Don’t be a Rabbit in the Headlights

As we struggle to come to terms with the enormity of the impacts from the ongoing financial crisis, the most common reactions are to deny it, ignore it or just hope that something will come along and make it all better. Unfortunately, the cost of doing nothing will likely be very high indeed.

In the my last post, I outlined both the reasons behind our current situation and the likely outcome (http://kiwiblackers.blogspot.co.nz/ ‘What Lies Ahead’ ). So for those of you that would rather be proactive, and not stuck in the headlights here are some of the things that individuals and businesses can do to insulate themselves from the worst that may come.

The first step is to take a long hard look at your personal financial situation.

Let us start with potentially the biggest problem of all, how much debt do you have? If the answer is very little or none, great, you are already in a far better position than most. Unfortunately this is unlikely to be the case for many of us.

If this debt is related to a mortgage, how are you coping with the interest payments? Could you still cope with interest rates 3 to 4% higher than they are currently? If the answer is no then you are likely over-leveraged and may struggle over the next few years. .(There will likely come a time through this financial crisis when global interest rates will head much higher).

How much equity do you have in your home? If the answer is not much then you could also find yourselves in trouble when house prices drop – and yes, that’s ‘when’, not ‘if’ - I believe prices in new Zealand will drop at least 25% in real terms but they have the potential for a far more serious fall ( I intend to talk about the housing market in a future post).

In short, most people’s debt issues will be housing related and here are the three most obvious ways to resolve the situation in order of preference:

1.     If you own a property portfolio, consider selling enough to be able to reduce the leverage on your main residence. This will not only reduce your exposure to the property market in total, it will also increase the degree of financial pain you will be able to weather before your main property comes under threat.

2.     Without the buffer of a property portfolio you should consider downsizing to a smaller property. It will also have the effect of reducing your property exposure and increasing your overall financial resilience.

3.     If you have a sum of money available you could consider using it to pay down some of your mortgage to reduce your overall exposure.

4.     Lastly, consider selling your property and renting whilst the storm unfolds.

Having looked at the main cost part of people’s financial equation, let’s now look at the security of their income stream. Whether employer or employee, the same kind of questions will need to be asked to try and establish how both you, and the company you own or work for are likely to fare in the years ahead.

It is pretty clear to most that if the next few years play out as expected, there will be a surge in business closures, bankruptcies and job losses. Whilst this will not be pretty, it will not affect all of us equally. There will be many firms that struggle, a few that do ok and some that do spectacularly well, as is always the case during these periods.

It is worth noting that during previous periods such as this, it is the middle classes that get wiped out. This is because the poor have very little to start with and the seriously rich are ‘bomb-proof’(so what if their net worth goes from $10m to $5m, they are hardly on the bread line), so it’s largely the middle classes that have the debt to match their aspirations.

As a consequence, if your business is not positioned at either the absolute top end of the market place or at the absolute bottom, you will need to be extremely fleet footed - the middle ground can be a dangerous place.
Some of the big picture questions to consider are:

·         Is the business reliant on discretionary spending? People will have less and less money in their pocket as we move forward.

·         How profitable is the business currently? Is there room for the business to cope with a downturn?

·         How much is the business leveraged to the fortunes of other companies?

·         How indebted is the company? How will it cope with a substantial increase in interest rates?

·         Is the business tourist focused? There will likely be a severe drop-off in visitor numbers.

·         How wide spread is the company’s revenue stream? Will the failure of one supplier/customer put your company in jeopardy?

·         How reliant is it upon Central or Local Government funding. This will be progressively squeezed at the process wears on?

·         Foreign exchange rates will likely see huge volatility making life very hard for both importers and exporters. Although initially we should see a substantial weakening of the NZD against the USD, hedging policies for the majority of businesses will be very challenging.

