Photo (cc) by ilovememphis
While I usually answer a specific reader question in this space every week, I thought today would be a good time to address several questions that no readers have actually sent in, but many must be asking. Things like “What the hell is happening with the stock market?”, “Are interest rates going up soon?”, “Are the banks safe?”, and “What can I do to protect myself?”
Glad you asked.
What the hell is happening with the stock market?
This one’s easy: What’s happening to the stock market is pure panic. Like hearing “fire!” in a crowded theater, investors are stampeding for the nearest exit. What’s being screamed in the Wall Street theater, however, isn’t “fire,” it’s “double-dip,” as in double-dip recession. As I pointed out in last week’s Stock Sell-off: Is It Time to Panic?, investors are rightfully concerned that our economy is again sinking.
If our economy is failing, there’s reason to worry. Because unlike the “Great Recession” of 2008, this time Uncle Sam’s hands are tied when it comes to helping out. Can you imagine today’s Congress approving a multibillion dollar stimulus package? They have a hard time providing ongoing funding to essential agencies like the FAA.
But as of now, there’s no proof that our economy is in trouble, which proves that what you’re seeing in sell-offs like Monday’s has nothing to do with reason. It was triggered by the S&P downgrade of America’s debt to AA+ from AAA. While not a good thing, a debt downgrade by one rating agency shouldn’t cause this kind of calamity, especially since two other ones recently affirmed our nation’s AAA status. While it should have hurt bonds – that is, after all, what was being downgraded – it’s certainly not a logical reason to erase billions of stock market value.
What should you do?
The only way to trade a market panic is not to. Panics are by definition irrational, so rational thinking doesn’t work. The only thing you can do at this point is wait for the smoke to clear. The numbers and the news will ultimately tell the story: Either the U.S. is re-entering recession mode or it isn’t. Either Congress will learn to get out of its own way or it won’t. Until we know we can’t act.
As I said in Sunday’s and other recent posts, I haven’t sold a share of stock in my online portfolio. While that’s a decision I now regret, of course, I couldn’t have anticipated this irrational stampede. It’s too late to do anything about it now, but I’m not going to try catching a falling knife by buying, nor will I sell into a market panic. I’d suggest the same for you.
Are interest rates going up soon?
As I mentioned above, a debt downgrade reflects the safety of bonds: If bonds become less safe, they should pay more interest. And since the debt downgraded last Friday was U.S. government debt, rates on those securities should have gone up – a potential problem for all who borrow, since many consumer interest rates are tied either directly or indirectly to various government bonds.
But that’s not what happened. The interest rate on 10-year treasuries – the maturity tied to mortgage rates – went down Monday, from 2.57 percent to 2.34 percent. The interest rate on the two-year note dropped from .29 percent to .27 percent.
The reason interest rates on treasuries went down instead of up is because investors fleeing stock markets worldwide have to put their money somewhere, and despite S&P’s downgrade, U.S. treasuries are still considered to be one of the safest investments on the planet. When bonds are bought, their prices rise and their rates drop.
Bottom line? Don’t worry about credit card, mortgage, or other loan rates rising soon, especially if the economy remains weak.
Are banks safe?
In a word, yes. Just as Uncle Sam stands behind his bonds, he stands behind banks via the FDIC. If you’re below the $250,000 FDIC guarantee, your money is safe.
What can I do to protect myself?
If you have a time machine, go back to last Friday and buy the investment of choice in market panics: gold. It went up $68 per ounce yesterday to $1,720. But if you can’t time-travel, it may be too late to buy it now. I say “may” because if the market panic continues, it will probably go up more. But if rationality returns, the reversal may be swift and those now piling into gold may pile out and go back into stocks, which could push gold prices down.
While I do have some money in gold as a hedge against just this type of event, I’m not buying any more. As I said above, what I’m doing is watching and waiting. If things keep going south, my only option is to sit on the sidelines – for years, if necessary – and wait until things can’t get any worse. That’s how I made nearly 100 percent on my portfolio in two years starting in 2009, and that’s how I’ll do it again.
If your nest egg is exposed to the stock market, there’s little you can do at this point. But here’s something not to do: Freak out and sell at what may turn out to be an inopportune time.
And now for a little good news…
What’s crushing stocks is fear of Great Recession 2. But lest we forget, a weak economy has positives as well. Case in point? Oil prices have been plunging along with stocks lately. Crude closed yesterday at just more than 80 bucks a share, about 20 percent lower than it was just a couple of weeks ago. That should show up as lower pump prices soon.