The Fallback Investment Strategy Your Retirement Needs

Retirement was something you were supposed to have sorted out by now. Superannuation was something that was going to help you do it. And the age you tell your boss, or your employees, ‘I quit’ was something you were supposed to have your eye on.

That has all gone now. The world’s retirement plans are in a mess. And if you think Australia might escape, you’re wrong. 2008 was the amuse-bouche – it was the bite-sized taste of what’s to come to wet your fear. The main course lasts much longer.

The old ideas for answering the difficult questions of retirement are about to be proven as downright dangerous. They already have been in Japan, the US and Europe. People there are having to return to work, downsize big time and the Japanese elderly are even turning to crime. In Greece, there was blood in the streets as the state sponsored version of retirement was pared back to a slightly less unsustainable level.

Some investors will tell you that it’s time to invest. Legendary investor Baron Rothschild supposedly said ‘The time to buy is when there’s blood in the streets.’ Forbes Magazine reckon the full quote is, ‘Buy when there’s blood in the streets, even if the blood is your own.’

The idea is that fear, pain and panicked selling create buying opportunities. In a broader sense, bad economic times are when you’re most likely to find investment opportunities.

As Money Morning editor Kris Sayce likes to say, half of Fortune 500 companies were created during recessions. Not that Kris cares much about Fortune 500 companies or recessions. He has found five small-cap stocks with ideas that could turn them into big companies no matter what happens to Spanish bonds or American consumer confidence. You can watch his presentation right here.

Back to the stock market as a whole. Baron Rothschild might have changed his mind about buying when the times are bad after reading analysts Lacy Hunt and Van Hoisington’s latest report from Hoisington’s Investment Management Company:

Periods of over-indebtedness change the sacrosanct rules of thumb of business cycles. The conventional wisdom of business cycle analysis that suggests five to seven good years followed by one to two bad years is broken. Normal risk taking is not rewarded.

In other words, the good times don’t seem to follow the bad as readily when debt is the underlying problem. And debt is the underlying problem when it comes to pretty much the entire world today.

Rather than reading about that, one reader told us he wants something else:

Fair enough to warn us of impending crisis, but you haven’t suggested a fallback strategy – or have I missed it?

Best wishes.


Luckily for us, we’ve been asked for a fallback investment strategy and not the way to generate enormous returns during miserable economic times. Although stocks beaten down by tough times have an even bigger potential to double, triple or quadruple – the kind of return Kris aims for as a matter of course. Maybe that’s why he has found so many opportunities in this market.

Anyway, back to fallback investment strategies in the face of sovereign debt crises. The best fallback investment strategy for the last decade has probably been gold. It might be a pretty good answer for about another decade. But Lacy Hunt and Van Hoisington reckon you’re best off in government bonds. At least, that’s been the case historically:

The current period of extreme indebtedness in the U.S. constitutes the third such episode since the Civil War. The two earlier cases include the 1860s and early 1870s, and the 1920s and 1930s. After these previous massive debt build-ups, two twenty-year periods ensued where the total return on the S&P500 was less than the total return on long-term Treasury bonds, a condition referred to as a negative risk premium.

The negative risk premium is a very interesting idea. It breaks, at least temporarily, one of the rules you learn in university finance courses. For investors to take on the risk of investing in shares, they have to be ‘compensated’ with higher expected returns. But when government bond interest rates are returning more than risky assets, that relationship goes backwards. People are rewarded for the safest investments.

That situation can go on for quite some time:

The underperformance of stocks relative to bonds from 1928 to 1948 occurred even though WWII intervened. Extreme over-indebtedness created a different playing field from normal circumstances that did not reward risk for a very long time. Once the excessive indebtedness was corrected, a positive risk premium was re-established. The risk premium was also negative from 1991 to 2011.

Here are the incredibly important parts of that quote if you want to be a successful stock market investor: ‘Extreme over-indebtedness created a playing field that did not reward risk… Once excessive indebtedness was corrected, a positive risk premium was re-established.’

In other words, stand clear until the debt winds blow over. When will that be? Umm, we’ll let you know when it happens…

That hasn’t helped much when it comes to the fallback investment strategy question.

Here’s what makes life difficult for Australians. We might be in a situation of excessive private debt, but the rest of the world is in a situation of too much public and private debt. Now, if public debt is a problem, then that removes the traditional risk free asset from the risk free asset pile. You can’t buy government bonds during a sovereign debt crisis and expect the investment to be safe.

But we don’t really have a public debt crisis here in Australia. Not yet anyway. So does that mean the conventional wisdom still holds? That Hunt and Hoisington are disastrously wrong when it comes to Greek, Spanish, British, American and Japanese investors, but right when it comes to Australians?

Is there a fallback investment strategy if, for the sake of argument, you have to stick to stocks? What shares outperform during debt depressions? The answer is of course dividend-paying shares. And we’ve made a certain way of investing in them our fallback strategy of choice. That’s because the investment strategy is even more profitable in the long run when the shares go down. Which they undoubtedly will.

But to find out what that investment strategy is, and which stocks to apply it to, you’ll have to keep your eyes and ears open for the first report in a series we’ve been working on for quite some time. Unless of course you attended our After America symposium last month. We told attendees about one way to prepare for a retirement full of pitfalls and risks. For those who couldn’t make it, the whole event was filmed and is available on DVD and audio here.


Nick Hubble
for Markets and Money

From the Archives…

A Sub-prime Crisis State of Mind
2012-04-20 – Bill Bonner

How The Belief in Australian Property Will Go With the Generational Wind
2012-04-19 – Greg Canavan

Chinese Communism and the Human Cost of the Cultural Revolution
2012-04-18 – Dan Denning

Lifting the Curtain on the Chinese Communist Party
2012-04-17 – Dan Denning

How Empires Really Work
2012-04-16 – Paul Craig Roberts

Nick Hubble
Nick Hubble is a feature editor of Markets and Money and editor of The Money for Life Letter. Having gained degrees in Finance, Economics and Law from the prestigious Bond University, Nick completed an internship at probably the most famous investment bank in the world, where he discovered what the financial world was really like. He then brought his youthful enthusiasm and energy to Port Phillip Publishing, where, instead of telling everyone about Markets and Money, he started writing for it. To follow Nick's financial world view more closely you can you can subscribe to Markets and Money for free here. If you’re already a Markets and Money subscriber, then we recommend you also join him on Google+. It's where he shares investment research, commentary and ideas that he can't always fit into his regular Markets and Money emails.

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