We are at an interesting point in this economic and capital market adventure we have been through for almost ten years. We hesitate to use the word “cycle” because that implies that economic activity, measured by the output of our country, and in turn the capital markets, would actually turn down. It really is more of an economic experiment, one in which the central banks of the major developed countries in unison have poured money into the global capital markets in an attempt to accelerate economic growth after the desolation of the Financial Crisis nearly ten years ago.

We are at the point where, in the aggregate, the domestic economy is showing real signs of growth. In fact, we are in the midst of a global economic upswing as Japan, Europe and other parts of the world experience rising economic output and asset prices. The S&P 500 increased a solid 22% last year including dividends.

Yet, this growth comes at a price. Our debt burden is growing. Here in the United States, the Tax Bill and its impact on both consumer and business spending will likely increase the budget deficit by $1.5 trillion over the next decade. The budget deficits that we have been incurring will likely grow larger over the next two years as tax collections decline in the hopes that increased economic activity picks up the slack. We estimate this may result in an additional $1.7 trillion in U.S. Treasury issuance over the next two years. We expect our government will continue to grow the debt level to fund the budget deficits and support economic growth. We can only hope that investors and central banks continue to line up to buy our bonds.

The monetary stimulus implemented over the past eight years which was used to jump start this economic growth is unparalleled compared to any period in our economic history. Because of our central bank’s shift in monetary initiatives over this period, we believe we entered a new monetary regime. We shifted from a regime where targeting a level of short term interest rates could, at the margin, have an impact on economic growth to a new regime in which the central bank buys trillions of dollars of bonds in the open market onto its balance sheet in an attempt to lower interest rates across the yield curve. As a result, core tenants of economic measurement including measures of risk and volatility, output, and even expected outcomes appear distorted compared to historical norms. This has a profound impact for investors as asset prices and valuations have been pushed higher.

The surge in asset prices is marked by historically low levels of volatility. We are truly stunned at the resilience of the capital markets to negative news. Wars in Syria, Afghanistan, and the Middle East; the growing nuclear threat in North Korea, imminent default on Venezuelan debt, you name it – there has been no negative news on the geopolitical front that has been able to pull our bond and stock markets lower. With volatility at record lows, investors are showing the wild exuberance that is typically associated with late stage equity bull markets. Feeling like they do not want to miss out, investors ignore risk measures and move with full force into equities believing that they, or their advisor, is sharp enough to get out of the market on time. This doesn’t end well. Markets always correct. The problem is made more complicated during our current economic experiment, because the tools our central bank would normally use to mitigate a downturn have been largely used up. This helps to explain the Fed’s push to raise short term interest rates this year, since the Fed believes they will symbolically be needed to be lowered during the next down turn.