Sunday, January 18, 2009
I was recently asked how it was that I knew to sell my house prior to the bursting of the housing bubble, why I sold out all my stock holdings in favor of gold and silver long before that was an obviously sensible move, and why I am convinced now that the recent actions by the Fed and the Treasury Department are likely to fail.
But most of all, how did I get it right, when so many others missed it entirely?
While I do root around in masses of complicated data, the answer to these questions is surprisingly simple: I trusted myself.
More specifically, I trusted myself enough that when I saw something that didn’t make sense, something that just “felt wrong,” I took actions accordingly.
- It didn’t make sense to me that a nation could consume beyond its means forever.
- I was stumped by how an economic system predicated on continual expansion of credit would make a graceful transition to a no-growth environment.
- I didn’t understand how people making $50k per year could buy $500k houses with no money down and have any hope of paying that back.
- The concept of turning a bunch of subprime loans into higher grade securities, while extracting money along the way, puzzled me deeply.
- It didn’t seem possible to me that money could continue to expand faster than the economy, long-term.
My work and my passion are centered on helping you spot these same sorts of disconnects listed above, so that you can see things more clearly and with less confusion about the direction of things.
The key to navigating during moments when the dominant story is ‘wrong’ is to consciously block out the ‘programming’ that is constantly reinforcing the status quo and to examine each assertion made by authorities (and by advertising and journalists, and any and all experts, myself included) as though it were possibly a live hand grenade.
While you may ultimately end up agreeing with the assertion or claim, your first instinct should be one of suspicion. Often my first clue that I need to do more research into a particular assertion is simply a gut feeling that “something is not right here.” Even when I cannot quite articulate why, and maybe have almost zero hard data on the matter, I have learned to trust my instincts for when a story just doesn’t add up.
This principle can be applied to the Bernie Madoff swindle. Many investors have recently described that they had suspicions and concerns over the years about the steadiness of Bernie’s investment returns. Yet they kept their money with him. If they had simply trusted themselves and decided to move their money to an institution where they did not have these gut-level concerns, they’d be in infinitely better shape right now.
Here are examples of recent assertions that have sent up my warning flags:
- Stocks always go up over the long haul.
- Hydrogen is a suitable replacement for oil.
- Our economic health depends on “unlocking the credit markets.”
- There’s “cash on the sidelines” waiting to go to work. (Which of course, as we know, will drive up prices).
I want you to take full responsibility for your future. Heck, I want everybody to take full responsibility for their futures. This begins with educating ourselves about what’s really going on in our world, which you are already doing.
One of the main impediments to this, as I see it, is that we have long been trained to trust authorities. We are constantly told, in ways both direct and subtle, that our job is to carry on while the big players take care of things. Our schools teach us that the right answer comes from the front of the classroom, and our jobs often reinforce the value of keeping one’s head down and one’s opinions to oneself.
But now that the track record of our authorities reveals that relying on their competence alone would be a bad strategy for us, how do we break out of our longstanding habits and forge off on our own to make our own decisions?
The key, again, is to begin by trusting yourself and then acting on what you know to be true, beginning with small steps.
So here, in January 2009, are the three major economic disconnects that I am focusing on:
1. How is it possible for an insolvent nation to borrow money from an insolvent financial system to bail out insolvent financial institutions?
This is the biggest of them all. It is the primary disconnect that makes me go quiet when someone expresses their hope that “Obama will fix things.” While I also carry the hope that smarter decisions will someday soon be made in Washington DC, the disconnect emerges when I compare the enormity of the task against the abilities of a new administration, let alone one man.
Until and unless I gain an appreciation for how we can borrow our way out of this mess (and I must confess that this completely eludes me at the moment), I will maintain a hyper-protective stance on my financial holdings.
Remember, the point of a bear market, and we are in the beginning stages of what will probably be the largest one on record, is to destroy everyone’s wealth. In 1929, it was said, people lost money. In 1930, the smart people lost their money. In 1931, the really smart people lost their money.
