How to Survive, Prosper, and Thrive in The Coming Bear Market (Part 1).
Imagine taking the same route home every day for a decade, while listening to your favorite music. Suddenly, you see signs everywhere telling you you’re going in the wrong direction. Nah, can’t be. Must be a mistake. It’s not. A cop’s lights flash and before you know it you’re handed a $250 ticket. When did this happen? The Cop just hands you the ticket and leaves. No explanation, no warning, just a nice fine. That wasn’t a Cop. It was Mr. Market dressed as one, but the ticket is as real as those new car audio speakers you are NO LONGER GOING TO BE ABLE to AFFORD.
“Ignorance of the law is no defense”. Get use to it. The unsuspecting are about to experience something just like this, but lose a lot more money, unless they wake up and figure out that the Streets are going to be re-routed.
Readers of Markonomics101 should be prepared. Our Series called “Inflection Point” starting last June, 90 days ago, has been “pointing out signs” telling you to get ready for just this kind of change so you won’t be stuck with a huge ticket or worse.
Post Inflection Themes.
If you are a new reader, a great place to catch up on how the world is changing in the investment arena was laid out last summer in a series of pieces called “Inflection Point”: “Part 1: The Long Term Equity Valuation Cycle” (https://markonomics101.com/2018/07/12/inflection-point-part-1-the-long-term-equity-valuation-cycle/ and “Part 2: Financial Assets Give Way To Hard Assets” (https://markonomics101.com/2018/07/15/inflection-point-part-2-financial-assets-give-way-to-hard-assets/). At the time, nothing was obvious, but enough dots seemed to connect to hypothesize that this was coming.
Four New Directions.
It’s a lot easier to invest, when everything goes up – a LOT and for a LONG TIME. The country’s millions of investors suddenly turned into Pavlov’s dogs, constantly receiving positive reinforcement for behaving as Mr. Market wanted them to. “Stocks always go up. Real Estate always goes up. Bond yields always go down.” Learn it, until it’s automatic. Rinse, repeat, rinse, repeat, and then watch your hair fall out.
The argument for a change in the wind was not solely based on any one factor, although one dominates. The only constant IS CHANGE. But when? The fake outs we thought we saw coming can be summarized very succinctly:
- Equities had virtually no remaining way of adding any significant upside but the downside was monstrous. We began seeing clearer and clearer signs of an UNHEALTHY BULL MARKET.
- Interest rates spent an eternity going lower and even going NEGATIVE on a couple of occasions. Only one way to go from there. A new period of persistently HIGHER rates had to be coming.
- The chart patterns we love so dearly were all “Trouble Waiting To Happen” (Warren Zevon, RIP). Patterns: Ascending Wedges, Parabolic Uptrends, and Reverse Waves all told of a market in disarray and the Bubble ready to pop.
- Inflation would finally seep back into the Economy and favor “Hard” or “Real Assets” like Metals, Food, Energy, and Raw Materials while “Financial or Paper Assets” would devalue through the circulation of all the excess Federal Reserve Money Printing.
Your Personal Inflection Protection Game Plan:
Step 1: Reduce the Biggest Risks.
Your biggest risks aren’t always obvious. For just about anyone under 50, their future stream of income is usually their most valuable asset. Yet, few people recognize that it too, needs to be managed.
Let’s say you work for an airline, have a senior position, have 15 or more years in front of you in salaries and benefits, and then pensions. That might be worth MILLIONS. What if you also have stock in the airline, or options, or your retirement plan is an Employee Stock Ownership Plan (ESOP), and you own even more shares indirectly?
If your airline goes bankrupt, guess what? You lose your job, your stock, and your retirement in one fell swoop. The “OOPS Trifecta”. But you don’t have to. HEDGE! How? If you work for United, sell shares “short” of American, or a basket of airlines. Selling short is nothing more than Selling High FIRST, the Buying Low SECOND. If United is in trouble, chances are the industry is too, and other airlines will lose value as well as United. Those gains can offset your disaster completely.
Step 2: Reduce Your Investment Risks.
Everyone has a different level of exposure to a sudden shift in the winds of their investment portfolios, so no game plan should be alike. However, these actions are necessary to reduce your exposure to adverse events.
- Reduce exposure to borrowings, especially high cost ones. Eliminate, or substantially reduce margin or borrowed money, against stock holdings or any asset whose value is subject to sudden change.
- Reduce exposure to highly volatile investment assets such as technology stocks, emerging markets, or penny stocks.
- Reduce exposure to higher interest rates by fixing the rate of your borrowings. Mortgages especially.
- Reduce exposure to Bonds or Assets that PAY fixed streams or shorten their maturities to under 5 years.
- Do not enter into contracts that preclude renegotiation for material changes.
- Renters should try for longer leases, landlords shorter or month to month.
- Reduce exposure to less liquid assets and build cash. Remember that cash will depreciate but before you seek opportunities, “Take Your Money Off The Table, Before The Table Takes Your Money Off You”.
Step 3: If you’re still worried, reduce exposure to zero.
You are NOT ready to seek opportunities until you have reached a place of calm in your mind, to allow you to make good decisions. The BEST OPPORTUNITIES show up once the BEAR has gnawed everything in sight and newly awakened people are desperate to sell. Then, you trade your liquidity for their assets at fire sale prices.
Better to forego an “opportunity” than jump in too soon and compound your losses.
Step 4: Become familiar with Asset Classes that provide upside in a downside environment.
To the extent that you own assets that pay a cash stream, make sure the cash stream grows WITH INFLATION such as rental units or even Utility stocks.
Hold at least 5% in Precious Metals, no matter what. In the long run, Gold has been a near perfect hedge against inflation as you can see from the graph below. Since the creation of the Federal Reserve in 1913, Gold has risen from $20.67 to the roughly $1150 per ounce today, while the US Dollar has lost roughly 98% in the same time period.
Real Estate has also been a good hedge against a devaluing dollar. While the cost of “financing” a mortgage may go up, the building or land will be an appreciating asset in an inflationary economy.
Some countries, especially Switzerland, have had a very disciplined monetary policy and their currencies have held value. Any currency backed by Gold or Oil will retain its value.
When the US Dollar went off the Gold Standard in 1971, it became a true paper currency and was a critical factor in the miserable inflation episode of the 1970’s.
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