The Coming Storm
How Much Damage Will This Correction Create?
“In the last 40 years, we've experienced a long-term secular wave of decreasing interest rates.
It started back in the 1980s during the Reagan era. It was the beginning of a tremendous amount of growth in all financial products. Wall Street, technology, and even in real estate.”
The chickens have come home to roost… The high cost of capital and the increase in interest rates over the last 15 months have been long overdue. And I believe they are just the beginning of what will be a hard market correction and recession.
What Led to This Recession?
In the last 40 years, we've experienced a long-term secular wave of decreasing interest rates. It started back in the 1980s during the Reagan era. It was the beginning of a tremendous amount of growth in all financial products. Wall Street, technology, and even in real estate.
All asset classes benefited greatly from the low cost of capital fueled by decreasing interest rates. Fast forward to after the 2008 Great Financial Recession. The Federal Reserve and Congress injected a huge amount of stimulus into the economy.
Quadruple that in 2020 when COVID hit. Trillions of dollars were injected into the economy. This printed money, fiat currency, had to go somewhere so it went into financial products – Wall Street and real estate.
It also went into private equity, which was consolidating businesses left and right even into the field of dentistry. We've seen it in other industries too, but dentistry is what I am familiar with and can dive deeper into.
Many say we're not going to have a recession. “Everything is back to normal. Interest rates will come down. The Federal Reserve will come to the rescue again and will decrease interest rates. We just have to go through this little gap here. Don't worry about it. It's all okay.”
Beware of wishful thinking. The Fed can only kick the can so far down the road and they’ve run out of road.
These long-wave secular trends in interest rates don't change overnight. There will be volatility with interest rates staying higher for a longer period of time. The last trend I mentioned above lasted 40 years. How long do you think this one will last?
The recession that was predicted about a year ago is now being pushed back by most economic pundits, including Jerome Powell. Powell is now stating that there will not be a hard landing but rather a soft landing.
My stance: They are all kidding themselves. They're wishing for it. They're trying to create human behavior. They're trying to backstop the huge issues that they've created by all the monetary stimulation.
There was an increase in inflation last year at a high of 9.1%. I actually believe the real numbers to be quite higher, but that is what the government has stated.
Now the Fed is saying inflation is coming back down after they've raised the interest rates over 500%. If you've raised interest rates that high in such a short amount of time, you'd think something would happen. The issue is the lag effect of higher interest rates. They don't just show up on day one.
In fact, it will take 6-18 months for the full effect of these higher interest rates to begin showing up in many aspects of the economy.
The Rise in Interest Rates Will Affect All Equities and Commodities
This could cause the entire financial arena, especially equities on Wall Street like stocks, bonds, mutual funds, and ETFs to undergo a correction.
Even though technology has been riding high this year, it too is due for a reversion to the mean. Real estate, commercial real estate particularly, but even housing will undergo a correction. This has been a long time coming.
The rising cost of capital, driven by higher interest rates, suggests that the status quo will not continue to exist in the business sector, specifically in health care.
This includes veterinary medicine, dentistry, and other healthcare industries where private equity buyouts have been occurring with the highest multiples in history. It's been a heyday. Young docs have been taking chips off the table and becoming millionaires, essentially overnight. But the structures of these deals, even from those sold in the last year, are not going to play out the way private equity has promised. Why?
It all depends on the cost of capital. Real estate syndications, especially the ones commonly promoted with high IRR return on capital of 16-22%, have relied heavily on the lower cost of capital. Many of their models were predicated on the assumption that future buyers could finance the acquisition at cheap interest rates. But now that things have changed, they won’t be able to follow through on their promises.
The run rate for the last three years was, “Jump in. We've got another great deal coming.” You would be wise to resist that FOMO because unless you know the operator runs a tight ship, and knows how to minimize risk in a deal, you’ll shortly be running on air.
That’s what these operators are doing. They're running on air, and most of these deals will fall apart. Even people who have great intentions and have a good track record won’t know how to deal with these changes unless they have full cycle experience. Most operators have never seen the backside of an upcycle and don’t know what to change in their deal structures to be successful and profitable during a downcycle.
The same thing will happen in the dental industry with the big multiple DSO buyouts. Too many naïve docs have jumped at the chance to take a bite of the poisoned apple.
They don’t know there will not be a second bite. If their promised capital ever does come, it's going to be decreased and delayed way down the road.
Why? Because of the cost of capital. The ability to get these rollups and these recaps is based on the low cost of capital we had over the last 15 years.
That has now changed, and will not be going back down any time soon.
Heed My Warning
People think, “I just have to hang on for a little bit. Interest rates will go back down, and we'll be back to business as usual.”
If that's what you believe, you are in risky territory. Right now is a time to hold back and gain an understanding of the financial industry. Whether you're investing in real estate, your future, or taking chips off the table in your business, it's a dangerous time to rely on what we’ve seen in the past.
I implore you to seek trusted experts for advice. Don’t just do what everyone is doing, the herd mentality. It is the last place you want to be.
Trust me. I've been through these cycles – both up and down. I've seen it before. This one will be no different. There will be many who will get hurt.
My warning comes to you today October 4th, 2023. I’ve been giving this warning for the past 15 months.
A recession is coming. A market correction is coming. We are right on the precipice.
Seek Higher Ground
It is time for a return to merit-based investing. That is, investing in assets that have fundamental value, generate real profit, and are thus insulated from financial market volatility.
This will require skill, effort, and intention.
Now is the time to identify assets that turn your equity into reliable, sustainable, and sufficient cash flow. Divest your performance from indices and invest in real, tangible assets. Invest for a sustainable cash flow that frees you from the constraints of typical investment advice.
If that sounds foreign to you, my advice is to begin to educate yourself. There are ways to invest in real assets without playing the Wall Street game. Find others who are doing so and look at their track record.
To your freedom!
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