptos...
CoinMarketCap says there are 16.7 million different cryptos trading on 821 exchanges around the world, with a total market value of $3.2 trillion. Roughly $2 trillion of that is in bitcoin.
And the world is still figuring out exactly what bitcoin is...
Most days, it behaves like a highly leveraged technology speculation. Some days, it behaves like a hedge against monetary chaos. We know it's not a currency because no decent currency drops between 27% and 52% in value, as bitcoin has done at least four times in the past five years. Much of the time, bitcoin behaves like the Nasdaq Composite Index on steroids.
And that's bitcoin – the king and undisputed gold standard of cryptos.
I'm willing to bet the overwhelming majority of the other several million cryptos are worthless. Yet the market currently values them at roughly $1.2 trillion.
Don't misunderstand me. I love to see a dynamic marketplace experimenting with innovative new ways to transfer wealth around the world... or whatever else all those cryptos are trying to do.
Nor am I dumping on the art of speculation. Some folks are very good at it. (But most of the ones I know are nearly all old guys who've been doing it for decades.)
You should think about those millions of cryptos the same way you might think of venture-capital firms' portfolios. These portfolios typically have several dozen positions, sometimes 100 or more.
Despite all the hard-working geniuses vetting and funding the companies that are run by other hard-working geniuses, as many as 90% of those companies will fail.
And many cryptos seem like brazen attempts to make a quick profit by selling worthless coins to gullible speculators. In other words, they're not working to build anything valuable. They're trying to fleece unknowing speculators.
Valuing something that's likely 90% garbage at $1.2 trillion is an obvious example of rampant speculation. Then there are the companies buying bitcoin because their businesses are dying – like Strategy (MSTR) and GameStop (GME). Strategy is doing it with borrowed money, too, which is extra crazy.
Now like I said, there's nothing wrong with speculation. So even if I'm wrong that the current market value of cryptos is an extreme example of speculation, the outcome is just about the same: most of it is worthless. That's just how it works. There isn't usually this much of it, but it's totally normal for most speculations to fail.
However you interpret the situation, the downside potential seems to far outweigh the upside.
Options that expire the same day, so-called zero days to expiration (0DTE) options, are another crazy speculative frenzy of our time. Talk about a burning match! I sometimes joke that most investors have trouble holding stocks over a long weekend, let alone anything that might be called long-term. The folks buying 0DTE can't even hold one night. It's not even speculation. It's pure gambling.
These examples are at the lowest end of the quality spectrum in financial markets. But things aren't much better at the top...
Investors deeply believe in mega-cap, cash-gushing businesses...
These are mostly the familiar tech names like Apple (AAPL), Alphabet (GOOGL), Amazon (AMZN), Meta Platforms (META), Microsoft (MSFT), and Nvidia (NVDA). They're all in the top 10 of S&P 500 stocks, which currently make up about 36% of the index by market cap.
So if you're buying an S&P 500 fund in your 401(k), more than one-third of your investment goes into these companies. Remember, the S&P 500 is the index that's trading at a CAPE ratio of nearly 37.
Investors believe that – like with U.S. Treasurys – mega-cap stocks just can't lose over the long term.
But once you account for a rate of inflation that's more accurate than the deeply flawed consumer price index, you're probably losing purchasing power at 3% or more per year if you own a 10-year Treasury bond.
Likewise, getting a decent return out of U.S. stocks – especially the tech giants – is a higher hurdle than most investors realize. Those stocks were cheap a decade ago. Apple was 15 times earnings then. Microsoft was 17 times. Now, Apple is 28 times earnings and Microsoft is 36 times.
Even nontech, high-quality businesses are super expensive today. Costco Wholesale (COST) was 27 times earnings a decade ago, compared with 57 times earnings today.
No matter how great these companies are – and they are among the greatest ever built – buying them at exorbitant valuations when their enormous size limits their growth possibilities is not an attractive proposition.
It could even be a disastrous proposition...
