A common theme in client meetings recently has been the ever rocky economy and with it the underlying concern of what it may mean for the stock market.
“All economists are predicting _______.” You can fill in the blank with inflation, deflation, or double-dip recession, and have a valid concern depending on which economists you personally listen to.
Understandably, clients want to know, “If the market crashes, will our plan still be on track?”
It is common to think our beliefs about the economy may translate to stock market performance. But we should take into account two facts. A changing economy may not have a negative impact on all securities in a portfolio. And just because an economist is right about the state of the economy, it has nothing to do with where stocks will go.
Take Irving Fisher, who was one of the great economists of the 20th century and could be called the first economist to reach celebrity status for his writing.
In October 1929, Fisher had been publishing his views as a member of a group of economists, politicians, and pundits who were convinced the economy had found the way to never-ending prosperity (sound familiar?). His unwavering faith in the economy led him to maintain that stocks on the whole were very undervalued. And it was in mid-October when he declared stock prices had reached “a permanently high plateau.”
Of course we all know what happened in the remaining days of October. Multiple days of the weeks following are now infamously described preceded by the word black.
To be fair to Fisher, there was no shortage of similarly bold claims and opinions before and during the stock market crash. His message before the crash was no different than what he had believed for some time prior. It was only that the market temporarily didn’t agree with him.
If an economist of Fisher’s stature called the market so wrong, can we place any faith in the predictions of today’s economists to determine our financial moves? Should we rule out economists as predictors of the stock market?
Economist Murray N. Rothbard in his book Man, Economy, and State (1962) wrote that economists have little value for the entrepreneur and business executive. Their benefit to business is in explaining economic reasoning and letting those on the front lines make the decisions that lead to success or failure. “[The economist] cannot forecast future consumer demands and future costs as well as the businessman; if he could, then he would be the businessman.”
Rothbard’s quote places into context the value of predictions in our own planning. Like the executive who must make prudent decisions for the future, you are the CEO of your family financial corporation. Not one of the economists knows how well you personally are prepared for inflation, deflation, changes in employment demands, and any other scenario.
We know now that just because economists may be right, their analysis doesn’t necessarily apply to the markets. So a prudent plan may be to hedge for any economic scenario. In fact, a more recent report from the Federal Reserve Bank of Minneapolis actually contends Fisher was correct. Stocks were undervalued at the time of his famous quote, even if the stock market so vehemently disagreed.
Parts of the portfolios of our retired clients have benefited from the deflation of the last several years by having locked in relatively high interest rates on financial instruments that we may not see again for some time. But we also believe in being prepared with a part of our plan for the possibility of inflation. Because financial advisors can help craft a plan based on your particular circumstances, they are worth speaking to about your concerns about how the economy plays into your planning specifically. And they perhaps can offer recommendations that are a little more useful to your goals than the predictions of the celebrity economist.
The preceding blog was originally published by the Financial Planning Association® (FPA®). To view the original blog please visit the FPA Web site.