Zombie Apocalypse?

Will zombie companies add fuel to the fire of the next downturn? Or will the Fed set off some controlled burns?

The bull market is (take your pick):

  • in the late stages of the market cycle
  • in the late innings
  • long in the tooth

Let’s get another cliche out of the way and say that bull markets don’t die of old age.  Are we headed for a recession or a bear market?  Yes.

  1. This is like asking if we’re headed for Christmas.  We’re headed for Christmas whether it’s December 24th or December 26th.
  2. It’s impossible to prove that we’re not and I’ve been around long enough to know not to put a deadline on predictions.  It’s one thing to say there will be a recession in the future and another thing to say there will be a recession next year #timestamp.

So yes, there’s a bear market or recession on the horizon, but that doesn’t mean the current bull is over any time soon.  Even if you think the market is over-valued or the Fed is screwing things up, the market can stay irrational longer than you can stay solvent.  Predicting the next downturn is not the business of serious investors.  Being prepared for it is.

My Fear

A recent New York Times opinion column addresses zombie companies.  A zombie company doesn’t generate enough cash to pay its loans, but survives by repeatedly refinancing.  These companies would normally go bankrupt or get acquired during downturns.  While we’ve had two brief brushes with bear markets in the last ten years, they weren’t extended market-clearing events.  I wonder if this will exacerbate the next extended bear market.

I can’t help but think of the market as a forest being renewed by occasional forest fires.  Regular fires clear away the underbrush and allow for new growth.  If there hasn’t been a fire for a long time, that kindling piles up and intensifies the eventual inferno.  Will zombie companies act as additional fuel on the fire?

What if we looked at December’s sell-off as a controlled burn?  Would the Fed be able to engineer sell-offs to clear away some market debris and fend off a major drawdown?  Influencing the stock market isn’t part of the Fed’s dual mandate, but it does seem to have been awfully responsive to the market lately.

Maybe Market Returns Aren’t What We Should Be Watching

A bear market might not be necessary for a reset, though.  Apple cleared the mobile telephone market with the iPhone.  The internet cleared many hardware industries (think music being distributed via streaming, killing the CD/album).  Innovation might just be rotating through the markets rather than having growth-by-calamity.  Autonomous cars, cryptocurrencies, and genetic research are all possible industry disruptors.  It’s also likely that there’s a MacGuffin (I consider the internet the ultimate MacGuffin – change on the scale of human imagination) lingering out there.

While I fear a short-term threat of zombie companies, I see them being more George Romero and less 28 Days Later.  So far, the economy has stayed ahead of these shambling corpses (a way of saying that I’ve been wrong about this for years).  Hopefully the economy/market/Fed don’t say anything stupid like “I’ll be right back” or suggest we all split up.

There is a short-term fear of a market-clearing fire, but the forest will remain.  Regardless of bear market or recession, human nature, the exchange of work for currency, and innovation are all constants.  For too many people, a short-term aversion to pain has turned into a decade-long stint as market spectators, not participants.