For every dollar of GDP, there is $3.49 of debt

For every dollar of GDP, there is $3.49 of debt
By BILL GREINER
Chief investment officer, UMB Asset Management

First and foremost, we believe that too much debt currently exists in the U.S. economy.

As compared to the Gross Domestic Product, the total debt picture within the U.S. is 349 percent. In other words, for every dollar of GDP, there exists $3.49 of debt. Other countries are much less leveraged than we are.

As another background point, investment banking operations have historically been the core business of the brokerage houses. In the last few years, with the proliferation of debt within the economy, these firms have focused more of their time and capital on trading their own “book” instead of spending time and energy on the investment banking business. These firms have become much more reliant on their book profitability than their core business — investment banking.

At this stage, enter the hedge fund managers. Hedge fund investment strategies vary all over the map.

However, many have one thing in common: Many use debt in some format for various reasons.

So, a hedge fund manager who is managing $100 million in assets may indeed be making decisions and affecting a multiple of that $100 million in assets.

Consequently, when a hedge fund manager moves in a direction, the impact on the markets and on various financial institutions can be rapid and extreme.

When certain hedge managers see a firm struggling, they will short-sell the common stock of that firm. When this starts, many other hedge fund managers, like a cloud of locusts, may short-sell the company. This leveraged activity will drive the stock of the business down rapidly, putting a question mark over the company as to its ability to stay in business.

Consequently, we have two problems. The first has to do with the amount of leverage not only within the brokerage and banking businesses, but also the amount of debt outstanding within the country. Secondly, the relatively unregulated hedge fund industry moving extremely large sums of capital against a company with a highly leveraged balance sheet in need of daily capital inflows.

These two operatives are currently risks that need to be addressed prior to this problem coming to an end.

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