The House of Cards Is Going to Fall

Dave:
Economic anxiety is mounting. With everything from higher inflation, fears of AI replacing your job, consumer sentiment, near 70-year lows, people are worried about the economy. But at the same time, the stock market keeps ripping and unemployment remains near historic lows. So what happens from here? It is a confusing time in the economy, but if you study the economy enough, there are some clues about what comes next. And today I have a guest who studies the economy and has done that for many decades and has a history and track record of doing it very well. His name is J Scott. He is a regular guest here on On the Market. And today he’s going to walk us through what he thinks of this economic moment. What are the bright spots, where the risk exists, and how you can prepare yourself from what comes next. This is On the Market.
Let’s get to it.
Hey everyone. Welcome to On the Market. I am Dave Meyer. And today we have one of our favorite guests on Mr. J Scott. J is a real estate investor, has been doing it for over 20 years. He and I also wrote a book together called Real Estate by the Numbers. You could always check that out. But I want to talk about J because he’s a big picture thinker. He looks at the whole economy, not just any one section of housing or any one section of the economy. He is a real student of global finance and global economics. And he’s one of the people I turn to when I want to make sense of a confusing market like the one we’re in today. So let’s bring on J. J Scott, welcome back to On the Market. How’s it going?

J:
I’m doing great. How are you doing, Dave? Thanks for having me back.

Dave:
I am excited to talk to you because I’ll tell you honestly, my economic anxiety personally is rising. Do you feel the same way? Let’s just start there. Am I crazy?

J:
No, I feel the same way. And part of it is economics, part of it is real estate. I know we’re not planning to talk about commercial or multifamily today, but I’m in that space.

Dave:
We can.

J:
Well, I think interestingly, the same thing that’s impacting us over in the commercial side of real estate is impacting us on the residential side of real estate. It’s also impacting us in the general economy and our daily lives. So I think it’s all one conversation regardless of what asset class you might be focusing it on.

Dave:
And what is that?

J:
Well, I think the story today is interest rates.

Dave:
As it has been for a while, but it’s getting more interesting.

J:
It’s getting more interesting. So what we’re seeing is somewhat of a loss of control by the Federal Reserve controlling some of those longer term interest rates. And basically what that means is the Fed, they never really controlled things like mortgage rates or car loan rates or business commercial debt rates, but they had some influence over them. The Fed could do things that if mortgage rates got too high, they could kind of put some pressure on to bring them down. And it’s starting to look like the Fed is kind of losing that influence over the long end of the bond curve, which for those who don’t understand that, basically what that means is they’re losing influence over controlling things like mortgage rates and mortgage rates are going up and interest rates in general are going up and it’s getting a little scary to be honest.

Dave:
Yeah. And so why do you think they’re losing control now?

J:
I think one of them is a messaging issue. Keep in mind that the biggest thing that drives, and there are a lot of things that drive interest rates and bond yields, but the biggest thing that drives interest rates is inflation expectations. If people think inflation is going to be high over the next 10 years, then 10-year bonds are going to go up and mortgage rates, which are tied to 10-year bonds are going to go up. And so the Fed can be bullish on inflation. The treasury secretary can be bullish on inflation and say, “Hey, this is just a blip that we’re seeing here with energy prices. It’s just a blip that we’re seeing with some other things and everything’s going to go back to normal as soon as the war’s over and everything’s going to go back to normal after the midterms,” or whatever they want to say.
But the reality is it seems like a lot of Americans and especially a lot of investors who control those interest rate markets aren’t necessarily buying this rhetoric that this is all a short-term blip and it’s all going to get fixed quickly.

Dave:
Yeah, that is what it seems like to me. And I just want to explain to everyone why the bond market is so concerned about inflation because if you’re lending the government money for a long period of time, which is what a bond is, if you’re only earning a 4% return and inflation’s at 3.5%, then your real return, your inflation adjusted return is just half a percent. And so when inflation goes up, investors, generally speaking, people who lend money to the government, want a higher return. And that is largely what we’re seeing right now. And I’m with you, J, because I think we’ve sort of been ignoring some of the inflationary pressure for a while. Tariffs have been around for what, a year and a half now. Those have contributed to inflation. And now with the war in Iran, I don’t think anyone sees this ending quickly.
I haven’t heard anyone make a coherent argument that this is going to end quickly. And even if it did, I kind of think we’re in a higher energy market for a long time. If you look at just today, we’re recording this in mid-October, the producer price index came out, which is a different way of measuring inflation. And that was really scary if you look at it. The CPI, the consumer price index, that went up, but producer prices is kind of a lead indicator of future inflation and that’s going up. And so it just seems like there’s no real end in sight to this inflation. And I guess the thing I keep thinking about with real estate is that this isn’t the kind of inflation that helps real estate. The kind of inflation that we have right now is supply shock inflation. And so the Fed raising interest rates, is that even going to do anything to control inflation?

