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A Wall of Worry

“Far more money has been lost by investors trying to anticipate corrections, than lost in the corrections themselves.”  

-Peter Lynch

There’s an old Wall Street saying that stocks “climb a wall of worry”.  Certainly, during the twenty-eight plus years now that I’ve been an investment advisor – that has been a truism!   Starting early in my career with the Asian Financial Crisis to this spring’s regional banking failures – looking back almost every year there seemed to be an issue that was seemingly insurmountable.  And yet… markets have found a way over and through each crisis.  

Why have markets prevailed despite all the challenges?  One reason is that challenges are not unique to our times, wars, political and social angst as well as economic hardships have existed since humans have lived on earth.   Stock prices are ultimately a reflection of the profit-making capabilities of companies – and our confidence in being a beneficiary of additional profits in the future.  Bonds prices reflect our confidence that the governments, agencies and companies that have issues them will make good on their promises because they have the capacity through their taxing, regulatory authority or profits to pay back the money we lent to them.  

Why have the “walls of worry” in the past been climbed?   It’s because despite wars, recessions, depressions, political and social challenges of the past – the engine of capitalism and our confidence in the institutions of government have never failed completely.  There have been times in the last century where that confidence has been low – reflected by low prices for both stocks and bonds. In my lifetime this happened in the early 70’s as inflation raged, social unrest simmered, and stock prices were stagnant and low for many years and yields spiked as bond prices sank.  While different in many ways, 9/11 and the Great Recession also presented some significant challenges that tested financial markets in new and troubling ways in the last twenty years.  

What brought us out of previous funks like these was confidence in the rule of law, the invisible hand (capitalism), and government institutions.  This confidence is critical to smoothly functioning and “wall climbing” markets in the United States.  

But is it different this time?  Current challenges include but are not limited to a mountain of domestic debt, inflation, Chinese and Russian nationalism/saber-rattling, a war in Ukraine, cybercrime, U.S. political and cultural acrimony as well as what seems to be a worsening of weather and natural disasters.  It’s enough to make the most optimistic among us pause to contemplate the scope and uniqueness of our times.  

I don’t know the answer to whether it’s different this time, but I’ll share with you my reflections of a couple years thought on the question:

  1. We can’t predict the future – so the past should always be our guide.  The past clearly indicates we should continue to invest based on our age, needs and circumstances.  That means we continue to invest the vast majority of our resources in stocks, bonds and real estate (mostly primary residences but also income producing rentals).  
  2. Protect against the downside.  By “downside” I mean things that if markets were to turn a different direction could be devastating to your financial future.   I would suggest that having high levels of debt could hurt a family who relies on employment income to service that debt.   Downside assets would include things such as energy, precious metals, unlevered real estate rentals, etc.  And of course it’s always wise to have extra food, water and fuel.
  3. For much of the last ten plus years the federal reserve propped up the stock market by making interest rates so low that many investors felt forced to own stocks.   With rates for most high-quality fixed income squarely in the 4 – 6% range there should be no pressure now.  I’d suggest that older couples who are sensitive to market fluctuations should seriously consider more bond and cash equivalents (CD’s, money market and ST Treasuries).  

I believe that the approach I have outlined which includes eliminating debt, most of your resources in assets which have produced great returns in the past and perhaps 5% of your total assets dedicated to protecting against worst case scenarios in the future is a prudent path forward financially.

It will generate returns to fund retirement if the past is prologue to the future and conversely will protect you against worst case scenarios if it is not.  While I’m an optimist – this time around does seem different to me – but certainly not a reason to sell everything and live in a bunker in northern Idaho.  Continue to do what you have done in the past while implementing some protections against potentially greater challenges in the future.