A book review by Alice Friedemann, June 17, 2009, of:
Weiss, Martin D. 2009. “The Ultimate Depression Survival Guide. How to Protect Your Savings, Boost Your Income, and Grow Wealthy Even in the Worst of Times”. Wiley.
The economic crisis we’re in now was predictable and inevitable – too much debt has accumulated since 1977. In 2008, 41% of the nation’s wealth was flowing into the most corrupt financial industry in history (historically banking and other financial institutions comprised at most 15% of economic activity. The don’t produce anything, they’re like a toll-taker sucking off wealth from the system).
For 10 years, I’ve been following the debates at investment forums about whether there’d be deflation, inflation, or stagflation after the crash. Most predicted inflation, and although most agree that may be the ultimate outcome, Weiss was one of the few to predict deflation would come first, along with a strong dollar.
You’d think that the trillions being pumped into the economy by the government would cause inflation, but the cash isn’t creating new loans, investing, or jobs – it’s building capital at the institutions that caused the crisis – so you probably won’t see inflation for a while, but in these volatile times, anything could happen — you have to keep paying attention.
Weiss thinks there will be inflation eventually, but first there’s so much credit to unwind, that the trillions the government throws at the mess go into a black hole (there’s $600 trillion in derivatives alone). If the government chooses to try to get out of the mess by monetizing the debt and creating inflation, there will only be a worse, harder crash later on.
In a deflation, cash is king. But just having cash isn’t enough – you need to stash it in a safe place so that in the event of a financial meltdown, the institution you have your savings at will still have your cash.
The FDIC guarantee is a promise that will be broken for sure — they’re already in the red. Very likely, your account will be frozen at bad banks while the FDIC tries to sort out the mess. More about this later.
Since the timing of when inflation will hit is uncertain, it’s best to put your cash into short-term vehicles such as 4-week, 13-week, 3-month, or 6-month treasury bills.
I lost much of my savings in the 1980s because of investments at Prudential Bache, as did half a million others in the biggest securities fraud of the 1980s (see Eichenwald’s “Serpent on the Rock” or Kathleen Sharp’s “In Good Faith” for details).
At some point I became aware of Weiss Reports, because the U. S. Congress had the GAO investigate why Weiss was the only rating agency to give First Capital Life a poor rating (D-) while large rating firms such as the Standard & Poors, Moody’s, and A.M. Best gave this company “superior” to “excellent” ratings (foreshadowing the role these rating agencies played again in 2008). First Capital Life and similar companies who owned mostly junk bonds failed. Investors lost over $21 billion dollars.
Weiss Ratings was the only honest rating agency because they don’t accept money from the companies they rate. So I trust Weiss more than most financial experts, but I trust him most of all because he was one of the few who was predicting the 2008 crash many years ahead of time, and even more importantly, one of the few who predicted it would be a DEFLATIONARY crash (and there are only two others who expected deflation that I know of: Nicole Foss at theautomaticearth.com and Gail Tverberg at ourfiniteworld.com).
Bonner and Wiggins over at dailyreckoning, who I also like, were predicting INFLATION so buying gold and silver, but the prices of commodities crashed, just as they will in the next financial crash. Yes, inflation may come back, though how that could happen short of dropping money out of helicopters isn’t clear to me, given that half of Americans would have a hard time borrowing $2,000, 10% or more are unemployed, 1 million new immigrants arrive every year to compete with the millions of high school and college graduates plus the unemployed still trying to find work, and the unions are mostly gone, so they can’t drive wages up either.
But the world is complicated and full of Black Swans, which Weiss is well aware of, so although he’s betting on deflation, he knows inflation is still possible in the future, and shows you how to hedge your portfolio for sudden inflation as well.
Weiss’s father was a very successful investment adviser, who told his son he didn’t think that Greenspan and others were right that the government could nip a depression in the bud by acting quickly and aggressively. It may appear his father was wrong, but all that happened was the can was kicked down the road, which will make the next crash even worse. Weiss’s father was on Wall Street during the Great Depression and watched the Fed try to stop the panic in the 1930s by pumping billions into banks, until the government finally realized they couldn’t save everyone.