There are many more questions one could ask, but if after assessing the long term potential for your employment, you realise that it looks rather precarious then start doing something about it sooner rather than later. Can you move to a more robust company in the same sector? Can you move into a business field that will do better than the one you are currently in? Can you tailor your finances so that your income is not essential, or at least if you were to lose your job it would not be as painful? There are few easy solutions, but forewarned is forearmed.

Lastly, let’s look at those people that have some savings or investments and see what their best course of action might be.

In New Zealand, the Retail Deposit Guarantee Scheme that was introduced during the depths of the 2008 crisis has now been wound down. It was brought in out of necessity because Australia had already done the same thing and if NZ had not followed suit there would have been a mass exodus of funds across the ditch.

The sole reason the schemes were rushed into being around the globe, was to restore investor confidence and prevent a ‘bank run’. Were a serious bank run to occur and the banking system collapse, neither the NZ Government nor many other Governments have the necessary financial muscle to actually guarantee the deposits in their banking systems, it would effectively bankrupt the country. The banking sector is simply too large.

As a consequence we have to be extremely careful where we put our money. In NZ a large portion of the banking sector is owned by Australian banks. If the parent banks in Australia come into financial distress they will need all the funds they can get their hands on, that includes the money that is currently deployed in NZ. Despite protestations, they will repatriate as much money as they can, and this has the potential to violently disrupt the NZ banking system.

Therefore, my advice is to consider the following:

·         Do not have large sums of money on deposit at the Australian owned banks.

·         As a general rule, bigger is better and therefore having an account at HSBC may be wise. I would also recommend RABOBANK, it was until recently one of the few AAA rated banks in the world and is still one of the safest.

·         For large sums of money, consider cutting the banks out of the equation completely and investing directly in short term treasury bills. There will be a time when this also becomes risky, but for the time being it is safe for NZ investors. Clearly in other parts of the world it is already high risk e.g. Greece, Spain, Italy etc.

·         There will be exceptions to the ‘bigger is better’ rule, unfortunately you will need to do your own homework as to the lending profile and leverage of each candidate.

·         Credit Unions offer an opportunity as they are only allowed to lend against their deposits, and so do not use leverage.

·         Try to keep some money available as a ‘float’ so that should the system dry up you are not left with nothing to tide you over.

Turning to investments it becomes slightly easier. Basically the majority of things will do badly, including stock markets and property. Stock markets typically halve during these periods, and property, as I have already alluded to, is seriously overvalued.

The one ray of light is the precious metals. They will continue to act as a hedge against the global crisis, and the more the crisis unfolds the better they will do.(I have mentioned in a previous post about my upside targets for gold and silver, and in a future post will elaborate on both the ways and the reasons for holding it).

As the precious metals are one of very few investments that will act as a hedge, you should consider holding between 5-10% of your net worth in them. This may seem extreme, but it is only in western culture that owning gold or silver as a store of value has died out. It is still the norm in the rest of the world, where they have seen currencies and governments come and go.

It may help to think of it in terms of house insurance. Nobody likes paying for it, but if the worst happens and your house burns down you will glad you had it!

In conclusion, it’s about shining the harsh light of reality on your personal circumstances and asking lots of what ifs, even if the answers are unpleasant. There are clearly many other things you can do to help yourself, but most of them will likely revolve around spending less, saving more and lowering your exposure to financial collapse. Once you have done what you can do, go about enjoying your friends and family..... the really important things in life.

i will leave you with a few quotes that say it more eloquently than I ever could.

Worrying is like a rocking chair, it gives you something to do, but it gets you nowhere. ~Glenn Turner

You can't wring your hands and roll up your sleeves at the same time. ~Pat Schroeder

and lastly,

If you have fear of some pain or suffering, you should examine whether there is anything you can do about it. If you can, there is no need to worry about it; if you cannot do anything, then there is also no need to worry. ~Dalai Lama


Hope this helps to point you in the right direction.



