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# Educational Alpha: American π

May 8, 2023

By William (Bill) J. Kelly, CAIA, President & CEO of the CAIA Association.

Don McLean, singer, and songwriter of the title-referenced song, attended the same prep school and college as I. We also both delivered the local Westchester County newspaper as kids, but that is pretty much where the parallelism ends, as he went on to write chart-topping albums and songs, and I, my blog.

American Pie was McLean’s signature song and there has been much debate and speculation of both meaning and reference, as the lyrics have been continuously parsed against so many pop-culture references. McLean has largely stayed out of the debate but in more recent times, he has stated that the lyrics were basically about “things heading in the wrong direction.” Maybe like the symbolic π (3.14), it is all transcendental (i.e., no solution) and irrational, much like the 31.4 going on right now in Washington DC.

Do decimal points (and more zeros) matter when the number gets so irrationally exuberant? The mathematical π has no real solution but you need it to square the calculation of a circle. It is simply 22 divided by 7, or more commonly stated as just 3.14. Move the decimal over one spot and toss in eleven zeros, and you get our true American “ply” of \$31.4T, as in our current debt ceiling, and it looks like June 1st will be the day that the music, along with our credit worthiness, could die.

How did we get here in the first place? One only needs to look by way of a proportional example, via a simple household budget and cumulative spending patterns, where taxes and inflation are ignored for simplicity’s sake.

Imagine such a household circa 2001 (the last time the US had a surplus) earning \$100,000 but they decide to spend \$108,000, putting a mortgage on future earnings. Perhaps not a reckless move unto itself if earnings are expected to grow, or if there was a one-time levered purchase for shelter that can be repaid over long periods. But what happens if this pattern recurs every year for over two decades? Annual deficits become accumulated debt and in the case of the fictional homeowner herein, their income just like that of the US, grew by a cumulative multiple of 2.6x, while the spend rate more than trebled. In 2022, the fictional household is now earning \$260,000 but the piper needs to be paid for the cumulative transgressions now amounting to \$1.6M of debt. To extend the narrative, this household has bled red ink for over 20 years running, and just to service this debt, will now cost about one-third of their annual income! Put a simple 20M multiplier to this fictional household debt and you will have the reality of our bleak sovereign picture where in fiscal 2022 we took in \$4.8T and spent \$6.2T (Table 1.1), adding another \$1.3T to the cumulative collision course with a debt ceiling of \$31.4T.

Making matters worse, a good portion of our national debt was ginned up when rates were near zero, but the financing window is no longer nearly as accommodating, and our counterparty may want (meaningful) interest AND principal to be repaid. This is no way to run a household, much less a sovereign balance sheet. This is “the levee where we have driven the Chevy” and there is a cinderblock pinning the gas pedal to the floor.

Reality is just a few short weeks away here in the United(?) States and the only thing that the legislators seem to agree upon is acrimony. The latest edition of The Economist Newspaper has the cover story aptly entitled “Fiscal Fantasyland” with the subtext, “When will politicians wake up?” Sadly, it may not be in time, leading me to channel my inner Don McLean:

This June could make us shiver

With every solution we fail to deliver,

And as our sovereign credit may be our plight

I saw McCarthy laughing with delight,

The day the markets died

Mind the left tail and while we must be long-term investors, a tactical view in times of crisis calls for rational thinking especially when dealing with irrational numbers, and the jesters we have charged with minding our gate.

Seek education, diversity of both your portfolio and people, and know your risk tolerance. Investing is for the long term.