Now history repeats itself, all over the world, as governments try to bail out banks and markets. But clearly this can’t go on forever in the USA because
1) There’s too much debt, far more than had built up before the Great Depression (170% of our economy in 1929, now it’s over 350%):
$294 trillion in derivatives (I find estimates of 600 to 1,200 trillion now in 2014, but it’s unregulated, who knows)
$ 52 trillion in corporate, municipal, and federal debt; mortgages, credit cards
$ 60 trillion for SSN, Medicare, etc
What good does a mere $16 trillion do in the face of that amount of debt?
2) Who’s going to pay for the bailout? The government has to sell treasuries to raise the money, which hogs most of the available credit, which drives up interest rates, which increases mortgage rates, which leads to more foreclosures, less credit. The Chinese and other nations are discussing setting up an alternative global currency, and have cut back on their purchase of U.S. securities.
3) Lack of public confidence. Which led to less consumer spending, which led to corporate cutbacks, tightening of credit
4) Vicious cycle of debt and deflation. Debt alone is tolerable if the borrower has an income to make payments.
Deflation alone makes everything more affordable. But debt plus deflation equals depression. Foreclosures cause home price declines. Corporations and banks run out of capital, can’t pay debts, go bankrupt, so investors sell shares, forcing stocks lower, so then companies can’t raise capital and go bankrupt. This downward spiral also has consumers, small businesses, city and state governments, hospitals, and schools caught in this vortex of slashed spending and layoffs.
The biggest mistake you can make is to assume that the prices of your stocks, home, and commodities are as low as they can get. All assets kept going down in price during the Great Depression – and only stopped going down when the bad debts were cleaned out.
The goal now is to hang onto what you’ve saved – not to make money.
There’s a saying that the market can remain irrational longer than you can remain solvent – this sort of business downturn can last for 20 years – a long time to wait for your stocks to get back to the value they have now. [An aside: here’s where I part ways with Weiss, he seems unaware of peak oil and everything else. Stocks are never going to go back up again. Richard Heinberg explains this better than I can in his outstanding book “The End of Growth”].
Weiss thinks we’re headed for much worse times than we’ve already experienced. Consider that by 2008 one in ten Americans had already defaulted on their mortgages and four in ten owed more than their home was worth – that’s worse than what happened in the Great Depression, and this happened before the usual triggers of high unemployment, high interest rates, and companies going bankrupt occurred.
Weiss points out that in all the bubbles in history, investors had to put up some of their own money. But in the housing bubble, millions of people bought homes with zero money down, with no collateral or evidence of income. Many of these loans were predatory with outrageous hidden fees and teaser rates that lasted just a few months. Lenders made bad loans and handed off the responsibility to faraway investors resulting in the biggest debt build-up in history.
On top of that, you had the corruption, fraud, and cover-ups of Fannie Mae and Freddie Mac, inflated appraisals, balloon payments, and prepayment penalties.
The bottom line is that no matter how far home prices have fallen, prices could still fall a lot more, because more and more homes remain unsold, abandoned properties are falling apart which lowers the value of homes nearby, there are millions of ARMS about to be reset at higher rates, increasing unemployment, and increasing numbers of people with home values below the balance owed. Weiss concludes that if you need or want to sell your home, don’t wait and gives 10 steps on how to sell in a sinking market, or to hang on to your house if you don’t want to sell it.
In Chapter 3, Weiss makes the case that in a deflationary depression, buying and holding is a disaster. If you owned stocks in companies in the 30’s and all of them survived (not likely), it wasn’t until 1954 that you’d have recouped your losses. The same goes for 1965 to 1980, and the Japanese Neikkei average is down 82% from its 1990 highs.
Don’t be fooled by temporary rallies. In the great depression, there were seven major rallies before the bottom was reached in 1932. These rallies can happen suddenly and last for months, but keep in mind that until the fundamental causes are resolved, the market usually crashes after a rally to new lows. Use rallies as selling opportunities.
On page 49 he warns how and wyy your broker will try to talk you out of selling your stocks. Don’t listen to the broker or your financial analyst if they do this.
