Here Be Dragons!

It is said that ancient mariners’ maps bore legends that warned of mythical dragons beyond the horizon that would destroy any vessel venturing into their waters.

dragon-map

Many economists today feel the same trepidation that sailors of generations long past must have felt as their ships sailed beyond the known limits.  Our own Federal Reserve has minted oceans of money, trillions of dollars, out of thin air.  Our national debt stands at levels unimaginable just a handful of years ago.  Some say that our national debt is the dragon that will devour us.  By most measures, it appears that could be the case.  However our national debt is not a democrat or republican issue.  It’s a government issue – a government on a decades-long spending bender:

fed-debt-by-president

Source: truthfulpolitics.com

Yes, debt could be a dragon.

Critics of reduced government spending often say that our absolute level of debt is not a concern because our GDP and income have increased greatly over the years however when we look at our national debt as a percent of GDP, the picture is not much prettier.  Notice how it is now the highest it has been since the Great Depression?  Could be a dragon!

percent-gdp

Source: https://deutscheam.com/en-us/thought-leadership/cio-view/article/debt-curse-or-blessing?kid=disp.CIOView201610.outbrain_us.ad.focus

The real dragon in the room is deflation.  After nearly a decade of printing mountains of money, the US Federal Reserve and Central Banks the world over are not only out of bullets, they have barely kept the deflation wolf from at bay.  As we have written about in previous posts, the velocity of US money has slowed as all of the fiscal stimulus has become lodged in corporate balance sheets in the form of debt used to fund enormous stock buy-backs.  Very little investment has found its way into new property, plants, equipment or employees.

Think about it: doubling the national debt in eight years has produced a gasping patient.  With the Fed starting to soak up liquidity, the edge of the horizon is in sight.  When GDI and GDP (gross domestic income and gross domestic product) slip into negative territory, THERE BE DRAGONS!  The deflation dragon – the worst of them all!

gdi-in-us

Source: Author & unknown artist & http://www.telegraph.co.uk/business/2016/10/19/fed-risks-repeating-lehman-blunder-as-us-recession-storm-gathers/

The point?  Gather up all of the liquidity you can muster.  You probably have between a month and six months to gird your loins before the deflation dragon appears and when it does, it will likely thrash the markets for two, three or even four years – or more.  Who really knows?  We aren’t getting into this downturn on the well-worn path of the 60’s, 70’s, 80’s, 90’s and even early 2000’s.  This time we have invented a whole new breed of beast.  At the nadir, you will be able to acquire quality income-producing assets at once in a lifetime prices.  But don’t buy too early.  Channel Rothschild, JP Morgan and Joe Kennedy – buy at the bottom, after all of the liquidity that rushes into the market after the first wave is wiped out by the second and third waves.  Patience will be rewarded.

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ABOUT VERTICAL

Vertical Capital Advisors is a firm built on creating tangible value for our clients.  We work with clients in just about every industry.  And we work with both capital growers and capital allocators.

Joe Briner
Managing Director
Vertical Capital Advisors LLC
briner@verticalcapitaladvisors.com
866-912-9543 ext 108

 

 

Would you be willing to risk a 60% loss in order to get 2.85% interest from your bank?

Would you be willing to risk a 60% loss in order to get 2.85% interest from your bank?

Italy’s 50-Year 2.85% Bonds are 300% Oversubscribed – So what?

This week Italy began selling 50-year bonds paying 2.85% and they had three times more orders than they had bonds to sell[1].

“So what?” you ask.  “That means nothing to me”.

Or does it?

Bond buyers are generally a very bright lot.  They are probably the sharpest people in the business world.  They analyze every scrap of economic data continuously, day and night.  These hyper-analytical people are willing to commit money to an investment that has a very low yield for a very long time and whose host is in dangerous financial territory.  The Italian banking system is technically bankrupt as we wrote about in earlier posts and unemployment is over 20%.  We pegged Italy as one of the likely triggers for the next recession.