This post obviously has a New Zealand focus, but the same principles apply the world over. For readers in the UK I suggest looking at http://www.marketoracle.co.uk/Article31124.html entitled ‘Savers protect your deposits from Bankrupting Banks and Quantitative Inflation. This has some good advice that is particularly relevant to the UK.

What Lies Ahead?

In life we are surrounded by cycles of varying degrees. From the orbit of the planets to the pendulum of a clock and everything in between, almost everything has its own tempo and rhythm. Nothing is static.

Unfortunately, despite the cyclical nature of things touching every aspect of our lives, we have a strong predisposition to think in linear, straight-line terms. This displays itself in all manner of things from economists forecasting booms that will never end to real estate agents forecasting ever increasing house prices.

This extrapolation of what we have recently witnessed, projecting more of the same into the future is the single best reason why most experts are consistently useless at predicting recessions or depressions in the economy.

One of the earliest discoveries of economic cycle theory was made by the Russian economist Nikolai Kondratiev in 1925. He found that there was a general business cycle lasting between sixty to seventy years with three key phases being expansion, stagnation and recession. Unfortunately for Nikolai, Stalin did not like his conclusion and had him sent to a gulag for eight years before having him executed in 1938.

Since his death, Kondratiev’s theory has been refined, and numerous cycles of different durations have been discovered and added to the mix, however the basis of his theory remains the same. In simple terms it is a story of boom to bust.

In the early stages credit flows into the productive areas of the economy, leading to a huge amount of economic activity bringing growth and prosperity.

As the cycle wears on, this explosive growth results in the economy becoming saturated and stagnating, leading to a reduction of investment opportunities and a gradual lowering of credit standards.

Faced with this lack of opportunity, this ‘easy money’ starts to move away from productive industry and head towards other areas of the economy e.g. housing, stock markets etc, thus starting an ‘asset price bubble’ - the more these assets go up in price, the more money flows into them, which pushes them up even higher, which sucks in even more money etc etc.

Towards the end of the cycle, credit is expanding at an incredible rate and flowing solely into speculative assets; people are overcome with speculative fervour -nothing and nobody is going to convince them that the party is going to end! Debt levels expand to massive proportions and finally the inevitable happens…… markets crash and a financial crisis follows.

Once all the excesses have been squeezed out of the system by bankruptcy, default and inflation, and debt levels have returned to normal (think 1930’s depression), the economy is ready to start the cycle all over again.

So, you might ask, having weathered the financial crisis of 2008 are we ready to embark on a new cycle once again? The answer unfortunately is no.

After studying hundreds of debt bubbles, Reinhart and Rogoff (two economists that do know what they are talking about!) found that not only has excessive debt repeatedly led to financial crises in almost all countries over the last two centuries, but that these high debt levels take years to work off, and this deleveraging creates a prolonged slump whilst Governments, businesses and consumers rebuild their finances.

In other words, it is not just one short financial crisis and then off we go again, a short, sharp, shock is quickly forgotten. We seem to require pain over a prolonged period in order to engender behavioural change, and that is precisely what we get during the deleveraging process.

It is important though to understand that we do not face a period of unrelenting financial crisis, there will be periods where we experience cyclical recoveries similar to what we have had since 2009. Unfortunately these periods of recovery will feel more like mini-recessions than booms, and once they have run their course we will once again feel the effects of the deleveraging process as the next crisis hits.

And so although the 2008 crisis was the first, it will be followed over the next few months and years by credit crises in the Euro Zone, Japan and others until finally it comes home to roost, in the USA.

It would appear that we have at least another five years of the process before we can even consider an endgame, and the financial pressure will continue to build every time we get another crisis.

Anyone believing that we will quickly return to the ‘normal’ days of pre 2008 is sadly mistaken. However, better to be informed as to what we face than shove your head in the sand (or anywhere else that feels comfortable) and hope for the best.

If by this stage you are starting to feel depressed, don’t worry. There are courses of action to take to help protect yourself and your family, and to insulate yourselves from what is coming, and I will go into more detail on them in a future post.