Tuesday, December 23, 2008

Well, You Asked

by Andrew Tobias

 

So where to put your money now? 

YOU COULD WRITE A BOOK

The first thing to say is that everyone is different, and anyone who invests based on a TV interview here, a magazine article there – and then takes a different tack based on a blog entry from some guy who also offers eggplant recipes – is clearly not going about this the right way.

The right way is to have an overall plan, good money habits, and a life perspective that serves you well.

To cover all this adequately (or even inadequately, depending on your review) could take an entire book.  Having said that, let's say some more . . . with a wide lens before we pan in.

BROAD THEMES

We've known for some time that residential real estate was a bubble, and have been wary of it even back when it was only modestly inflated – e.g., this column from October, 2002.  It seems obvious now, yet many got burned. 

If you watched (or read) Whitney Tilson's segment on this past Sunday's '60 Minutes,' you know there's a lot more pain ahead, as the Alt-A and Option ARM mortgage default wave sweeps in even as the subprime foreclosures gradually get absorbed. 

We've known for some time that interest rates, or certainly short-term rates, would likely stay low.  E.g., here, in March of 2007.  This week the Fed took its short-term rate down to zero (how's that for low?) and explicitly stated its intent not just to keep short-term rates low for a long time, but long-term rates as well.

Normally, the Fed tools have limited effect on long-term rates, which are determined by supply and demand.  Ah, but if the Fed itself becomes a massive buyer, that can drive the price of bonds up – and, thus, interest rates down.* 

*Interest rates are the converse of bond prices, as light is the converse of dark:  if it's getting lighter, it is also, and to precisely the same degree, getting less dark.  If a bond that is slated to pay $50 a year for 30 years trades hands for $1,000, it yields its owner 5% a year.  But if it later can fetch its owner no more than $800 when he goes to sell it, the new owner gets a current yield of 6.25% on his investment ($50 on $800 = 6.25%).  In this example, interest rates have gone up.  If the Fed were then to come in with massive purchases, competing with private investors to buy bonds and driving their prices up to the point that this same bond fetched $1,250, then whoever bought it – the Fed or your neighbor – would be getting $50 a year on $1,250, which is to say 4%.  That is how the Fed would drive down long-term rates.

It may or may not work as hoped.  "The market" might be so alarmed to see the Fed printing trillions of dollars to buy bonds and mortgages that it might begin to fear for the strength of the dollar . . . and to fear the inflation they might expect eventually to result from so much money-printing  . . . and thus sell their long-term bonds almost as fast as – or (oops!) even faster than – the Fed is buying them. 

We've known for a long time we face challenges.  There's the challenge of better preparing our kids to compete in the global marketplace. There's the challenge of maintaining our aging infrastructure – and our aging population.  There's the challenge of terrorism.  The challenge of global climate change. 

And have I ever mentioned that the National Debt – under $1 trillion when President Reagan was Inaugurated – will be "around $10 trillion" when President Bush finally leaves? 

In fact, it will be even higher, as it turns out.  

Which means nothing in absolute dollars (trillions?  shmillions?  who can keep track?) but quite a lot when expressed relative to the size of our economy: around 30% of GDP when Reagan took over, closing in on 80% by the time Bush leaves, and inevitably rocketing rapidly higher (as it must and should for a while, so long as we're borrowing to make smart investments in our future).

We've known for a long time of the risk of a vicious cycle.  Here, for example, "with falling housing prices leading to less consumption leading to recession leading to job loss leading to more foreclosures and yet lower home prices leading to . . . "  (It has a hopeful ending.)

We've known for a long time "it's the end of the world."  Here is that thought reflected upon in April of 2000, as the dot-com bubble was bursting.  And here, last May, as I was touring a $7 million apartment that a friend had just purchased as a third residence. 

I can't help thinking that if we had skewed tax breaks exclusively to the middle class these past eight years – leaving the best-off to suffer as luxuriously as they did during the Clinton/Gore years (and closing the truly obscene hedge-fund-manager tax loophole) – our economy might not have gotten quite so far out of whack.

Perhaps most of all we've known for a long time that I sure don't know what's going to happen (long-time readers may remember Google Puts, FMD and Wa-moops, among others) – although, in my defense, I'd like to point out that neither does anyone else.

And so it makes sense – as always – not to take more risk than you can afford, and to diversify your assets, should you be so fortunate as to have some, over "four prongs."  Kindly click here to be reminded what they are. 

http://www.andrewtobias.com/newcolumns/081218.html

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