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2007 All Over Again... Banking Crisis Imminent

<p><a href=""><em>Submitted by John Rubino via,</em></a></p>
<p>Our good friend Michael Pollaro just sent a chart from the St. Louis Fed that shows<strong> the US drifting back into yet another banking crisis</strong>.</p>
<p><a href=""><img alt="US yield curve July 16" class="aligncenter size-full wp-image-11644" height="370" src="" width="550" /></a></p>
<p><strong>The green line tracks fluctuations in the US yield curve,</strong> defined as the difference in yield between 10-year and 2-year Treasuries. When the yield curve is steeply positive, banks are able to borrow short at low rates and lend long at higher rates, earning a nice return and in the process driving economic growth. When the yield curve flattens the opposite occurs, with banks unable to make money and becoming reluctant to lend. So a flattening yield curve implies a slowing economy. Note the similarity between the past few years&rsquo; spread contraction and the one that began in 2004 and culminated in the Great Recession.</p>
<p><strong>Now check out the red and blue lines representing different measures of credit quality</strong>. The lower they are, the fewer loans are in various categories of &ldquo;non-performance,&rdquo; and vice versa. What&rsquo;s happening now is similar to the spike in bad loans that started in 2005.</p>
<p>The implication: <em><span style="text-decoration: underline;"><strong>Despite the headline numbers (like<a href="" target="_blank"> Friday&rsquo;s largely-fictitious jobs report</a>) that imply a stable, modest expansion, under the surface the financial system &mdash; composed of business loans, bank profits, etc. &mdash; is deteriorating fast. </strong></span></em></p>
<p>And since interest rates have fallen rather than risen post-Brexit, causing yield curves around the world to flatten further, it&rsquo;s safe to say that these trends are accelerating.</p>
<p>That would explain why so many iconic money managers and speculators <a href="" target="_blank">have turned publicly bearish recently</a>. The latest is Jeremy Grantham of Boston-based hedge fund GMO. Here&rsquo;s an excerpt from a MarketWatch article on his firm&rsquo;s current stance:</p>
<blockquote><div class="quote_start"><div></div></div><div class="quote_end"><div></div></div><h2><a href="" target="_blank"> Investment firm that called the 2008-09 crash doesn&rsquo;t like most stocks or bonds</a></h2>
<p>You need a portfolio of at least $5 million to get in the door as a client at Boston-based money management firm GMO.And with some reason. The firm is famous for predicting the last two financial crashes ahead of time, and firm chairman Jeremy Grantham is a legendary figure on Wall Street. His quarterly letters are required reading by anyone managing other people&rsquo;s money.
<p>GMO is usually seen as too bearish, but in an industry that is generally far too bullish that&rsquo;s no bad thing. And often forgotten is that the firm has made some terrific contrarian buy recommendations too &mdash; such as emerging markets and value stocks at the start of the last decade, and of stocks generally in the wake of the 2008-09 crash.</p>
<p>But for those of us who don&rsquo;t have $5 million or $10 million knocking around, what&rsquo;s GMO&rsquo;s best advice at the moment? To find out, I spoke to Matt Kadnar, a member of the firm&rsquo;s asset allocation committee. Here&rsquo;s what he said about how GMO perceives the current global investing environment:</p>
<p><strong>1. The overall investment outlook is really, really dismal. </strong>&ldquo;There is no asset out there that is cheap,&rdquo; Kadnar says. None.</p>
<p><strong>2. The outlook for U.S. stocks is terrible.</strong> GMO&rsquo;s central forecast &mdash; which is a directional estimate more than a precise prediction &mdash; warns that U.S. large- and small-cap stock indices are now both so overpriced compared to history that they will probably lose value, compared to inflation, over the next seven or so years.</p>
<p>3. In the wake of the emerging markets slump and now Brexit,<strong> investors are becoming almost as dangerously fixated on U.S. stocks as they were (disastrously) in 2000</strong>, according to GMO. Kadnar says that once again, clients are starting to ask why anyone needs to own anything other than the S&amp;P 500.</p>
<p>4. <strong>Investors also are likely to end up losing &mdash; after inflation &mdash; over the next seven years or so on U.S. bonds, cash, and small-cap international stocks, GMO&rsquo;s current central forecast predicts.</strong> The firm also sees minuscule post-inflation, or &ldquo;real&rdquo; returns, on both international large-cap stocks and emerging-market bonds.</p>
<p>Equity investors have been fooled twice in the last six months... is 3rd time the charm?</p>
<p><a href=""><img alt="" src="" style="width: 600px; height: 312px;" /></a></p>

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