The country risks are readily apparent.  The interest rate risk is even greater. interest-rate-risk

You probably know that the price of bonds is inversely related to the rate.  As rates go down, prices generally go up.  As rates go up, prices fall.  The relative price to rate movement is determined by a bond’s duration which is a function of the rate and the time to maturity.  With a low rate, there is not much room to fall but a lot of room to rise.  And 50 years is an eternity in the world of bonds.  So if rates rise just 1%, these bonds are expected to lose 22% of their value.  Now the average rate for 10-year Italian bonds since 1991[2] has been a shade under 6%, let’s call it 3% higher than the 2.85% rate on the 50-year bonds.  Investors are willing to risk losing over 60% of the value of their bond investment in order to get a paltry 2.85% return and are in fact betting that interest rates do not return to normal, because if they do, and if they need liquidity, they will lose over 60% as sure as the sun will rise tomorrow.

italy-govt-bond

Forget Brexit.  It will be conditions like this that set off the next round of creative destruction.

So, would you be willing to risk a 60+% loss in order to get 2.85% interest from your bank?  Of course not.  Why are billions of dollars flowing into these bonds, then?  Because there is no alternative.  Investors are starved for yield.  They would rather risk the devil they know over the devil they don’t.

Fortunately, we have found a few brave capital allocators who are willing to seek higher returns from unknown enterprises like yours because they have the intellectual capital to analyze your business plan and make a rational determination that the expected return is higher and the risk is lower than Italy’s 50-year 2.85% bonds.

 

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ABOUT VERTICAL CAPITAL ADVISORS

Based in Atlanta, GA and created to help businesses survive the devastation of the Great Recession, Vertical Capital Advisors is a firm built on creating tangible value for our clients.  We work with clients in just about every industry and we work with capital consumers and capital providers.

 

Joe Briner
Managing Director
Vertical Capital Advisors LLC
briner@verticalcapitaladvisors.com
866-912-9543 ext 108

[1] Reference: http://www.wsj.com/articles/italian-treasury-sounding-out-investors-on-50-year-bond-1473260474

[2] Reference: http://www.tradingeconomics.com/italy/government-bond-yield

Church Pastors Only, Please! Lender Liquidation Auction – Church Sanctuary

Alpharetta, GA 10/7/2016 –  This email title grabbed my heart this morning:

Lender Liquidation Auction – Church Sanctuary, Gym, Parsonage.

I checked it out.  This is a beautiful church.  It must have been the spiritual epicenter for hundreds of well to do families to have been so beautiful, inviting, spacious, pastoral.    Check it out:

churches

And yet it will be auctioned to the highest bidder next Wednesday.

Pastors, stop what you are doing right now.  Before this fate is visited upon your congregation, please call us.    We have helped other churches restructure.  It doesn’t matter what state you are in, financially or geographically.  There is a solution.  Your lender does not want to end up auctioning your sanctuary.  It is the worst outcome for all parties.  Let us help you, guide you through the process.  We can’t guarantee the right outcome but we know who can!

ABOUT VERTICAL

Vertical Capital Advisors is a firm built on creating tangible value for our clients.  We work with clients in just about every industry.  And we work with both capital consumers and capital providers.

Joe Briner
Managing Director
Vertical Capital Advisors LLC
briner@verticalcapitaladvisors.com
866-912-9543 ext 108

 

World Debt Exceeds $152 trillion – Does it even matter to you?

The IMF (International Monetary Fund) issued a report today[i] that shows we learned nothing from the Great Recession.  In fact, as the world slid into recession and growth slowed into reverse, instead of deleveraging, we collectively amped up borrowing – private borrowing by consumers and businesses and sovereign borrowing by countries – in massive quantities.  Counterintuitively, economies shrunk and debt blossomed:

global-gross-debt

The IMF report is chock full of beautiful charts and graphs and loads of scholarly research.  Really great stuff.  Exactly what you expect from a group that has such exciting committees as: Dissemination Standards Bulletin Board (DSBB), General Data Dissemination System (GDDS), Reports on Observance of Standards and Codes (ROSCs), and Special Data Dissemination Standard (SDDS).

The one thing that the IMF got right is placing the blame on globalization of banking and easy access to credit.  Which brings us to you.  And me.  The easy access to credit pre-recession was universal – consumer mortgages leading the way.  Post-recession, the credit bubble has been inflated primarily by large corporate borrowing, governmental borrowing and two areas of consumer borrowing: cars and student loans. bright-note

Notice what is missing from the above list? It is the heart of the American economy – small and mid-sized business borrowing.  It has been incredibly difficult to obtain.  The bright note today is we have found a few brave sources of capital who will work with great management teams who have a great products and better business plans.  It’s not easy, in fact it is harder than it has ever been.  And we have to navigate often unconventional terms.  When we get your deal financed, it is all worth it.

