The very top line is that worse is likely to come – but then better.
As no one knows the timing or order of events – deflation, inflation, stagflation, prosperity – the best asset-deployment strategy, for those who have the luxury of assets to deploy (but also the burden and angst of trying to figure out how to deploy them), is the simple-minded ‘four prong’ strategy I have been suggesting since long before there was an Internet.
I’ll get to that.
The other top line I think is that less than a month from now we will have a President-elect, I hope, who can restore confidence around a simple but powerful vision to renew America.
I’ll get to that, too.
But first, a little perspective.
1987 – I remember being in Detroit on a book tour when the market fell 22.6% on October 19, 1987. The world didn’t end, and in the intervening 21 years life, for most, in many ways, has gotten better. (We’ve also done some colossally dumb stuff and squandered trillions of dollars, which is much of the reason we are where we are.) In that time, the Dow has risen from that day’s close of 1739 to last night’s 9955.
1996 – Eight years after the 1987 crash, in December of 1996, with the Dow in the 6,500 range, Alan Greenspan warned obliquely of ‘irrational exuberance,’ but failed to do anything about it. (What he could have done, as I’ve argued here and elsewhere, is gradually deflate a little of that exuberance by raising the margin requirement from 50% to 55%, and then perhaps 57.5%, and just keep gradually inching, winching, and Grinching it up, thereby to temper market psychology until the fever broke – with the added benefit it could then temper the collapse a bit by unwinding those hikes.)
What seemed irrationally high in 1996 might ironically wind up being our bottom this go-around. ‘We’ve all worked very hard and smart these last few years,’ I wrote a few years ago, reprised last week . . . ‘we’ve built the Internet and laid a zillion miles of fiber optic cable and made astonishing breakthroughs in medicine – we’re richer than we were – so maybe 6500 on the Dow is no longer irrational at all.’
So maybe we bottom at 6500 or maybe yesterday was the bottom or maybe the bottom won’t come for a long time.
But there will be a bottom at some point, and then – with further ups and downs along the way that fake us all out (or at least me) so we wind up knowing for sure it was the bottom only long after that knowledge can do us any good – there will be gains.
John McCain’s chief economic advisor from his 2000 run for President, the previously referenced co-author of Dow 36,000, will eventually be proven right, as sure as you can see Russia from Alaska. It just may take a while.
1998 – Ten years ago, on October 19, 1998, the 11th anniversary of the 1987 crash, I posted this response to a reader query:
From cheery old Lubenovic: ‘What kind of financial strategies/tactics would you recommend for a worldwide recession or …. depression?’
☞ This would be so easy if you knew for sure recession/depression were coming. It’s a possibility, of course, but by no means something you can ‘count on.’
If you could, you would sell all your stocks and real estate and buy puts. (Puts leverage your pessimism much more than selling stocks short directly-and have the virtue of limiting your loss to 100% rather than leave it open-ended if you are wrong.) And/or you would put a good chunk of your money into U.S. Treasury securities. And you might put a few bucks into silver dimes, just to have some walking around money if the value of paper currency were ever called into question.
And then, when things seemed worst and most hopeless . . . when stocks were being given away at prices that would look good unless the world ended altogether . . . you would trade most of your profits in those puts and Treasuries and buy like a bandit. Because I can say with the confidence of a man who knows you will not be around to rebuke me if I am wrong: the world will not end.
But here’s the catch with a disaster strategy: We may already be a good deal of the way into that disaster. Just ask that sliver of the globe that lives East of Prague all the way on out to the Pacific and Hawaii. So it may be that the world is poised to reinflate and grow, that interest rates will rise, puts expire worthless and Treasury bonds (at least those of the long-term variety), sink like a stone.
My guess is that the true path lies someplace in between those two scenarios. We will not have a worldwide depression; but the easy years are behind us for a while. A quarter-point drop in the fed funds rate-swell surprise though it was-may not be enough to turn the world economy around.
