News Scary as hell: the looming economic disaster

[russ_watters]

None of the financial counselers in my earlier years ever talked about mutual funds at all. They were pretty crude at the time, heavily loaded, and not regarded as a significant investment. The people who talked about investing to me in the 60s talked about two things: investment clubs, and real estate. But investment clubs were not a way to make a significant amount of money, they were just a hobby, promoted by brokerage houses to get the fees. And real estate required a lot of up front risk. My best buddy maxed out his credits cards to buy a beat-up apartment building that he and his wife then sweat-equitied in fixing up, and he went on from there to bigger and better deals, leveraging equity on new purchases. For about five years he had a lot of tension, and then broke through into real prosperity. But I was never up for that.

Quite frankly, that sucks, and I didn't know investing was that closed-off to the mainstream back then. I'm glad I have so much easier access to the market ($5,000 is all it takes to start an investment account).

BTW, a lot of the people I knew who did go strongly into the market were essentially wiped out in 1987.

There is a forumla for how much of your money should be in stocks based on how far you are from retirement (something like 20%+ the number of years to go), so it shouldn't have killed anyone (that said, my parents are near retirement age and were hurt more by the '98 drop than they should have been - its tempting to stay in when its time to get out). As bad as it looked on Monday (depending on how you look at it, it was as bad as 1929), it wasn't that bad in the grand scheme of things:

http://www.lope.ca/markets/1987.html shows that the Dow went from about 2,200 to 2,700 to (in a matter of days) 1,600, then back to 2,000 in about six months overall. So anyone who was diversified and didn't panic, at the peak lost about 40% of their holdings, but over the course of the six months only lost about 9% of their holdings. Overall, 1998 was a far worse year. And today, the Dow is about 5x the value it was then - which, by the way, is about 15% per year, even when calculated from the peak. But certainly, people panic - like I said, that Monday, things looked pretty bleak. That's why one of the keys is to stay rational.

 

[russ_watters]

I should have been more specific about my point. Index funds should be timed and not just before retirement. So some thinking must be done. Here is a chart of the Dow, inflation-adjusted. Those who bought in 1929 and 1965 had to wait a long, long time before break-even. If at all before dying.
http://www.dogsofthedow.com/dow1925cpilog.htm

I need to look into that graph some more - it doesn't make sense to me. If today's value is 10,000 and the inflation-adjusted value is 1,000, that's 1,000% inflation over 100 years - or 10% a year. Inflation historically has averaged more like 3%.

 

[Locrian]

The fact that 40 years ago people were not properly educated on methods of savings is not an acceptable reason for continuing an absurd government program. Vast amounts of information is available on the subject and anyone who is interested can learn to invest their money in low or high risk instruments. I can understand the plight of those short sighted enough to have believed social security would enable them to retire, and therefore suggest a gradual phasing out over time.

There is no reason the government should be responsible for supporting people for decades (sometimes up to a third) of their life. I do believe there should be a safety net for elderly who end up poor. That is a very different thing from a gigantic welfare system everyone is entitled to from 65 to death.

By the way, those who lost their money in oct of 87 did so due to grievous personal error (and have probably been kicking themselves since). "Buy and hold" is not a joke. If they were to retire soon, they should have been invested in bonds. If they weren;t, they should have stuck with it (and would have earned healthy returns later on). This is basic information that was available and taught at the time.

 

[Locrian]

By paying into the system I was saving.

Sort of. The money you gave the government was immediately lent to an entity that hasn't shown a consistent positive balance on its books in almost 70 years and now carries a debt of over 7 trillion dollars. This is the definition of a bad investment and its no surprise it is turning sour. The government has loaned itself every penny you put in and then piddled it away. All that's left is your children's obligation to pay back a promise they never made.

This inforamtion was freely available to you since you began working. How can you defend such an absurd concept? Of course, your generation won't pay the price. Mine will.

 

[Locrian]

I need to look into that graph some more - it doesn't make sense to me.

One thing that fooled me for a moment is that it is on a logarithmic scale, so an exponential return produces a linear line (sorry if you already noted this). This makes some periods of return look much worse than they really were. One thing that chart does do a good job of showing is that inflation is really bad for stocks, despite them being sometimes treated as safe havens.

I wonder if there isn't also an iflation adjusted chart showing your dollar invested in government bonds? That would be much more pertinent to the discussion.

Edit: For instance, between 1950 and 2000 it doesen't look like you've gained much. However, going from $150 to $1000 in 50 years amounts to over 6% a year, after inflation. Compared to other investments over the same time that's good return.

As for the comment about it taking a long time to recoup if you bought the dow in '65... of course its bad. A decade of bad inflation is bad news for equity of many kinds. However, it could be worse.

