After writing today's piece, I realized that all three sections discuss well-known narratives. So rather than claim originality, I'm labelling them as what they are: narratives 1, 2, & 3.

NARRATIVE 1: BOND MARKET LIQUIDITY IS STILL A THING

Really nothing new to add to this story; it has been extremely well-documented elsewhere (the critic in me would call it 'over-documented,' but I'm feeling charitable). If you have somehow managed to avoid hearing of this narrative, it is conceptually straightforward: there are concerns about the lack of liquidity in the corporate bond market. In an article titled The bonds that break in the July 22 - 29 issue of The Economist, I was reminded 'yep, still a thing.'

The basic concern is pretty simple: the corporate bond market could, in principle, be forced into a self-reinforcing feedback loop which pushes bond prices wildly lower even if initially spreads widen only mildly. The biggest pressure point is, arguably, that so much wealth has flowed into corporate bond ETF's and related products, which trade as perfectly liquid instruments, but whose underlying value comes from highly illiquid assets. In the event that the regular ETF reconstitution process cannot be carried out, a lot of ETF owners could lose a lot of money and damage global financial conditions in the process (corporations are, for better or worse, highly reliant on access to debt markets). 

One way of conceptualizing the financial services industry is that it transforms long-term illiquid stuff into short-term liquid stuff (from bank balance sheet perspective, turning the LT/ill. assets into ST/liq. liabilities). This is variously referred to as liquidity transformation or maturity transformation: "borrowing short and lending long," basically. It's not just banks, either. This is what a lot of mutual funds do. It's also what a lot of fixed income hedge funds do: you borrow some short-term money and place bets in higher duration markets. Yeah, it's not exactly the same, but it's a closely related concept. The more you think about, the more you realize that basically every industry within the financial services sector can be described as an agent of 'transformation' of some kind, turning one piece of paper into another piece of paper.

Ok, back to corporates.

When a bank runs into trouble, it most often means that it can't get enough short-term funding to hold onto its long-term portfolio of assets. This could be because they have lots of non-performing loans, or they were holding private-label MBS which went to ~0, or they're bad credits for whatever reason (i.e. the folks financing them don't want to lend if they are believed to be insolvent). It can also be because of a 'liquidity crunch,' which is different from solvency stress. If there are just too few short-term lenders (i.e. exodus from money markets), it doesn't really matter how strong your asset side is, because there aren't dollars (or Yen, or Euro, or whatever) to be lent in the first place. This is the backdrop for the market structure for corporate bonds, and a less frequently mentioned aspect of the bond liquidity narrative.

The one value-add part of the Economist piece for participants, in my opinion, was this (emphasis own):

Hedge funds are more nimble bargain-hunters but they often depend on financing from the banks, and that may not be available in a crisis.

This brief line provides a good reminder. You can't just be a PM and say 'Ok, if these products get crushed, odds are it will be over-done, like most sharp market moves, right? Therefore I will be a clever little PM and fade the crash after a sufficient amount of time has passed!'

Nice try, buddy. Where you gonna get that money to buy?

It is a well-worn, extremely valid aphorism in markets that "liquidity is most scarce when you need it the most." During a legitimate financial crisis, you don't just decide "I will provide great liquidity, and be compensated richly for it!" You need to be stashing away that liquidity during the period leading up to the crisis: which is to say, you need to get over FOMO. If you expect your fund to have liquidity during an event like this, you had better be prepared for the sleeve in question to underperform your benchmark by more than a couple bips in the interim. You are sacrificing a few bips effectively as the premium on a liquidity option.

So, my advice to managers: if you are equally or more concerned than the consensus about corporate bond liquidity, the only way to put your money where your mouth is, is to stash cash now. The banks will be much less friendly about your funding when the day comes that their own balance sheets are under siege.

NARRATIVE 2: DEMOGRAPHICS AREN'T LOOKING TOO HOT

Underfunded pensions and baby boomer retirement are two intertwined topics which have, and continue, to receive a lot of attention. It is a well-worn narrative. Though not at all surprisingly, little is being done to improve the situation.