Hence it makes sense, I think, to spread your money-if you’re fortunate enough to have enough to spread-over the ‘four prongs’ I have written about from time to time: some cash/liquid money first (money-market funds, T-bills, whatever); an inflation hedge in case the world reflates (your home, stocks over the long run, though inflation would kill most stocks at first); a deflation hedge (long-term Treasuries); and a ‘prosperity hedge’ in case we really have already hit bottom (stocks). How you best weight these prongs depends on your own circumstances (80-year-old widows and 29-year-old eye surgeons are not the same) and your own view of what might happen (or at least your own view of how unhappy you would be if certain things happened, so you can try to stay within your tolerance for pain).
What will happen?
All I know for sure is that no one knows. If things get bad enough, prudence could even come back into fashion. That, no doubt, will be the bottom.
2008 – So here we are 10 years after that, back at one of those times when people are worrying about bad times. And the truth is, we’re in a much weaker position than we were in 1998. The Dow is 1500 points higher today (before adjustment for inflation) – yet we are far more deeply in debt, bogged down in two wars, poorly led, less well respected around the world, and – by the reckoning of almost everyone the pollsters ask – seriously on the ‘wrong track.’
The four prongs continue to make sense – though for most Americans, even just covering the first one, a substantial liquid emergency fund – cash – is beyond their reach.
A few comments to update the prongs:
Cash – for most people, the bank or money market fund or T-bills are fine. If you have a lot of cash, you might consider, as has been discussed here a few times, whether all of it should be in U.S. dollars. It seems to me we will have a few years of gargantuan deficits – and should, to get out of this mess – and that in the short run, at least, this could weaken the dollar relative to some other currencies.
An Inflation Hedge – to the general categories of real estate (which has mostly not yet hit bottom) and stocks (which probably haven’t either) you might add timber (however bad earnings may prove to be in the short run, PCL’s trees do keep growing) and oil (APC is off by more than half from its 52-week high) and long-term TIPS, yielding about 2.5% over inflation (at least as uncle Sam chooses to define inflation).
A Deflation Hedge – Long-term Treasury bonds would get killed in an inflationary environment, yet do well in a flight to safety and when the cost of living falls. I doubt we will have any sort of sustained deflation. We’ve learned a lot since the 1930s and have mechanisms in place like FDIC insurance and the various social safety nets that we didn’t have then. We’ve also gone off the gold standard and are printing massive amounts of new money to fund what will continue to be massive deficits for several years to come. None of that spells prolonged deflation to me.
A Prosperity Hedge – things just might work out. Indeed, I think they will. So if you’re 26 and have begun putting $300 a month into an index fund or two – rejoice! You’re getting the shares at a serious markdown, and they bargains may become better still. If you’re 50 and just inherited $5 million in cash, hoping to put $3 million of it into stocks once it’s fully deployed, you might consider investing $100,000 a month over the next 30 months. But if you’ve got money in the stock market you may genuinely need in the next few years – like, to pay rent or to eat – then you have to ask yourself what it was doing there (don’t you listen? The stock market is never a place for money you might need in the next few years) and, probably, take it out. I would also note that stocks are not likely to do well if we have either deflation or serious inflation, or even just some continuing turmoil. So I, for one, have not sold my RSW.
However hard it is to know how to navigate these waters, one thing is simple and applies to everyone: live frugally, light on the land, saving for the future, and recognizing that many of the best things in life are free, or nearly so.
Tomorrow (or soon): Less than a month from now we will have a President-elect, I hope, who can restore confidence around a simple but powerful vision to renew America.
Quote of the Day
If you ask me to name the proudest distinction of Americans, I would choose the fact that they were the people who created the phrase 'to make money.' . . . Men had thought of wealth as a static quantity, to be seized, begged, inherited, shared, looted or obtained as a favor. Americans were the first to understand that wealth has to be created.~Ayn Rand
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