J:
In theory, it will. If the Fed raises rates enough, the theory is that if things get too expensive, if it’s too expensive to buy a house, if it’s too expensive to buy a car, if it’s too expensive to charge things on your credit card, if you’re not paying it off every month because interest rates are going up, people are going to spend less money.

Dave:
So it’s just the demand destruction thing,

J:
Right? That’s exactly what it is. It’s demand destruction. You mentioned the PPI and that’s wholesale inflation. That’s basically the measure of inflation in the wholesale system, like goods and services before they get to the consumer. CPI is the measure of inflation for goods and services at the consumer point of sale. And one of the things that I think is most scary is, as you mentioned, we’re mid-October right now, September, inflation numbers just came

Dave:
Out.

J:
And what we’ve seen over the last several months, basically since the war started, is an increase in what we call headline inflation numbers. And that’s the inflation that includes oil and energy, fuel prices and gasoline prices and diesel prices. And then there’s this separate measure of inflation called core. And core, we kind of strip out. We ignore energy. We also ignore food because those two things are pretty volatile. And what we found is that headline inflation when you include energy is pretty high. Not surprising because again, gas prices, diesel prices, fuel prices, energy prices in general are high, but the core inflation has been relatively moderated. It’s been relatively low because again, it’s not other things going up in price nearly as quickly as energy. But what we saw for the September numbers, unfortunately, was not just were the headline numbers, both CPI and PPI high, but the core numbers were relatively high as well.
So even if you remove gas and diesel and fuel prices and all of these other energy things that are

Dave:
Hitting

J:
Inflation, it’s starting to look like we’re seeing inflation across general commodities and everything in the system again.

Dave:
Yeah, that’s the scary part. And it’s why if we sort of turn this to a conversation on housing, it just doesn’t seem like any relief is around the corner because the traditional ways of mortgage rates coming down don’t feel accessible. I don’t even think the government has any tricks left up their sleeve. Before the beginning of this year, I was like, oh, maybe if they got desperate, they’d start quantitative easing. But I don’t even think they could do that now with the way bond yields are going and the way inflation is going. So do you have any expectations or thought on mortgage rates? Are they staying in the sevens? Could they go higher or do you think there’s any potential for relief?

J:
I mean, again, I think it boils down to what happens with inflation expectations. And I think inflation expectations really boil down to what happens with what’s going on in the world in terms of the Middle East war and the Russia-Ukraine war. And because we don’t really know where those are headed and what’s going to happen, it seems really difficult to determine where mortgage rates are going to head. I think it’s unlikely that they’re going to head down substantially anytime soon, but I think they could head up. I mean, if you think about it, a year ago, typical 30-year fixed mortgage rates were 6.3%. We’re now at 7.4%, 7.45% as of today. That’s 1.1% increase in just a year. That’s a lot. And you talked earlier about does the Fed increasing interest rates, can that impact inflation? Yeah, it does through exactly what you said, demand destruction.
Basically things get more expensive, so people spend less money, which slows down the economy and slows down inflation. We’re not really seeing demand destruction in the broader economy yet, but we are starting to see demand destruction in single family real estate and residential real estate. August and September were the two slowest months of 2026 for existing home sales. Basically, we’re at a two-year low as of the August numbers, which is the best we have right now, we’re at a two-year low on existing home sales. Pending sales are down almost 5% year over year. New home sales are in the toilet. I mean, new home builders are now selling for on average about $20,000 less than median existing home sales. So new home builders can barely give away their inventory. And we’re starting to see the number of months of supply in real estate creeping up.
And it’s not because there’s more supply hitting the market, there’s less demand. We’re actually seeing less supply hitting the market. Fewer people are listing their houses, but a whole lot fewer people are buying houses right now.