Joe Briner
Managing Director
Vertical Capital Advisors LLC
briner@verticalcapitaladvisors.com
866-912-9543 ext 108

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[i] Source IMF  http://www.imf.org/external/pubs/ft/fm/2016/02/pdf/fmc1.pdf

Have you ever wondered if you should call a professional to help your business restructure its debt?

hand-grabbing-for-rope

You see reports in the financial press and mainstream media about companies that have spectacular missteps and flame-outs but for every story you see, there are perhaps hundreds or even thousands that you don’t.  In fact, there were 12,764 business bankruptcies filed in the first six months of this year, that’s over 2,000 per month on average:

us-bankruptcies-2016

Source: http://www.uscourts.gov/report-name/bankruptcy-filings
Chart © Vertical Capital Advisors LLC 2016

Every one of these cases is a tragedy involving the loss of up to hundreds of millions of dollars and countless jobs.  The human toll, the distress caused in the lives of thousands of people, is incalculable.

So have you ever wondered if you should call a professional to help your business restructure its debt?  If the answer is yes, you have wondered, then the next step is to make a call.

You see, if the right financial professional is involved early enough in the process, many more options are open to the leaders of the business.  The right plan can shed unproductive assets, invest resources in revenue and profitability drivers and create a leaner, more focused, more agile enterprise that can once again compete effectively in the marketplace.  It is always a tough process but guess what, it is much easier than bankruptcy.  We know.  We often get the call from creditors who have had enough and are ready to pull the plug.  We have liquidated many businesses and the shock and tears and disbelief sadden the soul.

In most cases, your creditors and investors are delighted to see you take affirmative action to resolve a crisis.  They much prefer you call us to craft a solution over them calling us to liquidate your business.  They almost always give us another length of runway to develop and implement a recovery plan (that they approve) and sometimes they even provide additional funds to make it happen!

If you have the right team, a credible plan and the resources to implement it, save some modest amount of capital to prime the pump (modest being defined by the size of the enterprise – ranging from tens of thousands to hundreds of millions of dollars), your business can be reinvented so it can once again thrive.

Joe Briner
Managing Director
Vertical Capital Advisors LLC
briner@verticalcapitaladvisors.com
866-912-9543 ext 108

Repeat Business & Referrals – The Ultimate Compliments

percentageIn the depths of the recession we helped scores of businesses restructure their financing so the company involved could live to fight another day.  We helped each company get lean and profitable by focusing on the core revenue and profitability drivers, especially strategic client relationships.

Now that the economy has recovered we are seeing many business owners seeking a new round of permanent financing.  Most gratifying of all is the client who we helped survive the recession now flourishing and needing graphsgrowth capital.

In August we helped a wholesaler obtain new $1,500,000 financing at a fixed rate of 5%.  It may not seem like much but the new rate is over 20% lower than the previous rate that was over 6%.  This savings, on top of the $500,000 discount we negotiated five years ago, has transformed the company into a very profitable enterprise.

This is a small example however this client is connected to over $10 million in other capital we have placed for other clients.  And for this particular, it means literally everything.

We love the trust that we earn by securing sound financial futures and we love even more the repeat business and referral opportunities it generates.

To all of our clients, thank you from the Vertical Capital Advisors team!

Hate Tina? The smartest people in the room do, too

A buddy of mine runs bond funds for a huge multinational financial firm.  He hates Tina.

Tina is an acronym for “there is no alternative”.

Bond fund managers lament having no good choices to invest billions of dollars.  Bond yields are notoriously low and they have been for eight years.  Central banks across the globe have kept short term rates at or near zero that long.  Sure, the Fed raised the fed funds rate 0.25% in December and the market threw up all over it.  The Fed wants to raise it another 0.25% but is concerned that the market may tank if they do.  All central banks are confronted with the same problem: no real economic growth, stagnant wages, rampant underemployment, anemic business investment.

