The following is an interview I did in early February with a student from Eastern Kentucky University who was looking for an alternative, common sense viewpoint for the average person for approaching personal finance issues during the Depression, amid all the pro-stock market propaganda. It is not an investment advice article or a survivalist’s guide.
Is this a good time to start investing?
There are two good answers to that: yes and no. It all depends on your current financial firepower, your age, level of financial sophistication, retirement plans, and options for a 401k, just to name a few factors.
Most of us need a return on our savings. Sticking money under the mattress will not put your money to work for you. Traditional, bull-era investing advice looks at your return timeline — if it’s short because you haven’t saved, more aggressive investments with higher returns are recommended. But if your timeline is long, less risky investments are the standard advice. However, this mainstream view is completely dependent upon a reliable bull market. The standard line is that “the market will always go up.” Always. Even with the current stock market collapse, the perma-bulls still don’t have a clue. They believe the market fallout is due to a “lack of investor confidence” or a “bear-market raid.” The same went with housing — “the price can onnly go up” was the standard pronouncement. The underlying assumption is that there are no rogue factors driving up asset prices and therefore the high prices of the boom period were true market prices that reflected reality. To them, the boom wasn’t an aberration — the current bust, or correction, is an anomaly. People forget that Japan’s Nikkei, the index for the Tokyo Stock Exchange, hit an all-time high of almost 39,000 in 1989, and it has trended steadily downward since that time. The index value is below 8,000 today.
These assumptions that are representative of the mainstream are not supported by the fundamentals of economics. Interventionist central planning on the part of government centers on manipulating the money supply, thus distorting asset prices and the financial markets. So when a house sold for $500k during the housing bubble, and gets appraised for $270k two years later, the market, in spite of the countless interventions, has moved to a correction mode. That’s because inflated asset pricing is unsustainable in the long run.
So with the current market collapse and the incredible uncertainty ahead of us, it’s a tough time to be investing your money. Throwing money at the stock market is like wearing a blindfold and throwing darts at a board twelve feet away. You may hit or you may miss. A hit doesn’t mean you can make the next speculation work in your favor. In fact, the uncertainty is even greater now because we do not know the precise direction that government intervention is going to take. More intervention will further skew market prices, causing people to make erroneous decisions based on the price distortion that will be the result. The trillion-dollar stimulus package will cascade throughout the economy, benefiting some and robbing others at different points in time, and thus we will see a major redistributionist effect and the impact of what and where will be impossible to accurately predict.
For those who tend toward Austrian Economics, the stock market holds little hope for romance. There are the more benign investments, such as insured deposits, and there are the commodities that are favored by Austrians — gold, silver, platinum, palladium, gold coins, etc. There’s one major point to think about, however, in terms of "investing." I cannot help but quote from this excellent 2005 article that appeared on LewRockwell.com, written by Eric Englund. Mr. Englund, who is often my writing partner, stresses that there is a clear difference between an investor and a speculator, and that is the financial literacy factor. To be an investor requires an understanding of the underlying value of the equities you are purchasing. Accordingly, thorough analysis of a company’s financial statements is an essential step in the investment process. If you cannot read and understand the company’s financial statements, how can you be an "investor?" The answer is that you’re not an investor — you are throwing a dart. People throwing darts at equities on a board in the back of some barroom are not investing their money — they are speculating. The investor, on the other hand, understands the balance sheet, the income statement, and the statement of cash flows, as well as the disclosures in the company’s financial report. Only through careful analysis of the aforementioned components, along with other insights regarding leverage, debt servicing, inventory turnover, working capital, etc., can one make a reasoned analysis, thereby distinguishing himself as an investor as opposed to a speculative fool who hopes to get lucky.
People have been brainwashed with the promotion of a speculator society, and the boom years made things seem like a piece of cake because almost every move they made got some upside. They all became financial geniuses overnight. Wealth didn’t require long-term planning, as they were told — all it took was a few well-placed darts and the fortitude to ride the tide to stock-picker heaven. But heaven only produced paper profits, hell is now here, and it has to be dealt with through prudence and patience. Throw the darts away and start anew.