Dave:
Yeah, exactly. I think that’s the thing. I was reading an article in the Wall Street Journal this morning and they missed it and all these people on social media also miss it, is that they’re saying, oh, the housing market is fragile because the lock-in effect is waning and it’s loosening. I think that is the opposite of what’s going on right now. I think that as mortgage rates rise, the lock-in effect gets stronger because the gap between what you have currently and your payment currently and what you would pay if you were to move is only getting bigger right now. And so my analysis of this would be yes, demand is going down, but I also think new listings are going to go down and fewer people are going to choose to sell their home. But at the same time, inventory will go up because the homes that do get listed will sit for longer on the market.
Is that similar to how you see things playing out?

J:
I do. And I think what we’re going to see is essentially, and I know you’ve had some other guests on, you had Brian Burke on to talk about commercial. I think we’re going to see similar things in the residential world where transaction volume, basically the number of transactions that we just see in the market is slowed considerably. And some of the problems when you have very little transaction volume is one, you don’t have what’s called price discovery. It’s really hard to know what houses are worth when nobody’s buying or selling houses. If I said something like you want to go buy the Mona Lisa, the original Mona Lisa, how much is that worth? Nobody knows because there’s only one of them and it never sells. And so you’d actually have to sell it to see what somebody would pay for it. Is it 10 million or is it a billion?
And same thing in the real estate world. When there are very few sales, we don’t know what things are really worth. And so this lack of price discovery is going to be an issue. Additionally, we’re going to see sellers who, luckily right now, most sellers are selling because they’re looking for an opportunity to get out. There are not a ton of distressed sales on the market. I think we’re still at about 2% of all sales are distressed right now, which is relatively low. But if these sellers who can’t sell their properties get into a situation where they have to sell and they still can’t sell, we’re going to start to see a lot of distressed sales and distressed sales lead to prices coming down. So there are some risks moving forward if interest rates stay high. We’re not yet kind of in that situation where we’re concerned, but there are things that we need to be on the lookout for.

Dave:
For sure. And I am going to ask you to speculate because I have some questions about some scenarios and how they could play out, but maybe you could just tell us if things sort of stay on the current trajectory, right? Mortgage rates stay in the mid sevens, the economy’s similar, the stock market doesn’t pop and kind of stays where it’s at. What do you see happening, let’s call it the next six months, like the winter for real estate?

J:
I think if the stock market stays strong, again, not a lot of people are invested in the stock market five, 10%, but a lot of people have 401 s that allow them to prop up their net worth. If they need to take out money for an emergency, having a 401 going up is good. So if the stock market stays strong and if wage growth, I mean we’re seeing negative real wage growth now for the first time in a few years, which is bad, but we’re still seeing nominal wage growth, meaning people’s actual wages are going up. So as long as our checks are going up, as long as the stock market is stable or going up, as long as other assets are doing relatively well, I don’t see a big change over six months. I think this is the type of change that would require a year or two years of kind of snowballing before we get to an event that’s big enough that it actually impacts the market for a lot of people.

Dave:
So you think nominal home prices then in that case this winter will be fine. We’ll just have low transaction volume. It’ll be a boring, slow winter. I mean, it sucks for anyone who’s a loan officer, real estate agent who relies on transactions, but price-wise, it won’t be eventful.

J:
I think seasonally adjusted, I think we’re going to be on the same trajectory we’ve been the last couple years, which is kind of nominal prices hanging out, maybe going up a little bit, maybe going down a little bit. Real prices, meaning inflation adjusted prices, they could come down a good bit. I mean, we’re already seeing that. We’re seeing over the last six months, housing prices are still going up. Median price of a house is going up, but when you adjust how much it’s going up compared to how much we’re losing in spending power due to inflation, prices are actually coming down. So depending on how you measure it, but long story short, yeah, my guess is six months from now, if we’re having this conversation, things haven’t changed considerably. Again, assuming the economy hasn’t changed considerably, assuming the stock market hasn’t changed considerably, et cetera.

Dave:
Okay, good forecast. But those are a lot of assumptions. So I want to ask you about which scenarios you’re thinking about and the most likely and how that could impact the market, but we have to take a quick break. We’ll be right back. Welcome back to On the Market. I’m here with J Scott. We’re talking about what might happen with the housing market over the winter. J gave us his forecast, presuming on a very big presumption that really not much else changes. But J, you said there’s so many other variables that could impact the housing market. What are some of the variables that you are tracking and think could impact housing the most?