FRED

What is crazy is that central bankers, always the smartest people in the room, worldwide have been prancing around while the emperor who has no clothes leads the parade.  The really crazy thing is that the smartest people on the planet, global central bankers, have no clue how to fix it.  They just met for three days in Jackson Hole, Wyoming, and this is the best they could come up with:

Their message to global governments: “HELP!”[i]

Central bankers hate Tina, too.

It appears their solution may be for central banks to buy corporate debt[ii], in effect supplying capital directly corporations which is equivalent to nationalizing corporate debt.  You heard that right, taxpayers will be taking on the risk of large (and maybe small) corporations if central banks buy corporate bonds.  It’s another form of bailout.

The low rate environment is forcing big banks to double down on financial risk on scale never before seen.  Want evidence?  Look at the ProShares Ultra Short QQQ (SQQQ) whose objective is to generate three times the negative performance of the S&P 500 (ProShares symbol QQQ) every day.  The top five positions (counter party positions, technically) are held by commercial banks.  Banks are putting their capital to work on the financial markets instead of lending it to small and medium-sized businesses because their models show less risk and higher return with higher certainty than making loans.

Top Holdings

Institutional investors the world over are doing the same.  Hundreds of trillions of dollars have been allocated to “investments” that do not produce anything: no real products or services, no jobs, and in many cases, no taxes.  All financial engineering.

George Soros has made the same bet in a very big way[iii].  He has shorted 4 million shares of SPY, the SPDR S&P 500 ETF by buying puts which gives him the right to put the stock back to the counterparty if the price falls below the strike price.  This is essentially the strategy the John Paulson employed to pull of the Big Short.  But it wasn’t a quick trip for Paulson and it may not be a quick one for Soros either.  Paulson had to borrow over $200 million to keep his bets in play, to avoid margin calls in effect.

In an earlier blog I promised to give you a glimpse of where to park funds in order to prosper in the next recession.  But beware, this could be a case of being right but still being wrong because if the markets tank, as markets do, and if the world’s top commercial banks are wiped out, it may be a very long time before one could be able to access funds tied up in them and in the meantime, legislators may invent a way to nationalize your funds as well.  And keep in mind that even Paulson was never completely certain where the bottom was or whether he would be able to collect on all of his correct bets.

The advantage of SQQQ over shorting stocks is that when you short a stock, you can only profit between your acquisition price and zero.  SQQQ is designed to triple that return.  And the advantage of SQQQ over buying puts as Soros is doing is that puts expire after a period of time, taking the premium you paid to buy them with them, meaning you have to be prepared to re-buy several times if you are too early.

Tina is making people do crazy things.

 

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[i]  Global central bankers, stuck at zero, unite in plea for help from governments https://ca.news.yahoo.com/global-central-bankers-stuck-zero-unite-plea-help-123135496–business.html

[ii]    https://ca.news.yahoo.com/fed-nears-rate-hikes-policymakers-plan-brave-world-005117150–business.html

[iii]  Believe in George Soros? Short S&P 500 with These ETFs  www.nasdaq.com/article/believe-in-george-soros-short-sp-500-with-these-etfs-cm666674#ixzz4IjRqKmFA 

http://www.nasdaq.com/article/believe-in-george-soros-short-sp-500-with-these-etfs-cm666674

Could the U.S. Government Take Part of My Retirement Savings?

I have seen this movie before, Maestro – and I don’t like how it ends!

greenspan

I received a notice today from a retail broker informing me that under new federal regulations our company cash reserves can no longer be invested in money market mutual funds that maintain a stable $1 net asset value.

I had to choose whether to receive a check for the funds or move them to a money market fund that invests in US Treasury obligations.  Simple enough, I chose the UST fund and went on with my day.

bloomberg 81814Then a friend sent me an article about a rumored tax on retirement funds.  Sure, I had seen these articles before, we all have.  The financial press has written amply about the prospect of a European “bail in” but here, in the U.S., come on, no way.  Yes, Argentina, Hungary, Poland, Portugal, Bulgaria and Russia have all “nationalized” private pensions and retirement savings, but here, in the gold old U S of A?  No way.argentine

Then it hit me.  This is exactly how we started down the slippery slope that plunged us all into the Great Recession.  It started with innocuous little changes.  Greenspan advocating 65% then eventually 85% home ownership.  Social engineering, not monetary policy, to be sure, but for a great and noble cause: greater stability and bank bail ininvestment in communities that comes with home ownership.

