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The Congressional Budget Office (CBO) is projecting growing federal deficits for the next 10 years. The chart below is shown as a percentage of GDP, so it hides the snowballing dollars of deficit. By the numbers, the CBO is forecasting the annual deficit to grow from $1.6T to $2.6T in 2034. The CBO is projecting tax collections to grow from $4.4T to $7.5T in 2034, but that is not making a dent in the deficit problem. |
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The CBO is also projecting the interest cost on our debt will increase from $900M today to $1,628M in 2034. One big question that will have a huge impact on the actual interest cost is what the Treasury will have to offer investors to get them to buy an increasing amount of debt. Currently, the public and other countries own $26T of US debt, and that is expected to grow by $22T to $48T in 2034. |
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The CBO calculated the projected interest cost based on an assumption that interest rates will increase slightly from ~4.0% to 4.25%. Already the Treasury is reporting tepid demand for US debt, resulting in higher interest costs. What will happen if there are scant buyers for US government securities? The Treasury could increase the rate to investors (this would increase the deficit more) and/or the Federal Reserve could step in and print money to buy the government bonds to ease the over-supply problem. If the FED reversed its current course of reducing its balance sheet to buy securities, they would increase the money supply and drive inflation higher. This is a likely scenario. From an investment perspective, where are the best places to invest given that inflation is here to stay and most likely will get worse? Historically, the best-performing investments during inflation cycles are real estate, commodities and consumer staples companies. The worst places to be invested include retail, tech companies and durable goods. Multi-family real estate with long-term fixed debt is a very attractive hedge against rising costs. The interest cost will remain fixed while the top line can grow with inflation, creating a growing NOI stream and a higher valuation. And apartments are a basic necessity that consumers will continue to pay for while they dump other expenses. We believe every investor should have a balanced portfolio, including a healthy allocation to real estate even in non-inflationary times. But given the trends that we are seeing, it seems very prudent to ensure you have adequate exposure to assets that fare well with inflation. |