In previous Digests, I've mentioned how the trade war and the huge underlying imbalances it attempts to address could result in lower U.S. equity valuations, even as it raises valuations in places like Europe and Japan.
That could be great for young investors who buy cash-gushing compounders and have a decade or two to spare.
But if you're retiring anytime soon and are counting on the stock market to keep going up the way it has for a few decades now, you could wind up with a lot less wealth to retire on than you planned.
If the S&P 500 reverts to its long-term mean CAPE of 17.2, investors who heavily invest in stocks today could see their retirement fund cut in half.
Alternatives like gold, silver, and other metals can help you mitigate the damage...
Having plenty of cash around, even though inflation won't treat it well, can also help you weather a bear market (most of which don't last more than a year or two).
Good corporate bonds at attractive yields can provide you with equity-like returns with less risk. But you have to do the work to find the right ones (like what Mike DiBiase does in Stansberry's Credit Opportunities each month).
And as Dr. David "Doc" Eifrig shows in his Retirement Trader, you can generate steady income from options.
You can also turn your focus away from the most popular U.S. mega-caps and look into other types of stocks...
For example, commodity-related stocks have often done well during broader U.S. equity bear markets. (That's why I created a nine-stock Ultimate Commodity Hypercycle Portfolio for Premier Extreme Value subscribers.)
Foreign markets like Japan and Europe also have a lot of high-quality businesses that are much more attractively priced than their U.S. counterparts.
The point is, you need to prepare for what could happen if the stock market gets wind of the bond market's fear. And if you haven't yet watched our founder Porter Stansberry's warning about the reckonings that could be coming for America – and how to prepare your portfolio – I urge you to do so here.
A final word...
The alternatives I've named today are all very good ideas right now – even if the U.S. stock market somehow manages to avoid a brutal reckoning and I'm wrong about us seeing lousy returns from U.S. stocks at current valuations.
But I urge you to keep the following famous quote from Ernest Hemingway's classic novel The Sun Also Rises in mind.
When one character asks another how he went bankrupt, he replies:
Two ways... Gradually and then suddenly.
Markets tend to feel like that, too. A bear market can seem to play out gradually as you watch your wealth decline 5%, 10%, 15%... Then, before you know it, your wealth has suddenly been cut by 40% or 50%.
We're seeing something similar in the U.S. bond market. It gradually became a massive bubble, and then suddenly embarked on a 58-month (and still counting) slide that has cut long-term Treasurys by nearly half.
The U.S. stock market has gradually become the largest and most highly valued in the world, for which many believe there is no alternative. But don't fall into the trap of believing it can't suddenly crash.
Look ahead. Understand the state of things right now and take appropriate action to preserve and grow your retirement wealth.
New 52-week highs (as of 6/5/25): First Majestic Silver (AG), Alpha Architect 1-3 Month Box Fund (BOXX), Equinox Gold (EQX), iShares MSCI Germany Fund (EWG), VanEck Junior Gold Miners Fund (GDXJ), iShares U.S. Aerospace & Defense Fund (ITA), Lynas Rare Earths (LYSDY), Microsoft (MSFT), New Gold (NGD), NetEase (NTES), Pan American Silver (PAAS), Sprott Physical Silver Trust (PSLV), Construction Partners (ROAD), Sandstorm Gold (SAND), Sprott (SII), Skeena Resources (SKE), iShares Silver Trust (SLV), Spotify Technology (SPOT), and Veeva Systems (VEEV).
In today's mailbag, an opinion on the jobs market, which we discussed in yesterday's Digest... Do you have a comment or question? As always, e-mail us at feedback@stansberryresearch.com.
"[Yesterday's Digest] 'The Reckonings Have Only Just Begun', continues to show concern over the new jobs decrease and unemployment increase.
"Normally, that would be considered a harbinger of recession. However, 'This time it's different', for real. AI makes the difference. Companies are replacing employees with AI software and robotics. This may make the laid off employees feel like they're in a recession, but the companies, on the other hand, will become more efficient and more profitable." – Subscriber Al C.
Good investing,
Dan Ferris
Medford, Oregon
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