A piece by Gluskin Sheff's David Rosenberg, regarding these topics, has gotten a lot of play in recent days. It, or at least Zero Hedge's summary, is worth a read. Kevin Muir at The Macro Tourist also discussed it, and provided some valid counterpoints.

I have nothing to add: read what they wrote. This is one of those themes festering in the background, looming over all of the noisy short-term market action. The day has not yet come, and probably will not for a while, when it becomes the focal point of events. But some day it will, and for the time being it is a grey fog hanging over markets. I prefer to recognize and consider that fog, rather than hope it will leave.

NARRATIVE 3: INEQUALITY HAS BEEN, AND STILL IS, RISING

I don't think I need to tell anyone that for several decades economic inequality in the developed world has been rising.

In simple terms: within the developed/wealthy/industrialized/etc world, rich people are getting richer and poor people aren't. There are lots of forces at work. But I want to talk about this from the perspective of corporations and the relatively straightforward decision set they face.

Imagine you are a simple corporation. You buy stuff, pay people to turn it into other stuff, then sell this new stuff at a markup greater than the cost of transformation. What you have left over is profits.

With these profits, you can:

1. Pay them to the people who run you (executive compensation)
2. Squirrel them away (retained earnings)
3. Pay your workers more (higher wages)
4. Reward your owners (dividends or buy-backs)
5. Invest in your future (Capex/acquisitions)

Ok, so those are the choices facing corporations. Now let's consider what they have actually done, throughout most of the developed world (FWIW, my perception of DM has a U.S. tilt, because I am based here) in the past thirty-ish years, with an especial emphasis on post-GFC behavior:

1. Executive compensation has been high and climbing: managers are capturing an ever-growing share of profits.
2. Not much is being squirreled away, except by the top players in 'winner take all' industries (Apple being the eponymous example) who have huge amounts of cash. The more common pattern has been rising leverage, which is to say, spending more than they are taking in.
3. Workers, for a variety of reasons (diminished bargaining power being the blanket cause), are being paid less and less relative to profits. Real wages have been persistently flat*.
4. Owners have been richly rewarded. Dividends have been rising, and equity markets have been basically 'eating themselves,' engaging in Ouroboros, as one smart guy put it (I think it was Michael Green at Thiel Macro, but I could be totally misremembering). In fact, a lot of companies have been buying money to buy back their shares, which is effectively borrowing money as Entity A, and handing that money to your owners, X, Y, and Z. And you guessed it, X, Y, and Z are usually rich already, as the poor do not own large stakes in corporations, by definition.
5. Capex has been extremely weak compared to historical relationships. Corporations aren't investing in 'stuff' nearly as much as one would expect them to.

In my (non-economist) opinion, those five points explain the rise in inequality. As much as participants like to decry manipulative monetary policymakers and conniving statist politicians, the bulk of global wealth is commanded by profit-seeking entities. Due to a confluence of forces, these entities have chosen to use their profits in the above five ways. On net, those five decisions have contributed to a redistribution of marginal new wealth away from the poor, and towards the rich.

Oh yeah, and I almost forgot: the ratio of financial assets to real economic activity has been up, up, up, and the owners of financial assets are by and large the rich (again, this is almost tautological). I think on net I am a cautious supporter of QE, but one cannot ignore that it has exacerbated wealth inequality.

I try to keep my politics out of this (I'm quite politically agnostic anyways), but allow me to make this uncontroversial factual observation: this has never, ever, ended well in human history.

As for precisely how this impacts asset prices, that's for another day, and perhaps just best left for folks smarter than I. One linkage I will (un-originally) point out now, is that today more than usual, corporate credit and the equity markets are co-dependent. A lot of the bid for equities has come from the corporations themselves, using money borrowed in the bond markets, which feature spreads at hyper-low cyclical tights. This effectively doubles downside risk. But hey, it's worked so far! Maybe... it will continue to?

In any event, hopefully this provided a new, or at least useful, way of thinking about economic inequality, how we got there, and where we may go.

* As a (casual) student of labor economics, I know what a drastic oversimplification this is. There is obviously a lot of fascinating, more granular stuff going on when you look at different ages, nationalities, skill-sets, education levels, etc. But in aggregate, the weak wages story holds.