Even "Flim-Flam Accounting" Can't Hide This Profitless Recession

Tyler Durden's picture

Submitted by Charles Hugh-Smith of OfTwoMinds blog,

Since stock markets are ultimately underpinned by corporate profits, let's ask: What factors could crush profits in 2016?

The basic idea of a balance sheet recession (attributed to Richard Koo) has been well-publicized: when the liability (debt) side of household and business ledgers reach danger heights, stakeholders respond by reducing debt and increasing savings rather than increasing spending and debt.

The result is a slowdown, a balance sheet recession.

What do we call a recession triggered by a collapse in profits? Corporate profits have soared to unprecedented heights in the "recovery" of 2009-2015: it's certainly been more than a recovery in terms of corporate profits:

What's left to push profits even higher? The mainstream answer is: just more of the same: more global growth, more expansion in emerging markets (EM), renewed monetary and fiscal stimulus in the developed markets (DM), and the tailwind of lower energy costs.

The possibility that the era of unprecedented profits might have been an aberration and is now drawing to a close does not register in the mainstream financial media. If we look at the red line I drew on the chart, it's easy to see the incredibly abnormal rise in corporate profits in the era of rapid globalization and financialization, both driven by cheap-money policies of central banks.

Note that profits literally exploded once central banks opened the credit spigots, and lending standards were loosened to the point there were no real standards (2002 onward).

This globalized flood of nearly-free money pushed asset valuations to absurd heights everywhere. These insanely high asset valuations supported additional debt, which then fueled higher asset prices, a virtuous cycle of expanding debt pushing asset prices higher, when then enabled more debt, and so on.

The problem with bubble valuations is revealed when participants must sell to pay down debt. When the debt-monkey can't be dislodged from the debtor's back, assets must be sold. And in the thin, rarefied air of most markets, any real selling quickly crashes valuations, which were predicated on more buyers, not more sellers.

The initial wave of selling assets to pay down debt has already crushed emerging markets. Relatively modest selling in developed markets pushed many markets into Bear territory (down 20% or more).

Since stock markets are ultimately underpinned by corporate profits, let's ask: What factors could crush profits in 2016?

1. stronger U.S. dollar: as many of us foresaw, the stronger USD has pummeled U.S. corporate profits, much of which are earned overseas in other currencies:

The USD Bull in the Global China Shop (February 4, 2015)

Anyone who thinks the USD will give up its gains is dreaming:

Why the Dollar May Remain Strong For Longer Than We Think (September 17, 2014)

2. Emerging markets consumption is weakening. Crush a nation's currency and stock market, and spending atrophies. When spending sags, so do profits.

3. Oil exporters are reducing their spending. Tightening belts means fewer imported luxury goods and fewer profits for exporters who feasted off oil-exporting wealth for years.

4. China. Imports to China are cratering. Profits will crater, too.

5. Diminishing returns on cost-cutting. All the low hanging fruit has been plucked; shipping manufacturing overseas--done. Reducing head-count: done. Buying software to increase productivity: done. What's left: slash payroll (again), cancel company 401K contributions, etc.--in a word, devastate employment.

6. Diminishing returns on lower interest rates. Refinancing old debt at super-low rates boosted profits wonderfully the first time around, now, not so much: rates have been low for so long, there's no juice left in that lemon.

7. Energy savings have been banked. Airlines have feasted on record profits resulting from plummeting fuel costs, but the big gains have already been banked. If oil drops below $30/barrel, a few dollars can be picked up, but they won't match the gains reaped when oil fell from $100 to $30/barrel.

8. Risk-on borrowing is drying up. The global booms from 2002 - 2008 and 2009- 2015 were both driven by trillions of dollars of new (borrowed) money being dumped into risk-on assets--real estate development, stocks, junk bonds, shadow banking loans, etc.

This tide is now receding.

9. Much of the profit was accounting gimmickry. Jim Quinn recently dismantled the illusory nature of corporate "profits," drawing upon John Hussman's analysis: Corporate Profits Vaporizing: (excellent job, John and Jim):

Elevated corporate profits since 2009 have largely reflected mirror image deficits in the household and government sectors, as households have taken on debt to maintain consumption despite historically low wages as a share of GDP, and government transfer payments have expanded to fill the gap, with 46 million Americans now on food stamps – a five-fold increase in expenditures since 2000.

Essentially, corporations are selling the same volume of output, but paying a smaller share in wages, with deficits in the household and government sectors bridging the gap. As households and government have shoveled themselves further into the hole, corporate profits have climbed higher on the adjacent pile of earth. Deficits of one sector emerge as the surplus of another.

If you think all this is a solid foundation for ever-higher profits, by all means go buy stocks with all four feet. But don't be surprised if the rest of the market disagrees at some point--for example, when even flim-flam accounting can't hide the fact that profits are in a free-fall back to "normal" levels 60% below current levels.

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JRobby's picture

Come on guys! What!?!? Do you need a refresher course?!?

It's all "Flim Flam" accounting now! Sheesh!

El Oregonian's picture

There was a movie made called "The Sting" back in the 70's. Same thing now... It was all just a con.

All things old are new again!

Occams_Chainsaw's picture

We Flim-Flammed some folks....

JRobby's picture

Fictitious Anomaies Surely Benefit

Shareholders and other parties relying on financial statements

two hoots's picture

Foregn investors in US markets?  Surely just as foreign money is buying US homes, business/corps, bonds (for safety), they are surely buying, US based stocks and this may be a big part of the recent surge?    I have no proof but suspect.  Any idea?  