Then came the financial creativity.  No longer would mortgage lenders be bound by the decades old strictures of 20% down (or 10% with PMI) and maximum 36% debt ratios.  Mortgage lenders were loosed to run amok in society, preying on any group unsophisticated enough to know the dangers they were signing up for.  Greenspan, Clinton’s “Maestro”, changed federal policy to allow banks to invest Tier 1 capital in mortgage-backed securities, flooding the secondary mortgage market with trillions of dollars in liquidity.  He changed the net capital rule for broker-dealers, essentially allowing infinite leverage and exposure to risk.

Greenspan set the stage for the catastrophe, then, as the economic bloodbath raged, the henchmen slammed us with mountains of new regulations and flooded the markets with trillions of dollars printed out of thin air.  Although he largely denies personal culpability for the Great Recession, he sheepishly, once upon a time did admit that some of his models may have been wrong:

greenspan testifying

The parallels of the precursors to the 2008-2010 Great Recession to what we are experiencing today are there, sure enough.  Innocuous government regulation aimed at improving the markets but with serious ramifications when the economy hits the inevitable rough patch.

I have seen this movie before, Maestro – and I don’t like how it ends!

Where’s the safe zone?

That will be the topic of a future blog.

The Great $550 Trillion Bet of 2016 – And how it will impact YOU within a year

falling off cliffA college student asked me today, “a group just did a presentation on the last crisis and they just didn’t seem to think it would happen again or at least to that level because of the regulations in place – what do you think?”

Wow.  Loaded question.  How to answer and not sound like a cantankerous old WASP?  (52 is ancient to millennials).

We can start by taking a look at how we are creating the next recession before it has even officially started.  We are not getting into this recession the way we get into most recessions.  Most recessions represent a cooling off period after the economy overheats – – inflation caused by expansionary monetary policy is followed by a period of higher interest rates and contraction, a.k.a. a recession.

The 2008-2010 “Great Recession” was different.  The Fed embarked on a bold new plan of social engineering, increasing home ownership by encouraging creative financing alternatives in the residential mortgage lending market and allowing banks to invest trillions of dollars of Tier 1 capital into mortgage backed bonds, among other systemic changes.  This caused the “housing bubble” which when it burst, rained $4 billion on John Paulson personally, enabling Michael Lewis to write the New York Times bestseller (and later a movie based on the book), The Big Short.  (This is the abbreviated version – call me if you would like to schedule the 4-hour lecture.  Seriously, call me.  I have one).

The next recession will be a totally new breed of economic disaster.  It is a hairy, monstrous beast being fed a steady diet of ever increasing sovereign nation debt and corporate debt, most of which is producing no new output of any kind.  And the debt is being juiced with steroids made of derivatives, over $550 trillion of them worldwide according to the Bank for International Settlements.  Amazingly, U.S. banks have exposure to $247 trillion of them!

As I wrote in a previous blog, the CIA World Factbook indicates that the Global GDP (OK, it’s GNP when talking globally, forgive me professor Tutterow) is only $107.5 trillion.  So why do we need to hedge every economic transaction five times over?   We don’t.  It is all speculation.  And when speculation turns to panic triggering a full-blown collapse, guess what?  We get a singularity!  Everything will go down because nothing will hold its value.  No one wants to buy anything, no matter the price.

What might the first step down the slippery slope be?

How about Japan.  Japan’s national debt has grown 94% in the last 10 years (from USD$1.55 trillion to $3.02 trillion) and now stands at 229% of its GDP despite no real growth in nearly three decades and yet the yen is still one of the strongest currencies in the world.  Why?  Because almost everything else is worse!    Japan’s only solution is debt monetization, a fancy economics term for paying off corporate debt with even more sovereign debt.  And with its low borrowing rates, it has long been a favored source for traders to obtain low-cost funds to place their bets in riskier markets offering higher yields (known as the carry trade).  What happens when traders no longer want to play this game?  That could be the first slippery step.

aug 4 graph

Or how about Italy?  The average Italian bank has 18% non-performing loans and 8% capital.  If they recover 50% of every non-performing loan, the capital base of the entire Italian banking system will be wiped out.  Greece at 34% non-performing loans and Ireland at 19% are even worse.  Portugal at 12% is technically bankrupt as well.