J:
Yeah. Well, let’s start with the big one. That’s just distress. Number of houses that are in foreclosure, pre-foreclosure. What we’ve seen is the number of houses that have gone into foreclosure is up about 30% year over year. Now, it sounds like a huge number, and that is a huge jump, but the number was so low a year ago and a year before that and a year before that, basically going back to COVID, the number’s been so low that even a 30% increase isn’t significant in the scheme of things at this point. It’s not even approaching where we were pre-pandemic. It’s obviously nowhere near where it was in 2008, nine, 10. So distress, something I’m keeping an eye on, but even though it’s going up, it’s not overly concerning right now. At the same time, I think it’s the pre-foreclosures that are getting more interesting. We’re seeing a lot of houses that are moving into 30, 60, 90 days late on their payments.
And ultimately those are the ones after 90 days of not paying your mortgage, that’s when the banks often start foreclosure. And right now we have about twice as many houses that are 90 days late as we have houses that are in foreclosure. And so it’s very possible that that’s kind of a foreboding idea of where things are headed. And if those 90-day lates, if they don’t figure out their situation, we could be back here in six months and that delinquency, that foreclosure rate could be a good bit higher, and that’s when you start to worry.

Dave:
Yeah. The one ingredient for major price declines that isn’t there is the distress like you’re talking about. So that is something interesting to look at. To me, it just seems though that this comes down to the labor market because right now, by and large, the unemployment rate has its flaws in terms of how it’s measured, but it’s low historically speaking. And as long as that holds up, I think the distress will remain low. Is that kind of how you see it or do you think there are other variables at play here?

J:
I think that’s a big part of it. Look, about a year ago at the 2025 BiggerPockets Conference, you gave a keynote and you talked about what would it take for us to see another 2008 type event, a major softening, a crash in real estate. And you put up, I don’t know if you put it up or if I created it after you, I think you put it up and I’ve been giving you credit for this because I use this slide in a lot of my presentations, but you basically put up a Venn diagram of the three things that would have to happen simultaneously for us to have a crash. And one is a spike in supply, second is a major drop in demand, and third is a major increase in distress. And we would need all three of those at the same time to kind of converge for a 2008 type event.
And what you’re talking about right now on the labor market side, that hits two of those. That hits demand. I mean, it hits all three, but it mostly hits demand and delinquencies. And so when people are getting laid off from their jobs or they’re losing hours or their wages are going down, basically people that want to buy a house can’t buy a house anymore. I think the numbers, and forgive me if I’m wrong on this, but I think it’s something like 30% of new home buyers right now are first time buyers. And so they’re the ones that are kind of on the border of when the labor market shifts, they shift. If they get their hours cut by 10% or their wages cut by 10%, they go from being able to buy that first home to not being able to buy that first home.

Dave:
Yeah, that’s right.

J:
And so even a small softening in the labor market potentially impacts 30% of the buyers out there. That’s a huge percentage of buyers impacted even by, again, a small impact to the labor market. And so yes, I think labor market is a big predictor of where things are headed. Now, again, you need three things to have a major impact. If the labor market were to go down a little bit, I think that impacts demand a good bit. I think if the labor market goes down even more, let’s call it a reasonable drop in the employment market.

Dave:
Yeah, like what if we hit 7% on employment?

J:
Exactly. That’s when I think the second piece, the delinquency rate gets hit. A lot of people who again are in pre-foreclosure, they’re missing some payments, but they haven’t yet gotten to the point where they’re actually in foreclosure. Well, this is what kind of keeps them from being able to catch up and fix things. And so I think if we see a larger hit to the labor market, that will drive delinquency, which is the second piece. And then if we have a big hit to the labor market, that’s what will ultimately hit supply. Right now, we have a lot of people who own their homes. They’re still paying 3%, 4%, 5% mortgages. They don’t want to sell. But if these people lose their jobs, if a lot of people lose their jobs, even a 3% mortgage, you still need to be able to pay it. And if the stock market starts to come down and the labor market starts to come down, unemployment starts to go up, that’s when we start to see a hit to that third piece, the supply piece.
And so again, putting that together, it’s kind of like a little hit to the labor market hits demand, a bigger hit to the labor market hits delinquencies, a large hit to the labor market hits supply. And if you have all three of those, that’s when you start to worry about a 2008 type event. And so it really boils down to if we see a softening in the labor market, how bad is it?

