Bearish books and what you can do if you agree with their dire prognosis

This weekend’s Financial Post contains two articles from me that may be of interest to readers of this site. One looks at two new books that are very bearish on the global economy and the stock market the next few years: Harry Dent Jr.’s The Great Crash Ahead and a new revised edition of Aftershock, originally published in 2009. You can read it here although the print edition has nice cover shots not only of the two new books but several more like it that have appeared over the years.

The other article, here, talks about how baby boomers in particular are starting to run out of investment time horizon. My point is that if you’re not prepared to go through another 2008, you either have to take some risk off the table now before things get worse, or use the kind of portfolio hedging strategies I’ve mentioned in this site. (See for example the talk I gave at the MoneyShow).

It is of course possible that the bottom is now in and that most of the portfolio damage the markets can inflict has already been inflicted on investors. Gloomy as the environment appears, the market has a way of doing what you least expect: who expected gold to plunge $100 this week?

How to have you equity cake and protect the downside

With interest rates so low, most of us still need equity exposure. When dividends pay more than bonds and carry with them the prospect of future dividend increases, that’s not an asset class you want to be out of, bear books or no. By hedging your long-equity exposure with inverse ETNs you can have your cake and eat it too — in theory anyway.

As for the two new bear books, read what Dan Hallett has to say in the “attic” above the version in the paper: he talks about “confirmation bias” and how bullish investors tend to avoid bear content and vice versa. We all tend to seek confirmation of our existing worldview but there’s value in considering the other side.

In the case of these two books, as I point out in the review, they don’t even agree with each other in their bearish prognosis. One thinks interest rates will rise, the other fall; one thinks the US dollar will rise (Dent); the other that the greenback will fall. Dent thinks gold will fall while Aftershock thinks it will rise. However, they both agree the China bubble will burst at some point and when it does, it will be bearish for stocks globally.

A comment on this site: while I do try and keep it updated with new content, such as what you’re reading now, you can always keep up with new FP articles and new Wealthy Boomer blog posts by reviewing the scrolling titles to the right. And of course, I’m on Twitter and Facebook (click on icons top right of this site) and also Linked-In.

A recommendation: Flipboard app for Apple iPads

If you have an iPad, I strongly recommend getting the free “Flipboard” app.  It presents all these feeds in a sort of electronic magazine format. In particular, if you’re on Twitter, I suggest you “follow” my FindependenceDay list there. That list follows 500 good sources on financial independence and when you view it on Flipboard, it will be like  a timely continually updated electronic magazine on Findependence Day.

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11 Responses to “Bearish books and what you can do if you agree with their dire prognosis”
  1. Good question.

    Answer to part 1 current environment below, hedging to follow later.

    Current environment: even if we did not have the sovereign debt default risks, US debt ceiling negotiations and renewed and attendant capital adequacy risks of the banking system, especially the European banking system, the vast amounts of private, public and corporate debt in the system and the need for significant structural rebalancing between consumption and production, globally, we would be looking at growth of between 1% and 2% below historical averages for the next 5 to 7 year, and possibly longer. In other words, real economic growth of between 0.5% and 1.5% for the major developed economies: add dividends and inflation and you would have your nominal total equity return before transaction costs and taxes.

    This would have been my upper boundary: the lower boundary outcomes could quite easily involve another severe recession involving a GDP decline of 3% to 5%, and this would not be an extreme expectation.

    Once we get to the negative scenario (GDP decline of 3% to 5%), we would probably be in another accelerated debt default scenario (public and private most definitely many financial companies) and what happens once you end up there is anyone’s guess. Human beings are not very good at dealing with such situations.

    The risks at the moment, given the structural economic and financial weaknesses, are profound to say the least. As I have said for some time, we are not unwinding the excess of say 1 to 2 years, as would be the case for a plain vanilla recession, but a trajectory that has been some 30 years in the making, and from the late 1990s onwards, in particular. This is what is so different.

    When we talk of behavioural issues in decision making, we are talking about individuals using rules of thumb which have worked for them in the past (rules of thumb have come to stand in place of rigorous analysis of structure) and perceptions of reality that they have taken from the small dataset of experiences they have been exposed to, when what is really needed is for these individuals to completely rebuild their decision making framework for the world as it is now.

    Growth does not happen out of thin air, which many commentators seem to assume is what will drag us out. While I still believe, that at a fundamental level, if consumption was a smaller percentage of GDP in many countries and larger in others, if saving and investment was larger in some and smaller in others, and if debt (private, public and corporate) was back to where it was in the mid 1990s as a % of GDP, the world economy would be capable of generating the growth that many currently expect. I believe, based on my analysis, that we are not yet at that point where growth and stability can resume.

    What are the potential market outcomes: well if we need to retrace excess, then we probably need to knock out a certain level of consumption in certain key markets (in the US government transfer payments have increased by 4% of personal disposable income since the onset of the crisis), possibly 3% to 5% over a 3 year period, and we also need to reduce government debt, possibly by 1% to 2% of government debt per annum over a 10 year period (which could reduce growth by 0.8% to 1.6%), all of which will involve a reduction in investment and cuts in output. In other words capital employed in producing output will fall (capital will be depreciated or made obsolete) as will returns on capital. Dividend yields need to be higher to cover this risk (I,e dividend yields will be a de facto return of capital) and P/Es lower.

    What is of concern, is that in places like China and Canada, where debt levels were not as high in 2007/2008 as the rest of the world, debt has since financed a significant portion of growth, and unbalanced growth at that.

    There are of course counterbalances such as technological change, demographics, and the increasing maturity of emerging and developing markets that might provide opportunities for developed markets to expand output, but this may not be sufficient and timely to offset the negative forces.

  2. Hisako Wyre says:

    Its like you read my mind! You appear to know a lot about this, like you wrote the book in it or something. I think that you could do with a few pics to drive the message home a bit, but instead of that, this is excellent blog. A great read. I will certainly be back.


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