I think there’s a very high chance of a stock market crash of historic proportions before the end of Trump’s first term. That’s because the Federal Reserve’s current rate-hiking cycle, which started in 2015, is set to pop “the everything bubble.”
I’ll explain how this could all play out in a moment. But first, you need to know how the Fed creates the boom-bust cycle…
To start, the Fed encourages malinvestment by suppressing interest rates lower than their natural levels. This leads companies to invest in plants, equipment, and other capital assets that only appear profitable because borrowing money is cheap.
This, in turn, leads to misallocated capital – and eventually, economic loss when interest rates rise, making previously economic investments uneconomic.
Think of this dynamic like a variable rate mortgage. Artificially low interest rates encourage individual home buyers to take out mortgages. If interest rates stay low, they can make the payments and maintain the illusion of solvency.
But once interest rates rise, the mortgage interest payments adjust higher, making them less and less affordable until, eventually, the borrower defaults.
In short, bubbles are inflated when easy money from low interest rates floods into a certain asset.
Rate hikes do the opposite. They suck money out of the economy and pop the bubbles created from low rates.
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