At times like these, when I have very large questions about the overall solvency of the entire system, I strongly resist any and all calls to “get back in the pool” and buy stocks “before they go up” because “they always go up over the long haul” and “there’s money on the sidelines.”
If you are hearing any of these sorts of urgings from your friends, family, or broker, just ask them the question in bold above.
Because I am stumped as to how an insolvent system can borrow from itself I remain deeply skeptical of any and all claims that we’ve seen the bottom in the market.
2. How are we supposed to return to a renewed period of economic growth predicated on more consumption, when baby boomers (the wealthiest generation) have seen their two primary forms of wealth, stocks and houses, fail in the same decade?
The near-desperate maneuvering by the federal government and the Federal Reserve are aimed squarely at returning our economy to a position of growth. Growth requires consumers to spend more money on more things going forward.
But our consumer landscape is still dominated by a demographic feature (anomaly?) known as the “baby boomer bulge.” As Bill Bonner wrote in Financial Reckoning Day, “Older people down-scale their lives, cut back on their spending, pay down their debts, and add to their savings. As people move from middle age into old age, they increasingly save for retirement and sell any stocks they had during their middle age.”
The outlandish spending of the 2003 – 2007 period, which our authorities are now attempting to resuscitate, faces two powerful headwinds:
- People’s asset-based wealth has been mauled, and will have to be largely rebuilt before the “wealth effect” kicks back in to support spending based on a restored confidence in asset-based wealth. This will take years, if not decades, and boomers will be selling their assets into any attempts to reinflate the housing and stock markets (bubbles).
- Much of the recent spending boom was supported, not by assets, but by credit and by spending beyond our means. While the desire to spend beyond one’s means is an ever-present human condition, the desire to lend is a more fickle sentiment. It will take a while (years?) to revert back from saving to borrowing and spending.
I see many commentators already calling for a bottom and searching for signs that a recovery in consumer spending is happening. In many cases, these folks are drawing upon historical examples of recessions that have typically lasted about as long as our current recession, implying that this one may already be drawing to a close.
The danger here is failing to appreciate the extent to which our recent excesses were simply over the top and are very unlikely to be repeated any time soon. The greater the excess, the larger the hangover.
3. How can US dollars be considered a “safe haven,” given how many of them (trillions and trillions) are being newly created out of thin air?
In a luncheon speech (Jan 15th 2009) in San Francisco recently, Janet Yellon of the Federal Reserve had this to say about the Fed’s actions:
Yellen said the Fed is already buying mortgage-backed securities and has begun a program to do the same for bundles of “auto, student, credit card, and…Small Business Administration loans – sectors where the issuance of new securities has slowed to a trickle.”
She said this novel pump-priming tactic has already helped push down the rates for 30-year, fixed-rate mortgages.
As for where the Fed has gotten the cash, Yellen said it’s simple.
“In a sense we are printing money,” she said, adding that she is not worried about inflation right now but the reverse – falling prices that make it harder for businesses to boost sales, prompting more layoffs and causing the downward spiral called deflation.
Let me shorten that up for her. What she meant to say was, “We are printing money.”
While I recognize that other countries are doing the same thing, the US is the most indebted country and is printing the most (by far). Sooner or later, investors and countries will lose confidence in a currency that is printed with wild abandon whenever the mood or circumstance strikes. After all, fiat money is founded on confidence, which can evaporate rapidly if the motives and/or competence of the managing authority are called into question.
Without mincing words, the Fed is now “monetizing debt” and runs the very real risk of a massive devaluation of our currency. Of course, I would strongly suspect that this is actually the goal of the Fed, although they will not come right out and say that. Competitive currency devaluations have been a feature of every global financial crisis and are the preferred way of relieving the strains built up by the past periods of excess.
What should you do about this?
Trust yourself, and take actions accordingly. Take responsibility for your actions by educating yourself well about issues that you do not fully understand, and do not trust or assume that the authorities know better than you do. Listen to your instincts, act on what you know to be true, and steer clear of the things that don’t make sense to you.
As you gain comfort with this material, the actions you will need to take in your own life will become evident.
It’s really that simple.