Time to Prepare for the Coming Crash?

“Count the perma bears on the Forbes 400 list or the amount of pessimists who run companies in the Fortune 500.  You will find none.”    – Josh Brown

“If you’re constructing a portfolio with an overweight against human ingenuity and progress then you’re likely to lose out over the long-term.” – Cullen Roche

A friend recently sent me an article with the following headline to get my thoughts:

Economists Caution: Prepare for ‘Massive Wealth Destruction.’

Cue the sad trombone. Wah-waaah.

The article is filled with so-called experts that caution that the economy is, “on the verge of another recession, and this one will be far worse than what we experienced during the last financial crisis.”

Then there’s this doozy of a prediction:

In a recent interview to talk about his New York Times best-seller Aftershock, Wiedemer says, “The data is clear, 50 percent unemployment, a 90 percent stock market drop, and 100 percent annual inflation… starting in 2013.”

So, is it time to prepare for bread lines, massive unemployment and a financial crash?

HOW TO THINK ABOUT YOUR FINANCIAL ADVICE
You should never take your investment advice from those that are always bullish or always bearish.  Things are never always good or always bad but there are some prognosticators that would have you think otherwise.

There are a few things to remember when you see outlandish forecasts such as the ones in this article.

Most of these people have been making these predictions for a number of years, so eventually they will be right about a crash or a recession. They do tend to happen from time to time.

According to NBER, from 1900 to 2012 the US economy was in a recession for 299 out of the 1,344 total months or 22.2% or the time. So, for a little more than 1 out of every 5 years, the economy was in a recession. If you continue to predict a recession year after year, you are bound to be correct eventually.

Making an extreme prediction gets you page views on websites and eyeballs on CNBC whether it’s based on a reasonable argument or not. Wiedemer’s book is about how to prepare for the coming financial meltdown that he’s forecasting. Think he’s talking his view to sell some books? Of course he is.

If Wiedemer is correct about his predictions of 50% unemployment and such, do you really think his financial advice will get you through those times? Of course not. The whole system as we know it would be gone and you should start stocking bottled water and canned goods in your basement.

HAVE AN OPTIMISTIC BIAS
Pessimistic people usually offer intelligent arguments for the coming end of times. And it’s easy to find reasons to agree with them when you get nervous about your investments or the economy.

Most of the people that make these crash forecasts are economists, authors or talking heads that don’t manage wealth for a living. It’s much easier to make extreme forecasts when you don’t have to make investment decisions based on those views.

You can just scare people into watching you on TV, reading your books or following you on social media. No one holds these people accountable for their predictions. They can move on and scare someone else, but finances may never recover if you listen to them.

Here’s the biggest question you should ask when contemplating extreme advice: How would your investment strategy perform in the meantime while you wait for the downturn?

The economy and the stock market generally don’t have much correlation over the short or even medium term, so using the economy as a way to gauge your investments is a losing strategy. Business and economic cycles require both ups and downs. That’s how it works.

If you have to lean one way or another, optimism has won over every long-term time frame throughout history. Things aren’t always great but having a pessimistic view of the future is an easy way to get left behind and destroy your wealth.

You need a balance between being optimistic on the long-term while being realistic about the short-term risks involved when investing in financial markets.

BUFFETT ON THE LONG-TERM
Warren Buffett had this wonderful take in the midst of the 2008 crash when everyone around him was losing their minds and preparing for the end of capitalism as we know it:

During the Depression, the Dow hit its low, 41, on July 8, 1932. Economic conditions, though, kept deteriorating until Franklin D. Roosevelt took office in March 1933. By that time, the market had already advanced 30 percent. Or think back to the early days of World War II, when things were going badly for the United States in Europe and the Pacific. The market hit bottom in April 1942, well before Allied fortunes turned. Again, in the early 1980s, the time to buy stocks was when inflation raged and the economy was in the tank. In short, bad news is an investor’s best friend. It lets you buy a slice of America’s future at a marked-down price.

Over the long term, the stock market news will be good. In the 20th century, the United States endured two world wars and other traumatic and expensive military conflicts; the Depression; a dozen or so recessions and financial panics; oil shocks; a flu epidemic; and the resignation of a disgraced president. Yet the Dow rose from 66 to 11,497.

Buffett was busy buying stocks as he wrote those words in the depths of the crisis and sowing the seeds for huge future gains. What were you doing?

SO, SHOULD YOU PREPARE FOR THE COMING CRASH?
No, because you or I cannot predict the future. What you should prepare for is the fact that financial markets and complex economies both rise and fall.  On average, they rise.

Having a rules-based investment plan can help when the inevitably crash does come.  You’ll know exactly what to do without panicking.

You should prepare yourself for the fact that you can lose money from time to time, but over the long-term having an optimistic outlook on human innovation will serve you much better than always searching for the next crash.

Sources:
Econoimst Caution: Prepare for ‘Massive Wealth Destruction’ (Moneynews)
National Bureau of Economic Research
Buy American. I am (NY Times)

I wrote  a guest post for Eric at The Passive Income Earner this week about what to ask before buying a stock.

And here’s the stuff I’ve been reading this week:

• An open letter to everyone under 30 (Motley Fool)
• A dozen things I’ve learned from Barry Ritholtz (25iq)
• Charlie Munger: Lessons from an investing giant (WSJ)
• 101 tips for living (John Carney)
• Passive investors are parasites (CBS Moneywatch)
• The role of luck and skill in investing (AAII)
• Invest in yourself and reap the dividends (Dividend Ninja)
• The limits of fundamental analysis (Crossing Wall Street)
• The five laws of gold (Rick Ferri)
• 15 things you didn’t know about Google (Guardian)

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