Topic: Politics
Tags: Economics, Me
A couple of weeks ago, Maria got a copy of the book The Trillion Dollar Meltdown
. It’s been on her reading list since it came out about 6 months ago, but she had a backlog of books to read, so she’s just getting to it now. The author, Charles Morris, actually wrote the book about a year ago. I’ve only read the Foreward so far - it’s amazingly prescient, and concisely describes the sources of the current market turmoil in a way that is much more lucid than most of what I’m currently seeing in the media:
The sad truth, however, is that subprime is just the first big boulder in an avalanche of asset writedowns that will rattle on through much of 2008. An overhang of subprime-like assets, at least as large, is sitting in corporate debt, commercial mortgages, credit cards, and other portfolios. Even municipal bonds may be at risk. Loss estimates of $400 billion to $500 billion barely get you halfway where.
We are accustomed to thinking of bubbles and crashes in terms of specific markets — like junk bonds, commercial real estate, and tech stocks. Overpriced assets are like poison mushrooms. You eat them, you get sick, you learn to avoid them.
A credit bubble is different. Credit is the air that financial markets breathe, and when the air is poisoned, there’s no place to hide.
Here is a crude gauge of the credit bubble. Not long ago, the sum of all financial assets–stocks, bonds, loans, mortgages, and the like, which are claims on real things–were about equal to global GDP. Now they are approaching four times global GDP. Financial derivatives, a form of claim upon financial assets, now have notional values of more than ten times global GDP.
The soaring ratio of credit to real output is a measure of leverage, or financial risk. Think of an inverted pyramid. The more claims are piled on top of real output, the more wobbly the pyramid becomes.
…By March [2007] I was convinced that the bubble was vastly greater than I had imagined… I expected the mother of all crashes by mid-2008 or so.
My only complaint to Maria was that I wish she had gotten the book about 2 weeks earlier! It would have motivated me to finally take my retirement savings out of the stock market - something I’d been considering for a while now. I was waiting only because I hadn’t made the time to research where else to put it. Now I’m seriously regretting not having acted sooner. At this point I think I’ll cross my fingers for at least a modest recovery before pulling out.
The reason I was thinking about pulling out - well before the recent turmoil - was because of an article I read four years ago, which I was able to dig up just now, thanks to the wonders of The Google:
Mr. Logue [who retired in 1994], a Massachusetts Institute of Technology graduate, decided to go back and check his own records. Would he have done better investing his money than the bureaucrats at the Social Security Administration?
He recorded all the payroll taxes he paid into the system (including the matching amount from his employer), tracked down the return the Social Security Trust Fund earned for each of the 45 years, and then compared the result with what he would have gotten had he been able to invest the same amount of payroll tax money over the same period in the Dow Jones Industrial Average (including dividends).
To his surprise, the Social Security investment won out: $261,372 versus $255,499, a difference of $5,873.
It’s an astonishing finding. The DJIA represents blue-chip stocks. Social Security invests in US Treasury bonds. Over long periods of time, stocks have consistently outperformed bonds. So, you would think that Logue’s theoretical stock investments from 1950 to 1994 would have surely outpaced the return on government bonds.
The fact that they didn’t illustrates one of the hard truths about stock investing: Timing matters.
Although Logue started pouring money into Social Security in the 1950s and early 1960s, some of the best years for stocks, he hadn’t accumulated a lot of money.
So the gains of his theoretical stock portfolio would have been limited.
By the time he had substantial sums, the market swooned for long periods. From 1965 to 1982, for instance, the DJIA made no progress. Logue retired before the real run-up in stocks in the latter half of the late 1990s.
My sense is that my market timing will likely match Mr. Logue’s. The 1920s saw a market boom, followed by the Great Depression, and the stock market didn’t regain its values from the 20s until the mid 1950s. Then the markets stagnated from the mid 1960s to the mid 1980s, before taking off again in the mid 1990s. My hunch is that we’re following this pattern again now, so we’re in for another 20 to 30 years of poorly performing markets (as noted in the Morris quote above, there are likely still other shoes to drop, from derivatives based on credit card debt, commercial real estate, etc). There probably won’t be another boom until around the time I retire. I’ll likely be better off (both psychologically and financially) with my retirement money somewhere other than the stock market.
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