The question of financial illiteracy, then, is not a condemnation of individuals who cannot understand these matters, but rather it is simply a fact that makes him or her a speculator, not an investor. So that begs the question: should financially illiterate people be speculating in stocks, right now, in the midst of all of this turmoil, uncertainty, and interventionist mania? Probably not. Self-education is the key, and that should start with Benjamin Graham’s Intelligent Investor. Sure, it can be a very cumbersome and difficult process to learn all of this, so if that’s not your bag I would think that throwing dice in the stock market is probably not your best bet either. The alternative would be to pay someone to make those decisions for you. Consult some professionals who hold your own philosophy and understand your particular needs. Interview more than one prospect to determine if you are dealing with amateurs or pros.
On a different note, since this current crisis is a Depression and many people are in hock because of years of unchecked spending, an alternative to “investing” extra cash is to pay down debt. Currently, debt is costing some people a lot more than they can earn on investments, so paying down debt may be the best option for them. People need to get rid of revolving debt, car loans, and personal loans — anything that is crushing their cash flow and creating a monthly financial burden. This includes the mortgage as well. With the rapid downturn in housing prices, paying off principal is especially important.
401k plans are also becoming a problem. 401k accounts tend to offer few, if any, safe investing alternatives. People use them because a company match is essentially free money. But now, companies everywhere are canceling their match program, and everyone is losing ground on their 401ks with negative returns. So why keep throwing money into the 401k when you can put money to work paying down cumbersome debt?
Should people be spending or saving?
That deserves the standard tax question answer: it depends. We’re in a Depression: a crashing stock market; the collapse of housing prices; a foreclosure epidemic; a tidal wave of unemployment; massive bank bailouts and/or failures; an unprecedented number of corporate — especially retail — bankruptcies; and the disintegration (and bailout) of the domestic auto industry. The federal government has quasi-controllership of many facets of the economy by way of the nationalization of the banking system and the bailouts of Wall Street and the domestic auto industry. Meanwhile, the Federal Reserve is pumping money into every nook and cranny of the economy and the Treasury has been granted extraordinary (and unconstitutional) powers to spend billions of taxpayer dollars without congressional oversight.
Still, it’s ludicrous to say that no one should be spending and that saving is the only means of surviving a Depression. In this Depression there are people who are hurt because of job loss, wage cut, unmanageable debt, foreclosure, or even the erosion of their investments and retirement plan. Those are the people who need to save, and they need to be uncompromising about managing their budgets and cutting back all unnecessary spending. Then there are those who still have their job, have little or no debt, and enjoy a healthy cash flow. For those people, a Depression is a great time to buy. The availability of bargains is very high right now, especially in retail, where business is hurting most. Deals on automobiles right now are spectacular, including a 0% interest rate for people with a solid credit history. Someone who has a real need for a new car right now should buy it.
In fact, people should buy stuff they need if they can get a Depression deal. They should be a little more conservative regarding all of the other tempting bargains that are not necessary for their survival, productivity, or overall well being.
Should people be trying to pay down debt?
See question #1.
Should people be taking out new loans?
People with good credit will get terrific interest rates, so if they need an important item and it’s a Depression bargain, that’s when they should get a loan. People should borrow for a car if they need one. Not everyone can save and pay cash for a car. If you can, great, but that’s unrealistic for most people in the current times. Free money — 0% rates — is available for people with great credit scores. People should be more wary of buying a house. No one should be moving to a new house unless they have to — the days of buying a bigger and better house every few years are over. People who move for a job should think about renting in the short term. The mass of foreclosures has made housing rentals attractive. First-time buyers may get what seems like a bargain compared to bubble prices, but most likely the house will be worth less after they buy it, and perhaps well into the future.
Student loans of massive amounts are going to go away, too. People cannot expect to borrow heavily in the present and burden their future with excessive debt payments, especially since the job market for entry-level workers with huge loans to pay back will be extremely competitive. As far as taking out loans for furniture, electronics, trips, and assorted other "goodies," it’s not only unwise but it may be impossible for those people who have abused this in the past and now suffer the consequences of big debt piles and/or injured credit scores. The "easy credit" days of want-and-ye-shall-have are past us, and instead we will usher in a new era of frugality and long-term planning.