Dave:
That’s a great analysis. The one thing that makes me feel like it won’t be 2008 levels, we could have a quote unquote crash with significant declines, but maybe not as bad as 2008 is that people still need a place to live and it’s cheaper for most people to stay in their home right now. And so I think that’s kind of what happened a lot in 2007, 2008 is people walked away from these homes because they could go rent down the street for cheaper than their mortgage. But that element won’t exist even in a bad labor market. So it will provide a little bit of cushioning, but yeah, if unemployment goes to 10%, a lot of bad things are going to happen. That’s just a really bad scenario for the entire country. You touched on this a little bit, J, but how do you think the stock market plays into this?
Because I have gone on this show many times and I invest in the stock market significantly, but I’m very skeptical of valuations right now and feel that a lot of the stock market is just a little wacky right now and is a little bit of a house of cards. First, tell me if you agree or disagree and how you think generally the equities markets could impact housing.

J:
Yeah. So as I pointed out earlier, and I think we all intuitively know this, the number of people that actively invest in the stock market is low, five, 10% that have any significant amount of equity holdings. And so if the stock market goes down, it’s really only hitting, and again, I’m not ignoring the fact that a lot of us have 401 s or IRAs that have a lot of money in the stock market, but our day-to-day net worth from the stock market really only impacts five, 10% of the American public. The problem is what we’ve seen over the last 18 months is that a very high percentage of retail spending, basically the money that’s getting spent to keep our economy flowing and moving forward and growing is coming from the top five or 10%. It’s the people that own stocks that are continuing to spend, continuing to travel, continuing to buy luxury goods, continuing to buy second houses and buy new cars.
And if the stock market goes down, even if it doesn’t necessarily mean that they can’t afford to do those things, the stock market going down is an indication of sentiment. It’s an indication of where things are headed. And when those top five or 10%, you and I, I think it’s probably safe to say that you and I are both in that group, if we saw the stock market drop 10 or 20%, it may not impact us to the point where we can’t continue to spend money if we wanted to.

Dave:
Exactly.

J:
But it may concern us enough that we choose to spend less, we choose to kind of hoard our cash a little bit more. We choose to kind of hibernate until we see what happens with the economy. And then that ultimately has a big impact, a broader impact on the economy. So I think the stock market, whether it’s actually a real indicator of whether people can spend money or not, it’s certainly an indicator for whether they’re going to spend money or not.

Dave:
Yeah, I am with you 100% on that. I feel like so much of it is sentiment. Where I live in Seattle, you see tech stocks just getting hammered right now. Does that mean necessarily people can’t afford to buy a home? No. But does it demoralize people and make them not want to make large financial decisions like buying a home? I think so. I think that does impact people’s psychology and willingness to spend. I think there are two things going well for the economy right now, the labor market and the stock market, but both of those things feel fragile. I don’t know.

J:
Well, if I asked you right now, what percentage of the S&P 500 is up over the last six months?

Dave:
Oh, I should know this because I was looking at it, but it’s like 20%, 30% maybe. It’s

J:
A little more.

Dave:
It’s 40 to 50%. 40%. Okay. Yeah.

J:
But still, I mean, half the companies on the S&P 500 and 30 to 40% of the companies on the Dow Jones have seen their stocks drop.

Dave:
And I saw something that 88% of the S&P 500 is down more than 40%. There’s some that are really bad.

J:
And this goes to what I was saying earlier where we see this distribution problem where it’s five or 10 or 15% of the country is spending all the money. The wealthy asset holders are spending all the money and keeping the economy going. We’re seeing the same thing in the stock market. It’s the top 20 or 30% of companies that are doing really well, the AI companies, the tech companies, the mega cap companies doing really well. And it’s kind of masking the fact that the other 80% is struggling. And we’re kind of seeing that, we call it a K-shape, a small number of people doing really well at the top and a bunch of people doing much worse at the bottom. We’re seeing that K-shape in numerous places around our economy and the stock market’s another one.

Dave:
Let me just ask you this. On a scale of one to 10, one being you’re very bullish on the stock market, 10 being like, I’m selling everything and running for the hills, where do you lie on the stock market right now?

J:
The problem is I’ve been so wrong on this question.

Dave:
Everyone’s always wrong about it.