And don’t forget the $247 trillion of derivatives held by US banks.  During the great recession some of these instruments had nearly infinite (at least very difficult to calculate with any accuracy) negative values.

These are only a few potential flashpoints built into the global economic system.  There are myriad others that could be the last snowflake that triggers the avalanche.  I don’t see a soft landing under any scenario.  Having learned nothing from the worst recession in nearly a century, we have levered up in every way imaginable.  We have dialed up the risk to a point that no individual, corporation, government or intergovernmental entity can manage.  The powder keg is busting at the seams.  One spark is all it will take.

As we wrote about earlier, the best way to protect yourself is to have ample cash on hand to weather the storm.  Or as more aptly spoken streets quoteby Baron Rothschild in the panic that followed Napoleon’s defeat at the Battle of Waterloo, “Buy when there’s blood in the streets, even if the blood is your own”.

$550 Trillion Global Derivatives: www.bis.org/cpmi/publ/d135.pdf

Japan External Debt as of 8/3/16: USD$8.978 trillion per www.nationaldebtclocks.org/debtclock/japan

Japan External Debt as of 2006: http://mecometer.com/whats/japan/total-external-debt

Japan Debt as a Percent of GDP: www.tradingeconomics.com/japan/government-debt-to-gdp and www.boj.or.jp/en/statistics/br/bop_06/edp.htm

 

FRED says: Our Money Velocity Sucks – Let’s Add More!

 FRED says our money velocity sucks – like a vortex heading down the proverbial drain.  And FRED’s friends keep throwing more and more money on the heap.

FRED is shorthand for Federal Reserve Economic Data and in this case, we reference the St. Louis Fed report titled Velocity of M2 Money Stock (as an economics undgrad, I love this stuff) (https://fred.stlouisfed.org/series/M2V, July 14, 2016).

FRED 1

Take a look at that chart.  Velocity has averaged 1.74 post-Depression.  It peaked at 2.21 Q31997 and has dropped steadily since then.  It is now around 1.4 and falling steadily.  Most people alive today have never seen money moving so slowly.  Capital is log-jammed in the financial system and not moving – money is simply not changing hands the way it used to.  As an entrepreneur, you may have noticed that it is much harder than usual to secure capital for fun things like buying new equipment and hiring employees.

Now check out the supply of money, M2:

FRED 2

It has ballooned from $7.4 trillion to $12.7 trillion since the beginning of the most recent recession.  We have never experienced economic conditions like this – EVER.  Normally when the money supply expands rapidly, it pushes prices up – more money chasing the same quantity of goods.  Ominously, this has not happened in the last nine years.  In fact the opposite is happening – deflation.  Deflation has been avoided only because of the unprecedented printing of money.  But it is coming.

So we have nearly doubled the money supply (71% increase since December 2007) and all of that increase plus a big chunk of the money in circulation before that is now lodged firmly in the financial system and isn’t coming out any time soon.  It will take a major event to dislodge it.  What type of major event?  How bad will it be?  Well, seeing as to how the last one was pretty painful and we were at half the altitude we are now, the next one is probably going to be severely painful.  Rioting in theriotingstreets like Venezuela painful? (http://www.ibtimes.co.in/venezuela-food-riots-5-dead-protests-over-high-inflation-food-
shortage-683228). Don’t know.  Please respond with your thoughts on what you think the outcome might be.

global wealthMany people have asked me “Well then, where is this money held exactly?”  Ultimately, it is all owned by individuals – you and me.  In fact, it is now estimated that the wealthiest 62 people on the planet have the same wealth as the bottom 50% of people on the planet.  Credit Suisse puts the figure at the top 1% having the same wealth as the bottom 50% of the world’s population.  (http://fortune.com/2015/10/14/1-percent-global-wealth-credit-suisse/)

So the answer is that the vast majority of wealth created is stored safely and securely at the top.  (https://publications.credit-suisse.com/tasks/render/file/?fileID=F2425415-DCA7-80B8-EAD989AF9341D47E)

On the bright side, the number of newly-minted millionaires is on the rise again.  The city with the most millionaires?billionaires

 

New York!

us wealth report