FreeShitter's picture

Fed buying crude oil futures to prop this up this shitshow.

two hoots's picture


Was thinking that “most” Americans see the US markets as their markets, safely holding their pensions, 401ks, IRAs, a US asset, over-watched by the SEC.  But like manufacturing our markets are now global and much of their investments are open to outside influence.  Just as we still compare global economies, we are really moving, albeit slowly, to just one.  A broader way to look at long term investments.


Not well said but just an thought.


JRobby's picture

By the time they realize how wrong they are they have been cleaned out.

This is a Wall Street tradition forever. 

When you consider the amount of misdirected, pointless violence that has gone down over the centuries, the fact that none of these thieves ever get assasinated in broad daylight amazes me.

El Oregonian's picture

+ the feds attaching a printing press to the markets for stock purchases doesn't hurt...

Did anyone say needle meet bubble?

MFL8240's picture

The lies are still available (as is spin)  if the profits are not there so, expect more of the same. As soon as Draghi coordinates the newest fraud with his crime family at the fed markets go higher on no connection to reality!. Once the elite destroy Trump, the crash will arrive!

cwsuisse's picture

The list is not complete. There have been multiple attempts to globally increase consumer spending by interest rate reduction and special loan programmes. These attempts lead to a reduction in savings and an increase in debt. The effects from these attempts are onetime. If the straw fire dies recession sets in. We are certainly at peak debt in many countries (Greece and Great Britain are fine examples) and as soon as China will have catched-up the game is finally over.

ejmoosa's picture

Corporate profits After taxes are now below 2011 levels.


Things are much worse than even these charts suggest.

Contrariologist's picture
Contrariologist (not verified) Mar 7, 2016 9:30 AM

Amazing. The Fed has gifted the American corporations with $400 billion per year of interest savings (at the expense of retirees and other prudent savers), and they still can't turn a legitimate profit. Imagine the real bottom line if they had to actually PAY INTEREST ON THE MONEY THEY BORROWED over the last 8 years.

RabbitOne's picture

The CEO’s of national and multi-national corporations have been cooking the books in every way possible since 2008 to get the last big payouts for their job. They have been borrowing unprecedented amounts to finance stock buy backs to raise share prices (CEO got huge payouts from stock options). CEO’s fired full-time employees using Obamacare as an excuse (Stock profits jumped as part time employees took less overhead). CEO’s took on H1B’s as cheap labor (Hourly cost were lowered as H1B’s cost far less than an American Native). CEO’s farmed out projects to overseas bidders (lowered total costs of projects and increased projects). CEO’s moved their multi-national headquarters to foreign shores (CEO’s avoided America’s high tax structure).

 These examples are just some of what businesses have done under our government’s crony capitalism policy. Democrats now support businesses dubious practices far more than Republicans ever did. Businesses are supporting Democrats to exceedingly high levels because they are then shielded from exposure of these practices in the press. This era of repression of the middle /working class is showing up in the polls as the Sanders/Trumps reflect people’s negative view of crony capitalism policy our government exudes.

JRobby's picture

Don't buy any more of their shit. Then they won't have books to cook.

pitz's picture

Did "they" really think they could ethnically cleanse their workforces of US citizen workers by using remmittance-heavy H-1B's, and get away with it? 

SillyWabbits's picture

The big accounting firms have become engineering partnerships.

Simple as that!

sgorem's picture

Here's my two cents worth: Over the last decade +, I, like many here have tried to enlighten friends, neighbors, co-workers, and relatives to the ongoing illegal manipulation of the economy by the government aka incompetent/unaccountable/revolving door criminal politicos/Wall Street Bankers. Leading the way is the suedo "Federal Reserve Bank", of which is a privately owned Central Piggy Bank for the shysters on Wall Street that has bled (QE's, Zero %, etc.), the American Taxpayer for HUNDREDS of BILLIONS of dollars for their own psychopathic greed. All with the blessings of the .Gov criminals. Getting back to my POINT, alot of these friends/relatives are "trapped" in 401k's, fixed income annuities, cd's, and any & all types of investment products, etc. Getting them to invest in AU & AG for the last few years has been a job. Even when they realize they're being screwed, they don't know how to escape. I've got a gaggle of them buying whatever they can afford, whenever they can afford it. Looking back over the last 66 years, I'm dumbfounded that ALL that we have believed in, like the "the protection government gives us, just Wars, the honesty of banks, political parties, the electoral process, big CORP., and on and on, WAS, AND IS, JUST A FACADE, A LIE. All I, ( and I'm NOT a Doomer), can do now is convince everyone I can that ALL is NOT what it seems to be in our world/country today. Much like Rome when it was in decline. When, not if, the crash of equities, the banks, & the economy comes, life will be very hard on the ones that LEAST deserve it. Prepare accordingly...........     

Libertati Aut Ad Mortem's picture
Libertati Aut Ad Mortem (not verified) Mar 7, 2016 11:53 AM

Globalization has allowed US market based firms to expand their profits worldwide.  The chart is self-explanatory.  While the explosion in profits may not be repeatable, it may not be on the precipice of falling either.

Theonewhoknows's picture
Theonewhoknows (not verified) Mar 7, 2016 12:26 PM

We're already seeing economic collapse starting to unravel. With Commodities being cheapest since 1974 and developing economies heavily indebted - (normally they are the ones that always save the day during crises as they are using cheap resources to manufacture and save world demand) - China will not be there to save the day...