J:
I’ve been worried about it for a while. Yeah. I fail to see how we go much longer without a major drop in the equities market and other asset values and basically just an overall recession in this country. And I’ve been saying that for a couple years and I’ve been wrong. Part of it is that, again, there’s a lot of it is now sentiment. People think that things can’t fail. People think that the stock market just has to keep going up because it has been. People think that the economy is not going to go into recession and that’s kind of helped it not go into recession. And there’s also the government who has been willing to spend an inordinate amount of money over the last six years to kind of keep things going. I mean, if you look at our national deficit, and this kind of brings up a completely different subject, but worth mentioning, our national deficit is going up.
We’re hitting two trillion again this year. We haven’t hit two trillion since I think it was 2022. Yay.

Dave:
Yeah,

J:
It’s a problem. But how long can the government spend their way out of this? How long can we run $2 trillion deficits, two and a half trillion dollar deficits if we add another 500 billion to military spending or another 500 billion for interest payments because interest rates are high? I mean, it’s a house of cards that is ultimately going to fall, but we don’t know if that’s going to be a month from now, a year from now, 10 years from now, or 50 years from now.

Dave:
I know. That’s the hard part for sure. But I guess to me, when I think about the equities market, there’s always a catalyst, right? What’s that saying that the market can stay…

J:
The market can stay irrational longer than you can stay liquid.

Dave:
Stay solvent. Yeah, yeah, exactly.

J:
Yeah. A lot longer than you can stay solvent.

Dave:
Yeah. Yeah. So I agree with that, but to me, the rising bond yields is what scares me because everything, every market, whether it’s housing, Bitcoin, gold, equities, bonds, they’re all competing for dollars. They’re competing for investor dollars. And with yields at a 10 year at 5.1, 5.3, it’s kind of where we’ve been hovering for the last couple of weeks, it puts competitive pressure on stocks. If you look at where you’re getting value, risk in the stock market seems even higher when you can enjoy a 5.1% yield in the relative safety of bonds, right?

J:
Yeah. But keep in mind, there is a solution to high bond yields. High interest rates.

Dave:
Fixing inflation?

J:
Well, fixing inflation, but there’s a solution for how to fix inflation quickly, and that’s called a recession.

Dave:
Yeah, that’s true.

J:
I mean, you look at after 2008, what was our inflation rate over the next 10 or 12 years?

Dave:
Oh, it’s historically low. Under 2% for the long time, right?

J:
Under one and a half percent. I often bring this up, but we talk about the Fed setting that 2% inflation target, and everybody thinks that they set that target because they don’t want inflation to be too high. They actually set that target back in 2013 or 14 when inflation was too low. They wanted to get inflation up to 2%. They weren’t trying to get it down to 2%. And so yeah, if we want to fix interest rates, if the government decides that they have to fix interest rates because the problems that it’s going to cause are bigger than a recession, well, the government can do things to kind of force a recession if they really wanted to. Whether they will do that, I don’t know because at this point it seems like a recession is worse for reelection chances than high inflation and high interest rates, but that could change at some point.

Dave:
Yeah, it could. I think we’ll go full Paul Volcker put interest rates to 10%, federal funds rate.

J:
I don’t think it’s going to happen under this president. I think this president will try everything he possibly can before that happens. And I think we’ll be through another administration or two before anybody actually considers that a viable solution. But at some point, who knows? I think it’s possible.

Dave:
We got to take a quick break everyone, but we’ll be right back with more from J Scott right after this. Welcome back to On the Market. I’m here with J Scott discussing everything going on in the economy. Let’s jump back in. Do you think there’s any risk that we won’t see the flight to bonds in a recessionary environment? If you look at the auctions, there’s a decrease in money flowing from foreign governments and stuff into the United States. It expresses, in my opinion, a loss of confidence in our monetary policy. Just curious, I think it’s kind of a stretch, but the thought entered my mind, if we have a recession, maybe bond yields don’t fall as much as they usually do?

J:
I think the answer at this point is probably, because keep in mind, if the US has a big recession, it’s probably a global recession. And if there’s a global recession, as much as other countries, other central banks, other large institutions, foreign investors all say, “We don’t want to invest in the US because we’re pissed at the US because of trade differences or whatever reason it is.” At the end of the day, they’re going to do what’s fiscally responsible for their economy. And the US bond market is still literally the safest place to invest on the planet.

Dave:
It is, yes.

J:
And it’s likely that if there’s a global recession and we see bond yields go down, US will still have a premium, at least a risk adjusted premium over the rest of the world. So I think that a major recession will still push bond yields down. And I think it would actually be the thing, it’s the catalyst that gets a lot of more money flowing back into the US. I think that breaks at the point where the US government, this administration, the next one, the one after that at some point basically sends the message that there’s nothing we can do about runaway debt. There’s nothing we can do about runaway inflation. There’s nothing we can do about runaway deficits.

