Latest Stock Meltdown(s!)

Aug 27, 2015 by

stock price meltdownOnce again, stock prices are gyrating wildly. And once again those of us over 50 with the recommended portion of our portfolios invested in stocks are sweating bullets, fearing evisceration of our retirement plans. As usual, Wall Street’s shills are urging us not to panic and sell, and perhaps it’s even a good time to pick up a few “bargains.”

The self-appointed experts may well be proven right. But the point is, no one can reliably predict future stock prices. In particular, for those aged sufficient years that retirement is in sight, recovery from another stock price meltdown might not occur in a time frame that matters to we mortals. “Stay the course” is easily recommended by a 30-something Wall Streeter but not so easily executed by a 50-something small investor contemplating the prospect of an indefinitely postponed retirement.

To expand, what follows are two especially pertinent excerpts from Volume 2 of my Simple Guides to Debt, Credit, and Wealth, titled “Build Wealth WITHOUT Stocks: Free yourself from the myth that you must buy stocks“. The 100-year graph of the Dow Jones Industrial Average index reproduced below is referenced in the excerpts.

DJIA 100 Years

Excerpt 1 from Chapter 1 of “Build Wealth Without Stocks”:

The stocks-are-the-best-investment argument is grounded in a simple fact, clearly illustrated in [the above] image: U.S. stock values have always gone up. No, stocks haven’t risen every year or every decade. But no matter how severe the crash or how prolonged the bear market, stocks have always recovered and moved to new highs. Eventually.

The stock pusher points to this graph and says: “See—the Dow is up 900% over the past 100 years. Isn’t that amazing!”

I say: That’s true, and if you had begun stock investing in 1913 and retired in 2014, you would surely be able to enjoy a very comfortable lifestyle now!

But Stocks Have Not Always Gone Up Over Periods that Matter to People

Notice a few important facts about the Dow Jones Industrial Average chart.

For many long periods, stock values did not go up, or they crashed over a very short period. For example:

→ For the 35 years 1956 -1990 stock values, as represented by this Dow Jones index, jumped around but in the end went nowhere. Over that same time span US nominal GDP increased 1,224% from $450 billion to $5,980 billion.

→ For the 18 years 1937 – 1954, stock values went nowhere.

→ For the 51 years 1932 – 1982 the Index rose at an average annual rate of just 1.9%. From October 1929 to June 1932 stock values crashed by 86%.

→ From December 1999 to September 2002 stock values crashed by about 40% as the “dot-com” bubble imploded.

→ Fewer than five years later, stocks again crashed, this time by 50% as the mortgage crisis nearly brought down the U.S. financial system.

Increasing Volatility

Note something else from the Dow Industrials graph, highlighted by the last two observations above: if volatility means risk, then stocks have become much riskier over the past 20 years compared to the previous 80. Since 1995, stock values have adopted a rapid rise then crash profile. Further, 8 of the 20 largest one-day percentage point losses in the 120-year history of the Dow Jones Industrials Index have occurred since 1987.

If risk = volatility, then clearly stocks have grown far riskier over the past 20-30 years. What will the next few decades bring? No one knows, but isn’t caution warranted, especially given that your retirement security is at stake?

The Best Way to Secure Your Retirement?

In light of this small sampling of statistics and observations, does the history—especially recent history—of stock values strike you as characteristic of the best way average Americans can save for a secure retirement?

Only a Wall Street marketer could answer “yes” to this question with a straight face. Only someone whose livelihood depends on convincing people to buy stocks could disregard stock values’ modern tendency to regularly “go poof” and urge middle income Americans to buy stock with cash carefully saved and set aside to pay for food and electricity when these folks are in their 70s, 80s, and 90s.

Excerpt 2 from Chapter 1 of “Build Wealth Without Stocks”:

The Long Run

You’ve heard it: stocks outperform everything, in the long run. And perhaps stocks have outperformed other conventional investments over the 100+ years depicted in the Dow graph. The difficulties with this assertion are that:

  1. humans are mortal, and
  2. no one can predict how a graph of stock values will track over our lifetimes.

To expand on these points:

  1. The typical earning and saving lifespan of people fortunate enough to stay healthy and employable is 40 or 50 years. Millions of Americans in the past century who invested in stocks did not live long enough to see their stocks generate a competitive, or even positive, return. The ballyhooed long run over which stocks outperform everything unfortunately ended after they were dead.
  2. The points in our lives when stock values’ inevitable—and increasingly severe—bubbles, crashes, and malaises occur matters greatly. A crash in values just as we begin our peak earning years is a stock bargain-hunter’s paradise. But a crash as we begin withdrawing cash from our retirement fund to pay living expenses can be disastrous, economically and psychologically. Again, luck plays a big part in stock investing success.