Although owning stocks, commodities, and real estate will eventually be a good idea, right now the name of the game is the preservation of capital. Then you’ll have the cash to buy whatever you want, cheap. So where do you park your cash that’s safe?
Weiss says the government can’t bail the banks out forever:
1) Bank runs are very likely and could be the final trigger of a systemic meltdown. It’s not individuals who would cause this, but large, uninsured institutions running for cover, which is why Washington Mutual lost $16 billion in deposits (and also Wachovia Bank).
2) The underlying causes of risk taking and bad assets haven’t been resolved. In fact, the opposite is happening: bad assets are being shuffled from one bank to another, which encourages banks to resume taking risks.
3) There are too many banks at risk – the FDIC listed 117 in March of 2008, but Weiss looked at 9,000 banks and found 1,673 with $3.2 trillion in trouble (as of June 2009 it’s gone up to 2,025 bad banks)
4) The government can’t stop shareholders from panicking and selling their shares, which would make uninsured depositors afraid and likely to take their money out.
If your bank fails and you’re a shareholder, you’ll lose all or most of your investment. If you have an insured FDIC account, and there’s a meltdown, the FDIC will be too busy sorting the mess out to let you have your money any time soon. By the time you do get your money back, you may have suffered losses. Nor does the FDIC have enough money to bail everyone out – they have about $1.25 for every $100 in deposits.
Most likely scenario in a major banking crisis with FDIC insured accounts
You will have to make one of these choices:
A) Leave some or all of your funds on deposit for a long time earning below market interest rates so your bank can recoup its losses and build capital with income that should have been yours.
B) Withdraw your funds with a loss that corresponds to the banks loss. Those in stronger banks come out whole or almost whole, those in weaker banks suffer the largest losses. That’s why it’s so important to keep your money in a safe bank rated B+ or higher (see thestreet.com to find one).
The government may try to discourage people from withdrawing their funds by charging an additional penalty for immediate reimbursement. There is precedence for this – this is how the large insurance failures of the early 1990s were dealt with.
C) The government uses inflation and fires up the printing press, devaluing the U.S. dollar. You’ll get your money back, but the money won’t buy much.
D) If the losses are too large the FDIC will have no choice but to break its promise. Everyone will have to take a loss, be paid with devalued dollars, or both.
My take on the 64 million dollar question: how should you preserve your wealth?
Weiss recommends finding a safe bank. I don’t think there are any 100% certain-to-be-safe banks. But you’ll still need to find the safest bank possible.
Because the safest place to park your savings is in a treasurydirect.gov account in SHORT-TERM TREASURY BILLS (4-week to 1 year). Weiss also recommends you do this. The richesst 1% also park some of their money in t-bills every time the stock market looks shaky.
You need an A rated bank to push money up to treasurydirect to buy treasury bills with, and for the money to flow back to when you need it. If there aren’t any banks open after the next crash, perhaps treasurydirect.gov will cut you a check and send it in the mail. Perhaps. I don’t know if that is already possible or will be after the next crash.
If you have an IRA you can do this via Fidelity (sad to say, but Vanguard doesn’t offer this), nor does any other trustworthy brokerage that I know of. It is not worth buying a treasury bill money market fund or equivalent — the fees are higher than the interest you can earn.
Remember: you are trying to hang onto your money, not make money.
If there’s a crash and most people lose half their wealth in the stock market, you are now twice as wealthy. You can make an enormous amount of money by not losing it.
Also consider cash. I just read that more and more people are using cash after the Target credit card scandal, and that’s certainly a good option. If there’s a crash and all bank accounts are frozen, you’ll be glad to have some cash on hand.
Treasury bills are the safest place now, but long-term probably won’t be
Nicole Foss and Gail Tverberg believe that the government is likely to convert your short-term bills to long-term bonds that you can’t cash in as the financial mess spirals downwards. The government must remain solvent to function. As unemployment grows, there will be less and less taxes collected, the money has to come from somewhere, and probably the wealthiest people will have off-shored their money or put it into solid goods like real estate, land, sailboats, etc., leaving ordinary people like you and I to foot the bill.
Why are treasuries safer than bank CDs?