You could have put your money in bonds or - worst case scenario - have it in cash or a savings banks. A heavy bought of inflation destroys assets, period. Your only hope is to either liquify and spend or wait a long time. Since few people can see these things coming in advance, you might as well go with stocks. Its not pretty, but the other choices are uglier.

 

[aeroegnr]

Of course, your generation won't pay the price. Mine will.

We can only hope that this country begins taking steps in the proper direction. Otherwise, there will be an interesting time to be had.

We just need a way to get peoples' attention so that they can act on it.

 

[russ_watters]

I need to look into that graph some more - it doesn't make sense to me. If today's value is 10,000 and the inflation-adjusted value is 1,000, that's 1,000% inflation over 100 years - or 10% a year. Inflation historically has averaged more like 3%.

Ok, I'm still not sure about the inflation part (I'm guessing compounding interest is biting me...), but the long-term investing part I did figure out.

Here's what it says in my book:

...a person who bought shares in all the companies on the exchange on any day in its history would have made a profit over any 15 year stretch and would have beaten bonds and savings account oer virtually any period exceeding 20 years. [emphasis added]

For that to jive with the Dow graph, Aquamarine, I guess it means the Dow (being that its only 20 stocks) isn't diversified enough to show the true value of the market. The S&P is both more stable and outperforms the DOW, but its newer, so you can't get much of that early history from it.

Another thing to remember is that this is worst-case and unrealistic. If you picked the worst possible day to invest, it would take 15 years to break even. But when investing for retirement, you invest a constant (or increasing) amount every month for decades, which smooths out both the peaks and valleys giving you something closer to the actual average performance over the time period in which you are investing.

Another nugget though (I'm going to reread this book and start a new thread about it...):

From 1926 to the beginning of 2001...the total compounded annual rate of return you would have had from buying risk-free US Treasury bills was 3.8%; the return from slightly riskier corporate bonds would have been 5.7%; the return from blue-chip stocks would have been 11%; and the return from the stocks of small companies would have been 12.4%...The compounded annual rate of inflation durin the same period was 3.1%

(both quotes, pp 125-127, 2002 edition "The Only Investment Guide You'll Ever Need").

And one last thing - I haven't said it before because I wanted to keep everything as worst-case as possible: though I accept that I may be naive (I haven't seen a bear market like in the 70s or 30s, but I do remember 1989), I do also think there is reason to believe those events won't be repeated. The conditions that allowed the market to gain so much un-deserved wealth (mostly margin trading) don't exist anymore. Every time something bad happens, the rules change to make it less likely that it'll happen again.

 

[russ_watters]

The fact that 40 years ago people were not properly educated on methods of savings is not an acceptable reason for continuing an absurd government program. Vast amounts of information is available on the subject and anyone who is interested can learn to invest their money in low or high risk instruments. I can understand the plight of those short sighted enough to have believed social security would enable them to retire, and therefore suggest a gradual phasing out over time.

I largely agree but I'm willing to be a little more generous - it wasn't so much that guys like SelfAdjoint didn't know how, but the opportunities weren't as broad as they are today.

That said, that's not a good reason to perpetuate a system that is an anchor on the economy. One way or another, Social Security is going to change. I just hope we fix it before it utterly implodes (I'm not optimistic). I said in the last post that I think the conditions that caused the stock market to implode in 1929 don't exist anymore - social security is the one major danger I see right now. If we don't do something soon, we could actually end up with another depression.

Best-case scenario for SS would be for the government to start investing part (most) of the money. Had the government done that from the begnning, SS would be generating profit today instead of being tens of trillions of dollars in debt. That's the way corporate pension funds are required (by law) to operate. The government should not be above the law.

There is no reason the government should be responsible for supporting people for decades (sometimes up to a third) of their life. I do believe there should be a safety net for elderly who end up poor. That is a very different thing from a gigantic welfare system everyone is entitled to from 65 to death.

Though I trust myself to invest, I don't trust the general population. Part of me says screw the rest of them if they are too irresponsible to save - but that's unrealistic since eventually I'll have to bail them out if they don't.

By the way, those who lost their money in oct of 87 did so due to grievous personal error (and have probably been kicking themselves since). "Buy and hold" is not a joke. If they were to retire soon, they should have been invested in bonds. If they weren;t, they should have stuck with it (and would have earned healthy returns later on). This is basic information that was available and taught at the time.

Another (funny) quote from the book (page 139):

[Rule #2] Buy low and sell high. You laugh. Yet most people, particularly small investors, shun the market when its getting drubbd and venture back only after it has recovered and appears, once again, to be "healthy." It is precisely when the market looks worst that the opportunities are best [which is why I'm glad the market has taken its time recovering - more time for me to put money in]...

[from an article in an investment magazine about an investment club] A Washington, D.C., investment club purchased 200 shares of stock at 18. "Club sold all holdings at 12.5...due to decline in price; intends to reinvest when price moves up."

How idiotic is that?