Ted Allrich is the founder of The Online Investor and author of the book: Comfort Zone Investing: Build Wealth and Sleep Well at Night. In this weekly column, he'll offer advice to investors who are just getting started.
No one knows what will happen as we stumble through the worst economic mess since the Depression. Yes, it's that bad. We're in a financial maelstrom that is setting new records, bad ones, like 800 points down in one day before rallying back a little to the relief of no one. How will all of this play out? What will be left on the economic landscape? Here's how I see it.
The stock market will eventually stop dropping. Profound I know, but it's a start. What will be unusual is that there won't be a large bounce once the bottom is found. That's because fear and greed drive the market, and fear is so overwhelmingly in control now that greed will have a hard time taking back the wheel of the economic car. As the old saying goes: when fear comes in the room, reason goes out the window. Fear is in the room. Don't expect it to leave any time soon.
With so many investors losing large amounts of money, they will be loathe to buy more stocks. Professionals will, the ones running mutual funds and large institutions. They have to. But individuals will slowly return to the market. They've been burned so badly that the idea of buying another stock makes them convulse. Many have had to postpone retirement, having seen their nest egg fall from the tree. The eggs are mostly broken, and they don't have a lot of time to rebuild their nests. They'll be buying CD's, bonds, and anything with a fixed income attached. They're done with the stock market. So don't look for a strong bounce once the selling stops. It will be more of a stunned silence for some time.
As for the banks, they'll be fine. Not any one specific bank, but the banking system will come through this with a damaged image but intact. Customers will go through some real trauma as they wonder each Friday if their bank will open on Monday, but all insured deposits are safe. As with Washington Mutual which was allowed to fail, the poorly-managed banks will be taken over by the well managed ones, an evolutionary process that is necessary for an even stronger banking system.
In other words, in this over-banked nation, the bad banks are going away, and the good banks will stay. That's a good thing. So as long as depositors keep their accounts at or below the insured maximum amounts, they will get their money out of any bank insured by the FDIC (Federal Deposit Insurance Corp.). But I would bet that 99% of depositors never have to deal with the FDIC. Rather, they'll just see a new name on the bank's front door when they visit after their old bank ceases to exist.
As for the frozen credit market, the Fed and the Treasury will do everything in their powers to get liquidity back into the system, to get credit available. We're seeing that in the new TARP (Troubled Asset Relief Program) as well as the recent purchase of commercial paper by the Fed. Now that the Fed has lowered interest rates (along with many European central banks), short term credit will be more available, and at a low rate.
That doesn't mean banks will be free with it. All credit standards will tighten. It will be more difficult to get loans than in years past, but the money will be there. If banks start piling up too much liquidity, then credit standards will start to loosen which isn't to say it will be easy to get, only that it will be a little easier for the best, most credit worthy customers to get it. Really loose credit won't happen again unless the Fed pumps way too much money into the system, and banks have to move it out to get earnings up.
Which brings me to the last part of the solution to our current problems. Once the credit crisis is fixed, loans are being made, and there's some normalcy back in the stock market and housing market, there will be a price to pay for the cure. The cure being tried right now is pushing liquidity into the market. If there's too much liquidity (money) sloshing in the system, then the spectre of inflation is waiting in the wings. And that will be the natural price the economy will pay for fixing our current problems.
Make no mistake, too much money chasing too few goods begets inflation. But that's another problem for another time. Just know that everything has a cost. And our current cure will have a price tag attached. But then, I don't know anyone who doesn't want to fight inflation from behind a desk or hammering a nail instead of sitting in fear of a Depression on a couch, waiting for the worst.
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Reader Comments (Page 1 of 1)
10-11-2008 @ 8:00PM
parryd said...
very good article
10-12-2008 @ 2:51PM
Jim said...
The $3,000 limit on capital losses needs to be raised.
10-12-2008 @ 3:02PM
JR said...
A question for the experts from a simple-minded guy:
If government issued currency came into being to make the trading of goods and services more vibrant and efficient, why in the world did currency itself become a privatized, for-profit product, which is neither a good nor a service??
I'm a simple kind of guy and cetainly not a financial expert, but seeing my friends and family spending a large portion of their incomes, not on goods or services, but instead, on the usurious cost of money is troubling, especially when they lose their manufacturing or service jobs because their customers are also spending their money just to pay interest to the money sellers for money they no longer have.
Maybe it's time to nationalize all lending institutions and rescue our vital trading life blood from the jaws of the pin-striped loan shark middle men and make money selling for profit illegal. I don't believe the government should nationalize any good or service...just money selling...which will make the production and trading of goods and services vibrant...once again.
Joseph Cant
Naples, FL
10-12-2008 @ 5:10PM
John said...
California is in a credit crunch. Maybe it is time to give those CA celebs a taste of what Obama has in store for them. Establish an additional state income tax bracket of 15% for all those making more than $250,000. Credit crisis solved for CA.
10-12-2008 @ 5:24PM
atmanman said...
There are unconfirmed reports from the Lenin Mausoleum that Vladimir Lenin has
risen from the dead and has been spotted outside the Taj in Atlantic City carrying a red banner reading SWINDLERS TURN CAPITALISM INTO A CRAP SHOOT.
When asked by reporters to comment on the current financial crisis he said:
"the bulk of the profits go to the ‘geniuses’ of financial manipulation. At the basis of these manipulations and SWINDLES lies socialized production; but the immense progress of mankind, which achieved this socialization, goes to benefit...the SPECULATORS.
For market players much of the past 18 years has been rather like a drunk being encouraged to drink his way out of a hangover. Instead of acting as a restraining influence, the regulators seemed intent on accommodating each new session of binge drinking..."
When asked the way out of the financial crisis he stated:
“Now that they have bailed out the mortgage giants Fannie Mae and Freddie Mac, shouldn’t U.S. taxpayers have a say in the companies’ operations? Why shouldn’t the public owners of these companies insist on a moratorium on foreclosures on the loans owned or guaranteed by Fannie and Freddie....
Now that the federal government has gotten into the insurance business with the takeover of the largest insurance company in the world, is there any justification for anyone in the U.S. going without health care coverage, much less 45 million people?
“And when the objection comes that the U.S. government will have to cut spending to pay for the Wall Street rescues, there should be no question about where the money should come from. The federal government could get the whole sum for the AIG takeover from the Pentagon budget and still leave the U.S. military with more money—many times over—than any other country in the world.”
10-12-2008 @ 11:13PM
Sheldon L said...
Len,
...under 70,000 and you're in the highest tax bracket? You need a new accountant.
JR,
...tell your friends to stop borrowing and live within their means.
10-13-2008 @ 10:19PM
leonard said...
This is interesting and eyeopening. I am a young business owner and scared about who will take over in the White House. People are so taken with TV and easy media and it is all a pile of crap. The programs that Obama keeps preaching will simply cost more money and the real question is where will that money come from. I am in the highest tax bracket because I have a business that makes money and employees folks. We can not afford to pay any more taxes then we are currently. If Obama raises taxes on S-corps we are finished...It has taken almost 9 years to establish this business and I am scared that come this time next year we will owe taxes that we can not pay. I do not have fancy cars, houses, and make less than 70,000 a year (before taxes). What kind of an impact will the new president have and are people educated and versed enough to understand what all of this means. You can't keep getting something for nothing or just because your neighbor has something does not mean you too are entitled. Very frustrated with our government and the fools that keep supporting it!!