You’re probably thinking the FDIC is also backed by the U. S. government, and CD’s pay a higher yield. Well, the yield wouldn’t be higher if the risk weren’t higher. The governments first priority are U.S. Treasury securities, second are securities of U.S. government agencies such as Ginnie Mae, and third is the FDIC. In a meltdown, the FDIC deposits will not be first in line, which they may deny, but the differential in yields between CDs and T-bills tells the real story.
Weiss says that the government can be trusted because the USA has the world’s largest economy, strongest military, and has to support defense, homeland security, and emergency responses – the Treasury will do whatever it takes keep the nation running, which means they can’t default on treasury securities.
When inflation does appear, you should still keep some of your money in the safety and liquidity of treasury bills, but also buy hedges like gold, oil, and foreign currencies.
Rather than selling short with options, futures, and so on, Weiss recommends buying Exchange-Traded Funds (ETFs). He likes them because there’s a wide variety, no loads or hidden fees, leverage, and flexibility.
So if have a lot of energy stocks, you should own some ultrashort oil and gas ETFs. There’s a reverse, or ultrashort, ETF out there for every possible investment you have – against the Nasdaq index, gold, Russell 2000, etc. You can find them by going to http://moneycentral.msn.com/investor/partsub/funds/etfperformancetracker.aspx and selecting a category. Within each one you’ll see words like Short or Bear, which indicates this is a reverse index.
DO NOT BUY AND HOLD THESE. You’ve got to become a day trader to use these, if you buy one and keep your money in, it will be eaten away as the market swings back and forth (you only win one direction). Sell inverse ETFs when there’s a burst of optimism and a rally in the market. No one can time this right. You can’t expect to make money all the time, so inverse ETFs are strictly to be used with money you can afford to lose. Wait for good news during a bear market to drive stock prices up, then buy the inverse ETF in anticipation of another decline while the economy is still contracting. Diversify across several stock sectors.
Weiss likes currencies because they’re separate from the stock market, and they’re easy to invest in with currency ETF’s. The trends in currencies are more consistent and longer term than stock market rallies and dips.
One reason the dollar is so strong in a deflation is that it’s the reserve currency, and looks prettier than all the other currencies, because many nations are lending even more than we are to their banks and financial institutions.
So one way to make a currency bet, as long as deflation continues, is to bet against other currencies, or bet with the U.S. dollar. If inflation returns, do the reverse.
What to invest in when the bottom is reached
First, you’ve got to know we’re at the bottom by signs like debt liquidation, the government stops bailing everyone out, rating agencies downgrade companies, wall street analysts call most stocks worthless, everyone you know is extremely pessimistic, and finally some sort of watershed event (or follow Weiss at moneyandmarkets.com)
At the bottom, if you don’t have cash to buy whatever it is you want, you’ll have trouble getting any cash by selling your house, gold, or stocks – there are few buyers out there. Nor will you be able to borrow the money, there will be almost no credit.
At the bottom, Weiss recommends switching a large amount of your short-term treasuries into long-term treasury bonds to lock in high interest rates, and another chunk into high-grade corporate bonds and stocks that pay dividends.
Chapter 12 is devoted to why dividend paying stocks are so great.
Inflation vs deflation
Consequences of hyper-inflation: pain of debtors eased temporarily, the illusion that the “crisis is over”, only a privileged few benefit, any benefits don’t last long, and if they do, it’s in the form of another bubble and another bust and an even worse depression. You end up with even more bad debt, speculators being rewarded, savers punished, the dollar destroyed, retirement nest eggs and pensions worthless.
Consequences of deflation: bankruptcy, high unemployment, financial losses – which are unavoidable anyway. Debts are paid off or liquidated and you’re back to a clean slate. Speculators suffer the biggest losses – the same people who caused the problem, and savers are rewarded. The U. S. dollar gains in purchasing power, so people will work harder to own them and sacrifice for their community and nation.
Although deflation is winning now, the government thinks that gives them the leeway to bail out companies with no restraint, lower interest rates to zero, and print all the money they want. Yet this same strategy after the dot.com bust produced the housing bubble. Inflation does not cure deflation and deflation does not cure inflation.