Dave:
And we’re going to print.

J:
But printing leads to more interest payments, which leads to higher deficits. And at some point, an administration’s going to purposefully or inadvertently send the message that the US is at risk at some point of defaulting on its debt or having to restructure its debt, and that could create enough fear and panic that it actually leads to that event happening.

Dave:
Wow. Well, a lot to think about. There’s just so many variables right now. It’s very confusing and it’s frustrating because you want to know what to do and how to make investing decisions, but a lot of it is just waiting in my opinion and trying to be patient. But do you have any advice on how people should navigate this uncertain time?

J:
Yeah, think of it as a bell curve and 60, 70% likelihood that the economy kind of continues to move within some range. And that range being goes up a little bit more, although we’re probably… Well, I say this and who knows, I could be wrong again, we’re probably near a high with the bottom end of that range being a milder or a normal recession where we see unemployment go to six, seven, 8%. We see the stock market drop 10, 15, 20%, but basically we fall within some normal variation of where the economy is. And I think there’s a 60, 70, 80% chance of that happening. Then there’s a 20, 30, 40% chance that we hit an extreme and that extreme could be runaway inflation that causes asset prices to keep going up massively, a massive recession that causes asset prices to drop precipitously. And so it’s always one of those, I like to think about it in percentages.
I think there’s a really good chance that we just keep moving forward for the next five or 10 years the way we have the last hundred years. Could get better, could get worse, but within this, again, recession to expansion range. And then I see that chance of that extreme event going up over the next couple years. Right now I put it at 20 or 30% over the next five years, but five years from now we could look and say, okay, even if it didn’t happen, we’re now up to a 50% chance because again, more deficits, more debt, more inflation, higher, whatever. So I’d say people should keep doing what they’ve been doing, but given that the likelihood of an extreme event is higher now than it has been in the past, in my opinion, I think you diversify. I think diversification is the way you reduce risk.
And if there’s more risk in the system right now, diversification will help you reduce that risk. Instead of putting all your eggs in one basket, whether it’s the stock market or real estate or Bitcoin or gold or cash or whatever it is, spread it out and try and buy assets that are as decoupled and uncorrelated as possible. Gold and real estate tend to be great inflation hedges. The stock market tends to be great during economic expansions. Cash is obviously bad when we see high inflation, but during a recession, cash is great because it gives you the opportunity to buy things when credit is tight. And so basically just spread your money around so that if one or two things go down, hopefully a couple other things don’t go down as much or even go up.

Dave:
I’m with you. I’m in total diversification mode and trying to limit potential losses and I care a lot less about gains right now, at least especially in equities. I put money in stock market, but I’m happy to take a very defensive equities position right now instead of trying to capture some upside. Same thing with gold, I think same thing with residential real estate. It’s remarkably stable. And even though I think this is going to be a rough winter for transactions, of course there’s a risk, like J said, if unemployment goes to 10%, there’s risk, but still you talk about the chances of percent decline in real estate versus stock market. I still think it’s less. That’s how I’m seeing it. I’m not saying everyone should do this, but I think diversification and defensiveness to me makes a lot of sense right now.

J:
Just remember, we’ve had 36 recessions over the last 160 years. That’s an average of one every four to five years. Obviously we’re not seeing them that often these days, but lots of recessions. Recessions aren’t an uncommon thing in this country. If you’re younger, you probably don’t realize that because there’ve been so few, but people my age, even your age, you’ve seen a number of recessions. And for the most part, those recessions don’t really hit real estate. 2008 did. The Great Depression, that hit real estate pretty hard. But other than 2008 and 1930s, early 1930s, real estate has never dropped more than a couple percent during a recession. You could say it sort of has over the last couple years in real terms, but if you look at the chart of real estate over the last hundred years, 120 years, it basically goes in one direction.
And even when it does go down within five or six or seven years, it comes back up. And so not saying that will always be the case, but until I have a reason to assume it’s not, I’m going to assume that real estate long-term is the single best risk adjusted asset class that we can put our money into.

Dave:
Awesome. I love it. Well, J, thank you so much for being here. This was a lot of fun. Always appreciate you being here.

J:
Hey, thanks, Dave.

Dave:
And thank you all for watching this episode of On the Market. We’ll see you next time.