A Time For Realism

This is a time for realism. While our government and candidates continue to blather on about “solving the problem” by some odd mixture of bailouts, speeches, dollars, firings, and con games, the real crisis is ignored.

This is the crisis we’ve been warning about for many months. It is a crisis of the economy, the dollar, and the value of your assets, all rolled into one, and it is finally upon us. Or, more precisely, the awareness of the crisis is upon us. The initiation of the crisis was many months, even years ago. The fullness of the crisis may still be weeks away. The end of the crisis could be a few short years away, or, if the mismanagement continues, the end of it could be ten or twenty years away. I hope that I don’t need to elaborate on how desperate the situation truly is. Suffice to say that we have entered a period of dire financial crisis. There were many points at which we could have changed paths. Unfortunately, many continued to support this truly terrible government as it squandered those opportunities day by day. We saw Federal Reserve Chairman Ben Bernanke waffle about whether we were in crisis or not, and continue his relatively weak policies for months as the crisis mounted. We saw a series of costly bailouts in recent weeks, which squandered our future tax dollars on meaningless “solutions”.

It is now too late to avoid some level of crisis. My opinion of this latest bailout proposal is that it is the most atrocious piece of legislation that we’ve seen in our lifetimes. At some later date, we can debate what policies might have avoided this debacle, or whether this bailout is warranted. Regardless, it is likely to pass. At this point, we are in the midst of the biggest period of risk in history, and the important thing to our readers is to learn how to protect their assets against this coming disaster.

The first and most important thing to realize is that there is NO EASY WAY to protect yourself. The knee-jerk reaction is to pull everything out of stocks or bonds or whatever you might have invested in, and put it in the bank where it is “safe”. Unfortunately, what we’ve been learning is that banks aren’t innately safe. However, we still can hold on to the idea that the government has guaranteed our money through the FDIC or some similar institutions, and as long as government guarantees remain good, this may be ok. The bigger concern is inflation, even the potential of hyper-inflation. Any form of inflation will destroy the value of money over time, but hyper-inflation will destroy the value of cash overnight.

The key is to realize that there are many possible types of crises. At this point, it is still unclear what this one will develop into. We could see a period of growing inflation, much like the 1970’s. We could see this grow into hyper-inflation as is currently operating in Zimbabwe, or like what Germany saw between the wars, or like the “banana republics” of Latin America were accustomed to in the ‘70’s and ‘80’s. On the other hand, we could find ourselves in a recessionary period like so many we have experienced in the past. Or, more grimly, we could mismanage the economy in such a way to prolong this period of economic weakness into a time reminiscent of the Great Depression.

Of course, none of these things are what we hope to see. But at this stage, some challenges appear likely, and a wise investment strategy must prepare for ALL eventualities. The knee-jerk reaction that might protect you against ONE of these scenarios, might also devastate you in another. We need to be prepared for all possibilities.

In my opinion, our most likely scenario is a return to inflation. We can hope that it will not be worse than the 1970’s version. If this is the case, then the best protection is to hold assets such as gold and silver that are likely to hold their value in times when money is losing. In fact, in inflationary times, bonds and cash are relatively poor “investments”, and if inflation turns into hyper-inflation, both cash and bonds become worthless. Other investments that tend to do well in inflationary times are oil and oil equipment, real estate, and commodities. Even stocks can survive fairly well in inflationary times, and high-growth stocks are particularly good. Yet, if inflation reaches higher levels, over 20%, let’s say, stocks and real estate become poor holdings. Commodities, and even oil itself, tend to be very volatile, and should never compose a large portion of one’s portfolio. Real estate, in today’s environment, is still deflating from a bubble, and is probably due for more price dislocation before it settles back down. Therefore, we’ve preferred gold and silver, mining companies, as well as oil equipment companies, as some of our means to defend against inflation. We’ve also found TIPS, which are inflation-adjusted treasury bonds, as a safe means to protect against this kind of trouble.

A recession also seems to be a reasonable possibility. While a recession is certainly a negative outcome for stocks, it is not a devastating condition, and one that will be relatively short-lived. In the past, I’ve always advocated staying invested during recessions, with perhaps a preference for stocks that are somewhat recession-proof, what we call “defensive stocks” such as food and beverage, healthcare, and utilities – essentially the things that people will still buy when they don’t have money for everything. In that scenario, we avoid things like clothing, cars, etc., that are discretionary purchases. But, essentially, a recession is something we can make it through without serious re-adjustment.

The greatest concern would be the prospect of a serious depression. Until recently, I felt fully comfortable overlooking this possibility, and focusing on protection from inflation and recession. However, recent events have forced me to consider this possibility as well, because if our government is sufficiently foolish, they have the power to prolong a downturn and prevent the kind of re-adjustments that need to take place. If this happens, depressions can result.

Since I’ve recently given little thought to depression-era planning, I had to pluck a book off my shelf that I haven’t looked at since the 1970’s. The late Harry Browne’s 1970 investment classic “How You Can Profit from the Coming Devaluation” is one of the best books written on the subject of investing in financial crisis. This very old book is surprisingly current, and if you can find it, I highly recommend it to anyone who wants to learn more about the crisis we are facing. Browne suggests cash and bonds as the best places to be in a depression, and stocks and real estate as the worst.

What all of this tells us is that we need to be cautious, studious, alert, and nimble in the coming period. There is no single right answer to all of the possibilities. My personal favorite for today is the inflation-adjusted bonds that I mentioned, because, while they will not be outstanding performers in some cases, they are relatively safe in most, and excellent in some of the worst. On the other hand, if things get truly crazy, do we even know if the government will pay off? They may not renege completely, but I don’t find it beyond comprehension to imagine that they might refuse to pay for the adjustments if it becomes too costly. Nonetheless, these instruments are a good place to put some of your money for the present.

Finally, now, more than ever, it is critical to be diversified in your holdings. In light of the uncertainty, putting all your eggs in one basket, even a seemingly safe asset like cash, can be extremely risky. It is important to be somewhat prepared for any eventuality, and not to be too confident in your estimates of the future. It may be worthwhile to lean toward what you believe is the likeliest case, as I tend to do with my expectation of inflation, but there is little excuse to ignore other possibilities. The risks associated with arrogance in today’s market are too high.

There are other strategies that relate to an individual’s own situation. Personal debt levels, life situations, and range of assets might influence the way a safety plan should be developed. These are things that are better handled on an individual basis. As always, I stand ready to discuss developing such a plan with any of my readers. If you are concerned about how well-protected your assets are in the current conditions, please feel free to contact our office to arrange an appointment at (877) 622-9090 or frontdesk@valueview.net.