The LIBRARY

Where From Here
This issue of More Than Money carries a theme that has been with us since early 2008. Stock markets reached their all-time highs in October 2007. On October 31, 2007 the S&P 500 Index twelve-month return was 14.56%. The five-year return was 13.87%. That was shortly after the financial world recognized there might be problems with those fancy subprime mortgages. It was the end of a very good period.

At Resource Advisory Services, we had considerable evidence borrowers who obviously could not maintain mortgage payments were getting mortgages. Since we could see only our local environment, we thought those mortgage brokers were a few rogues who would be recognized by buyers of mortgages sooner or later. That would be the end of them. We could not see that this was a national problem.

One of our friends said he always expected the large companies to catch on and stop buying junk from the rogues. Now we know the companies that bought the mortgages were actually encouraging many of them. These “smart” people were relying on faulty information. Or, maybe the individuals who were looking at the data were not motivated to give it closer scrutiny. They were making a lot of money to find ways more loans could be created, packaged and sold to investors all over the world.

Through the last year, I have devoted a good deal of attention to the unfolding issues. There is an expression that has helped me understand my observations in this crisis: “It is amazing what a person can believe, if you pay them enough money to believe it.” I think I encountered this concise statement relative to investments being sold for commissions. I do not believe the vast majority of investment abuse is motivated by a desire to cheat the investor. I think most of the sales people actually believe what they tell customers. Sales people actually believe in their products, so they can make a living and live with themselves.

We got to this crisis primarily because people were paid a lot of money to believe erroneous conclusions. The data could have yielded better conclusions, all the way from the front line people who helped their customers with mortgages to investors who ultimately bought those curiously packaged bundles of mortgages. People were paid to believe they were smart. When the borrowers taking the mortgages were receiving a lot of money, it was hard to consider the facts that might say they could not make the payments. When the interest rate looked high for the level of perceived risk, it was hard to consider reasons there might be more risk than the investors thought.

It culminated in late 2007. People finally knew house prices could not continue rising to protect bad mortgages. That discovery precipitated a crisis that many managed to ignore until September 2008. Because our Quarterly Reports are extensive, we prepare them for some clients every month. We knew those who are on the October 31 reporting cycle would have twelve-month returns from near the all-time peak – October 2007.

The real work for us has been our concern for our clients’ discomfort. There has been an exceptional amount of communication with clients and others, including some media programs. We continue to offer whatever time people need from us – including people who are not our clients. We thank those who have expressed concerns for our stress in this.

We recognize that the October 31 brokerage statements shocked most people. We are sure some did not want to open them. Try not to focus too much on this short period without thinking about the longer history. Whether the markets are in irrational exuberance or confusing stresses, it is important to continue with the strategy that was developed in less emotional times. Even though there have been many shocks to the system, none of the shocks have been permanent.

We are very thankful so many of our clients have been able to weather through this as well as they have. As much as we prefer not to look, it is Resource Advisory Services’ discipline to face the facts of our situation. Remember, There is more to money than money.® We are reminded of a Ted Turner interview; when he said “there is nothing like losing $7 billion dollars to make you more cautious.” The interviewer, Sir Harold Evans, reminded him that he still has plenty. Turner responded; “Yeah, I have a billion or two left and will be alright.”

We think a realistic understanding of your whole financial situation is important for maintaining appropriate enjoyment of wealth - even in times like now. One of our roles is to report information that keeps our clients well informed about their overall financial situation. When times are good we understand there will always be another crisis. Our opinions of our clients’ financial strengths have to be tempered with that understanding. When clients are spending more than we consider prudent, we must tell them, especially in the good times. When we tell clients we believe their wealth is adequate for the lifestyle we see, we must believe that is true even through times like now.

Today, it is important to remember there have been many times when crises seemed as bad as or worse than now. Yes, this time is different in some ways. Every crisis I can remember, including those when I was a banker, was precipitated by something different. But, there are also many similarities, including the expression “this time it is different.” People seem to forget they heard and repeated that before. Each time, it is said as though our economic world really will collapse into nothing this time. I wish I had kept diaries from previous market crises, so I could compare them to observations this time.

On the evening of October 9, someone in the news said “nobody knows where the bottom is.” I had heard that before, but not in this crisis. Finally, someone acknowledged there would again be a bottom. Memory of previous acknowledgements felt comforting.

On the morning of October 10 - the most shocking day so far - two guys at my gym were joking about the market. I remembered past crises, when people made humor of it - and their pain. That evidence of capitulation was another reassuring moment. Capitulation occurs when almost everyone susceptible to emotional selling does sell. Many of the experienced and stable investors, like Warren Buffett, recognize this as the time of maximum opportunity.

Soon, Bryan gave me a piece distributed by one of the mutual fund companies we use extensively. Its list of reasons “this time is different” could have been written in October 2008. It was written in 1974 and drew on examples from 1942. It is amazing how very similar reasoning was used on these three occasions.

On November 4, a National Public Radio program discussed various event names, like “bear trap,” “dead cat bounce” or “bear market rally.” All refer to times when the market rallies sharply and then retreats before a crisis really ends – “testing the bottom.” We have seen this since October 10. No one can ever know which aftershock will be the last.

Everyone wants to know this answer. Although every market crisis since the 1800s has been followed by a recovery, there are no reliable road maps for the path. It is very common for crises to be followed by exceptional volatility. In 1987, Resource Advisory Services was two years old. The daily and weekly swings were gut-wrenching. That time, the volatility subsided reasonably soon. The S&P 500 Index was positive for 1987 and 16.22% for 1988 - followed by 31.36% in 1989.

The end of the DOT-COM bubble was different – soon after, we learned Y2K was not the end of our economic world. The fall was more like steady declines over several months, instead of a few shocking days. I seem to feel there was not much volatility through 2000.

By August 2001, I was convinced the bear market was nearly over. Then, 9/11 gave the economy and markets an incredible shock. Having seen that, and many other events in the forty years since I first studied finance during the Vietnam War, I guess I feel the 2001 closing of markets and transportation is my most shocking experience. Maybe the Oil Embargo or Nixon Resignation was worse. Those are more distant memories.

The terrorist attack was a blow to a bull getting off the ground. That bear wanted to kill and eat the bull. Early in 2003, before the Iraq War and the long market rally started, was the only period I have not been comfortable telling clients, “It might get worse than this.” I didn’t like hearing myself say that then. Yet, the recovery was just around the corner.

In 2008, governments around the world seem engaged in cooperation I do not remember from previous crises. This may be different this time. There have been a few false starts. Leaders sort through potential steps and choose the better ideas. I think they are working together though.

I still believe, and can say here, that there will probably be a time that feels worse than October 10, 2008. We can never know when another 9/11 will happen. Yet, I also know that there has never been a fifteen year period with negative S&P 500 Index returns. For all ten-year periods, only 3% have been negative. At five years, it is only 13% of the times.

It is far too easy to believe that the situation today will be the situation for years into the future. It is harder to understand that there will be exceptional good times again. Yet the broader perspective is very important. If you have a reasonably accurate understanding of your personal financial strengths, relative to your needs, you can live with these cycles better.