The Bottom Line
In "normal" times, the best thing to do with your investments is what the conventional wisdom says: Put your money into a combination of stocks and bonds, and over the long run it will grow until, at the time of your retirement, you will have accumulated enough for your retirement to be comfortable. Unfortunately, we do not live in normal times - I wish we did, because I don't really want to think about financial affairs and would be much happier chucking our money into mutual funds and forgetting about it until we retire. In non-normal times, in times of crisis, the standard investment advice is in fact very dangerous.
They why do mainstream financial advisers continue to give it? For the same reason that mainstream medicine gives the same advice, even when a little bit of investigation can show that the advice, at least as it pertains to certain things, no longer holds. Financial advisers, like doctors, are subject to numerous and complex regulations and are regularly sued when things don't go right for people. A financial adviser who follows mainstream advice can always say - I was just doing what everyone else was doing. That's why it is necessary to not simply rely on the advice of a financial adviser, anymore than you should simply rely on the advice of a doctor.
A time of crisis isn't necessarily a time when the mainstream advice no longer works, at least in the short term. Mainstream investing advice has worked well the last 9 years since 2008, as the stock market (the S&P 500) has gone from 800 to 1500. A financial adviser who told you to hold cash instead of stocks during that time because he thought conditions were such that a major crash was possible, might find himself in hot water and possibly sued. Far better for them to keep giving the advice they always have. When the crisis eventually comes to a head, and the adviser's clients (as well as many others) find their investments crushed, the advisers are still OK because they did what everyone else did - and if everyone else didn't see it coming, how could they?
Financial advisers earn money by charging a regular percentage of your portfolio. So they aren't wiped out if you are... all the money they earned when your stock investments were high they get to keep. This doesn't mean they are cynical or not honestly trying to grow your wealth. It just means that they have an incentive to a certain way of thinking that has a bias against recognizing and dealing with times of crisis.
Why I Think We Are In a Time of Crisis
The conventional wisdom on investing is based on charts like the following of the S&P 500:
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| S & P 500 |
Your father took advantage of this strategy by buying into good mutual funds in the 70's (or maybe the 80's I don't know) and riding the long runup over the last 30 years. Even if you simply bought the S&P (and not some structured mutual fund) in 1980, you still would have quadrupled your investment by the mid 1990's. A well-managed mutual fund would have done better than this - and that's how financial advisers justify themselves. They compare the return on the investments they advise versus a standard index like the S&P.
Events of 2008
In the aftermath of the market crash in 2008, however, I heard a few things that made me wonder about the mainstream advice. The most significant was that the government had to inject billions of dollars into the banking system (the TARP program) to prevent the entire financial system from freezing up - which it was within days of doing. What would that mean? Credit cards wouldn't work, ATM's would quickly run out of cash, everything would simply grind to a halt - a catastrophe. How had things come to this point? Why didn't people see this coming? And, for the first time in a long time, I looked at how the stock market was performing. This is the S&P 500 from that time:
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| S&P 500 through 2008 |
Notice that the nice runup in the stock market, from around 1950 all the way to the mid 1990s, no longer held beyond that time. Starting in the mid 90's, the market accelerated higher then began a series of violent swings. These aren't just the occasional market corrections that we were told should be ignored in favor of stable longterm growth. They are massive moves up and down that indicate a system starting to run out of control. You don't need to be a financial whiz to see that.
I also noticed that, starting from the latter 1990's when I started to have some significant money in my retirement accounts (say, 1997) until 2008, the net result of the market was that it had gone exactly nowhere. Over that decade, there was no long term trend growth, but long term stagnation. In fact, I had actually lost wealth if inflation were taken into account.
In December 2008 I visited Fidelity and talked to one of their financial advisers. He was quite blasé about the whole thing and considered what was happening just a market correction. The violent swings I pointed out to him didn't faze him at all. I remember him saying that he thought that at that point everyone who was going to sell had already sold and the market wouldn't fall much further. It turns out he was right about that. He seemed unmoved by the fact that the financial system had nearly collapsed and said it was basically nothing to worry about since the Federal Reserve could inject whatever money was necessary to keep everything going.
For me, it was one of those moments when I wondered whether it was me or the rest of the world that was crazy. One of the hardest things to do is to question the assumptions that have guided one's thinking for an entire life. We came of age in that long runup in the stock market, and after 30 years of it, it is difficult for us to think of anything else. But at that point I started to listen to what non-mainstream people like Peter Schiff had to say, because they at least acknowledged the obvious.