When stocks prices are falling, the airwaves overflow with stock pushers advising investors to stay the course and not panic, essentially to wait for “the long run” to arrive again. But to illustrate point #2, imagine yourself in this circumstance (millions of Americans don’t have to imagine—these or similar were their circumstances):

George & Mary

A 50-something couple—George and Mary—had used IRAs and 401(k)s to accumulate a tidy retirement nest egg, the lion’s share of which they had used to buy stocks, obediently following their financial advisor’s recommendations. In 2006 they planned to retire in 2013 at age 62. Their advisor confirmed that they had done a good enough job of saving over their careers to make possible a 2013 retirement. They were excited.

Then the 2008 financial crisis hit. From October 2007 to November 2008, stocks crashed by about 40%. Stock indexes plummeted over 10% on two different days in October 2008. By the fall of 2008, the value of George and Mary’s retirement accounts had tanked by 25%. Media pundits were speculating about a meltdown of the entire financial system. Federal Reserve Bank Chairman Ben Bernanke told Congressional leaders on a Thursday that if they did not authorize $700 billion in bailout cash on Friday, there would be no (U.S.) economy on Monday.

George and Mary watched in horror as their retirement savings steadily dwindled during 2008. But despite tremendous and debilitating stress, they continued to follow the standard Wall Street advice to stay the course. By the fall of 2008, with the headlines filled with dire warnings and stocks still sliding, they considered two options, both ugly:

  1. Sell their stocks and postpone their retirement until age 70 to earn back their 2008 losses, or
  2. do nothing and run the risk of never being able to retire to the lifestyle they wanted and had worked for if stocks fell further and failed to recover during a time frame that would matter to them.

George and Mary chose to sell, and I would have done the same.

Stock values have recovered since 2008’s debacle, and with the benefit of hindsight George and Mary would have been better off to hold on their stocks. But under enormous stress, they opted for a known, if dismal, outcome—delaying retirement eight years—instead of hoping for a better, but highly speculative, outcome and risking catastrophe.

Eugene & Carol

Now imagine Eugene and Carol: retired and age 73, they lived modestly on Social Security and carefully planned withdrawals from their retirement accounts. Based on the advice of their financial planner (“You could live another 30 years!”), half of the couple’s nest egg was invested in stocks. By the end of 2008, the value of their retirement fund had dropped by one-quarter. But the amount they needed to withdraw monthly from their account to help pay living expenses had of course not changed. So each withdrawal now dinged their nest egg more deeply.

In the fall of 2008 Eugene and Carol faced a very grim set of facts: unable to return to work and based on the current value of their retirement savings, they might well outlive their nest egg, unless they drastically reduced their already modest living expenses. And if stocks fell further and did not recover within the next few years, they would be facing a genuine crisis. They did what most of us would do I think: they opted for a known bad outcome to avoid a possible catastrophic outcome. They sold their stocks and considered whether to put their house up for sale and relocate to a mobile home.

Crystal Balls Not Available

Stock pushers might comment on these examples thusly: “See—if they’d just stayed the course as I recommend instead of panicking, they would have been fine.” The “long run” in which stocks purportedly always recover happened quickly enough in this most recent Wall Street calamity that these couples’ nest eggs would have been restored within about five years. But our two couples lacked a functioning crystal ball. What if a decade or two passed before stock prices recovered? Thirty years passed before the Dow Jones Industrials Index recovered to its 1929 peak, and in the fall of 2008 there was much speculation about prospects for another Great Depression. Everyone said the 158-year old firm Lehman Brothers could never go bankrupt. But in 2008 it did.

In short, the lives of these two couples would have been wrecked if they followed the standard “stay the course” pablum and stock values did not recover in a time frame that would make a difference to them. We must make decisions based on an uncertain future. I think 9 people out of 10 would make the same choice that these two couples made under the same circumstances. Though driven in part by (well founded) fear, their choice to sell was rational.

We can believe stocks will always recover and push higher in the long run, but we can never know if that long run will come in time to save us. While waiting helplessly, we may run out of money at the most financially vulnerable part of our adult lives: when we’re retired and sometimes, for health reasons, unemployable.

End of excerpts…

Am I suggesting selling your stocks if you’re over 50 and hope to retire one day? Absolutely not. I am suggesting this, which is the primary message underlying “Build Wealth Without Stocks“: do not rely on people who earn their living selling and promoting stocks for an understanding of stock investing’s true risks.

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