Weiss thinks the inflation scenario is less likely and would look like this: The government continues to shuffle toxic assets between companies, nationalizes banks, and tries to postpone the day of reckoning with more and more bailouts. There are more bubbles and busts. Unemployment surges to the highest level in history. In some of the worst areas, overcrowded tent cities spring up, and there’s not enough food to feed the hungry. The middle class migrates to places of opportunity, starvation strikes the poor, every city suffers a “financial Katrina, and pandemics sweep the nation.
The danger of inflation remains, and once unleashed, can not easily be stopped. So in case inflation wins, consider buying gold as insurance – up to 5% of your assets. Later, after a long period of deflation buy more. But gold is generally a bad investment in deflationary times, regardless of some theories to the contrary.
Weiss thinks we’ll avoid this because ultimately bond holders can dump government securities, so it’s the bond holders with the power, not the government. The U.S. can only borrow money by selling bonds to investors. Most of these investors are overseas. Some are banks, pension funds, insurance companies, cities, and states.
The governments’ huge deficits mean either higher taxes or interest rates, which leads to lower stock prices and more economic destruction.
Weiss says we papered over the savings and loan crisis in the 1980s, and life insurers in the 1990s, resulting in more easy money and debt, but now we’re at the end of the line. The quantity and toxicity of debt so great it’s driving us into a depression.
Because of depleting energy, water, topsoil, forests, phosphorous, minerals and increasing populations, I don’t think that long term there can ever be anything but a Great Depression until resources are in line with population, but there are still a few good years left, so make the most of investing and gaining skills while you can.
Once there’s a recovery, it won’t be long before the continuing declines in oil production will knock the price of oil sky high again, and the economy back down again, because high energy prices will stop any recovery from lasting very long. And there won’t be any credit for companies to borrow to start new oil-drilling projects, so even if there is geologically available oil, it’s not financially available.
I know it must seem like I’ve told you everything there is in the book, but there’s more in the 206 pages than I can possibly mention, especially the lists of what to buy and the nuts and bolts of investing in treasuries, ETFs, and so on. See these topics in the book for details: pages 59-60 corporate and municipal bonds, 65-66 how to find safe insurance, 74-75 how to save, 76-83 why and how derivatives could lead to a global financial meltdown, 96-100 treasury only money market funds, 116-122 ETF investing, 130 currency ETFs, 138-139 what to buy at the bottom of the market).
Safest place to put your money from best to worst for now (p50-51)
1) Short term treasuries via treasurydirect.gov
2) For your IRA, get short-term ETF’s like BIL or SHV which have much lower management fees than the brokerage treasury only money market funds http://seekingalpha.com/article/137330-the-dollar-may-be-dirt-but-cash-isn-t-trash
3) Treasury only money market fund (Fidelity and Vanguard have closed their treasury only money market funds)
4) Government-only money market fund
5) Standard money market fund (but risky since nearly all have some corporate and municipal bonds)
6) Income or bond fund that invests only in U.S. government notes and bonds and nothing in corporate bonds
7) Income or bond fund like above with as little as possible in corporate bonds
Keep adding to your 401K, IRA, 529 college savings and other tax-protected plans.
Get out of debt, get out of debt, get out of debt!
Cut up all your credit cards.
Pay off all of your credit cards and don’t get new ones.
Pay down all of your loans and mortgage.
Build up your cash savings.
Protect your job. If the company you work for is in a good financial position, work hard to make yourself essential, constantly learn new job skills. Otherwise stay on top of the job market, other ways to make money in a home business, and how to market your skills.
Page 201: 5 golden rules
1) keep your priorities straight. #1 is savings and capital preservation, #2 growth, #3 speculative profits
2) Control risk. Use stop-loss orders so you don’t lose everything in a meltdown
Diversify beyond the stock market, mainly in treasury bonds (short now, long
later), and when the bottom is reached, other assets
3) If you speculate, use only money you can afford to lose
4) Keep your emotions in check, investing is a business, not a game. Categorize and keep track of your expenses and review your financial position monthly. Don’t hesitate to change your strategy as needed.
5) If you trade actively, reduce your commission costs to the bone (switch brokers).