How Things Look Today
Since then, the S&P 500 looks like this:
Some people think that this chart shows that all is well, and that guys like Peter Schiff who say we are in a crisis (and have been for a long time) have been proven wrong. To me, this chart looks scary because it still does not display long term steady growth. It's now taken off like a rocket. Look at the last two times it rose rapidly in the mid 1990's and mid 2000's. Both times it abruptly crashed, a bit lower the second time than the first. If anything, I would expect another big crash just based on this chart alone.
The big question is what is so different in the last few decades that accounts for the big change in market behavior lately versus 1930's up to the 1980's. Why did the market have relatively smooth growth up until about 1980 and then started going to extremes after that?
To cut to the chase, the difference seems to be this:
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| Dow vs National Debt |
This chart shows the Dow Jones Industrial Average versus the national debt. (I would have done the S&P vs debt but couldn't find that graph. They are similar in any case.) The blue line in 1971 is when Nixon took our money off the gold standard. I won't go into the reasons why here, but the main consequence of taking the dollar off of the gold standard is that it removes any practical limit on the debt the government can assume.
And that's just what happened. Starting in the 70's, but especially in the 80's, government debt increased at an accelerating pace, and this had the effect of giving a booster shot to the stock market. That's the ultimate reason why the stock market looks so different the last few decades than it did before. And those who got in early on the debt driven market rise, like your father, did very well. Things seem really good at the initial stages of a debt driven boom, because the debt is not yet a problem. Just like things seem really good when you first start going into debt on your credit cards.
Notice that when the market dropped those two times after 2000, the rate at which debt was accumulated increased. That's because the government has answered economic downturns with increased government spending and lower interest rates. And it has the desired effect - the market goes back to its rapid increase.
The scary aspect of the chart is that each time a market downturn was addressed with more debt, it took an even greater increase in debt to have the same effect. This is a state of affairs that obviously cannot continue. That's why I think we are in a crisis, because we are on an "unsustainable trajectory" as the saying goes. At some point the system will simply break (as it nearly did in 2008).
Why Gold and Silver
We are in a debt crisis. We take on ever greater amounts of debt simply to maintain the status quo. At some point that will stop because no one will want the debt anymore. How do you protect yourself when the crisis comes so that your wealth is not wiped out?
If debt is the problem, then it is dangerous to hold things that depend on debt for their value. Obviously government bonds are one such thing. When people finally realize that there is no limit to the debt, and that the debt already taken out can never be paid off, they will not want debt anymore and the value of government bonds will plummet.
Another dangerous thing is the stock market. The rise in the market was driven by debt, and when debt can no longer be increased without penalty, the market will crash.
In a debt crisis you want to own the opposite of debt - things that do not depend on someone else coming through with a payment for their value. That is what gold and silver are. They have intrinsic value that maintains itself whatever anyone else is doing. In that sense they are the ultimate conservative investment. In fact, when crises hit, they go up in value as everybody scrambles to own precious metals to try to preserve some of their wealth.
This is the price of gold in dollars over the last 20 years:
The rise in the price of gold from 2000 to the financial crisis in 2008 was driven largely by the economic expansion of India and China. This is another opportunity to expand one's thinking beyond the parameters that have always bound it. Gold is despised in the United States and the West in general as an anachronism, something only fringe people like Ron Swanson own. Only a few percent of Americans own gold, and virtually no mutual funds have it in their portfolios. (Interestingly, billionaires like George Soros and Warren Buffett are not afraid to own gold).
But that is not the way the rest of the world thinks. As the middle class grew dramatically in India and China in the 2000's, they bought up a lot of gold as a secure way to store their wealth. And governments, especially China and Russia, have been buying up all the gold they can because they see the debt crisis coming.
Even in this country, it's only in the last 50 or so years that people stopped viewing gold as a necessary part of their savings. Prior to that time, everyone owned some amount of gold as the ultimate wealth protection. I think history is going to return to that when the debt crisis finally comes to a head and everything starts to implode. People are going to look around for some secure way to maintain their wealth as the value of the dollar plummets and the value of our 401k's are eviscerated, and history is very consistent on where people go in such times - to gold and silver.
The time to buy it, of course, is not when the crisis hits and the price of precious metals soars, or perhaps even become unobtainable, but now when they are still despised in the West and they are undervalued as the ultimate financial insurance. That's why I buy and hold them. The End.
Backup pictures I haven't used:
Fed Funds Rate:
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Inflation rate:
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