Despite a persistently high unemployment rate, the economy appears to be on a path of gradual recovery. Of course, concerns lingering from Cyprus could dampen the stock market’s gains. Nonetheless, the market seems due for a breather after an active year.
This week promises to reveal more economic insights. Later today, we’ll get updates on durable goods orders, consumer confidence, and new home sales. On Thursday, anticipate the fourth-quarter GDP revision and weekly jobless claims. Finally, consumer spending and sentiment data will be released on Friday.
We’ll continue to monitor the situation closely, looking for hints and signals about what the future holds. Have the shadows cast by the 2008 financial crisis and subsequent recession faded into a brighter outlook? Are we on the cusp of better days?
All around us, there are signs of rejuvenation. Consumers are spending, producers are producing, and for the first time in years, a renewed sense of confidence seems to be taking root—much like migratory birds returning to Southern California in the spring.
With this newfound vitality, how should investors prepare? Here’s a closer examination.
Fighting the Last War
In 1930, World War I veteran and French Minister of War André Maginot persuaded the French government to build a line of formidable concrete fortifications along its border with Germany. He was looking backward at recent military history rather than forward to future confrontations.
World War I had taught a crucial lesson: traditional tactics like mass cavalry charges were ineffective in an era dominated by machine guns. The successful strategy during the Great War was one of static, defensive combat.
Unfortunately, French leaders failed to innovate. They poured their resources into constructing the Maginot Line, regarded as a military marvel, believing it would guarantee security from eastern invasions.
This illusion shattered just six weeks after Germany attacked on May 10, 1940—flanking the Maginot Line through the Ardennes forest in Belgium. The once-praised defensive line was rendered strategically futile.
There’s a saying: “Generals always fight the last war.” For interwar French military leaders, the insights gained from World War I became liabilities, diverting attention and resources from effective defense.
Fighting the Next War
Similarly, lessons from past financial crises can lead to poor decisions regarding future economic conditions. The aftermath of 2008 has left many financial strategies as vulnerable as France in the spring of 1940. Numerous individuals have directed their savings into Treasury bills, an approach that provided safety as the stock market plummeted in late 2008 and early 2009.
During the Great Depression, the prevailing wisdom was that cash is king. The experience of mass bank failures and runs suggested hoarding cash, even tucking it away at home, was prudent. However, this strategy proved costly for the Depression-era generation during the inflationary 1970s, when their savings lost significant value.
Today’s retirement investors may also be overly fearful of another market crash, missing the broader implications of the Federal Reserve and Treasury’s actions over the last five years. They might be blind to the potential fallout that could significantly impact Treasury investments.
These investors find themselves fighting the last war, where the Federal Reserve managed to suppress yields without immediate consequences.
Ironically, the end of this apparent success will come along with an improving economy, setting the stage for rising inflation. The infusion of money into the economy will accelerate, leading to a scenario where cash becomes increasingly vulnerable, overtaken by inflationary pressures.
Our intuition suggests that stocks could experience a steep decline of 30 to 40 percent in the next two years. Nevertheless, they remain the better choice for preserving wealth over the next decade amidst the looming threat of spiraling prices.
It’s essential to allocate your assets wisely.
Sincerely,
MN Gordon
for Economic Prism
