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You're not alone if you think the financial gods are out to get you.
Just when you -- and the rest of an aging global population -- need a long period of steady financial growth so your savings can multiply into something enough to retire on, the financial markets deliver nothing but one boom and crash after another. Dot-com boom and then bear market bust. Housing boom and then mortgage market meltdown.
And I've got even worse news: The financial market meltdown that started in the subprime-mortgage market in 2007 and quickly spread to global financial markets in all types of assets is no aberration. It's part of a long-term trend toward less stability in global financial markets.
But you don't have to sit in your rocker and take it. In this column, I've got suggestions on where to look for stability. And in a couple of weeks, I'm going to launch a new portfolio called "Unfixed Income" to give you specific picks on how to get where you want to go if you've got time but not much stomach for the recent stomach-churning ups and downs.
There seem to be three reasons for this decline in global financial market stability:
No. 1: It's extremely difficult to control the huge amounts of money now slopping around the global economy. And when global financial markets don't control these cash flows, the result is a runaway boom that sooner or later turns into a bust. So in the past 10 years, we've had the Asian currency crisis, the Russian financial crisis, the Long-Term Capital Management hedge fund crisis, the dot-com boom and bust, and the real-estate boom -- in the United Kingdom, Spain, China and the U.S. -- and bust.
No. 2: The world's developed economies have seen a relative decline in their credit quality. Indebtedness is growing while economic growth is slowing and the political will to tackle today's problems before they spiral out of control is distressingly absent.
In the U.S., we're still unwinding a massive Ponzi scheme that had promised institutions such as pension funds that Wall Street could turn risky subprime, no-income-verification, no-money-down mortgages into AAA-rated securities. (For more on this, see my March 4 column, "Retirement crisis: From bad to worse.")
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No. 3: The financial markets in the developing-world economies that are improving in credit quality are much smaller than the financial markets in the developed economies that are showing a decline in credit quality. The result: On average, stability is falling.
For example, Brazil, which needed a $30 billion bailout from the International Monetary Fund in 2002 to escape a currency crisis, is now one of the world's biggest creditor countries, with foreign reserves climbing to $190 billion in January 2008. But the financial markets in countries showing an improvement in credit quality, like Brazil, are tiny in comparison to the markets of the U.S. or Japan. All the shares listed on Brazil's stock market, the Bovespa, had a market value of $1.3 trillion in January 2008. Compare that to the value of the stocks listed on the New York Stock Exchange: $14.6 trillion.
Get to know the stability premium
What does all this mean for you as an investor?It means you can no longer count on the developed world's financial markets to deliver the stability premium.
Stability premium? You've probably never given it a moment's thought or even heard of it. That's because, like the air you breathe, you don't miss it until it's gone.
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You've heard of risk premium, of course, which says -- Wall Street bankers, pay attention now -- that you're supposed to get paid more, not less, when you take on an investment with higher risk.
The stability premium is the other side of that picture. It's the premium that companies in developed and stable economies reaped in the form of lower interest rates for the stability of those economies. It's the premium that investors in developed economies received in bigger gains on their stocks and bonds because investors in the rest of the world didn't keep their money at home -- that was too risky -- but instead shipped it overseas for investing in developed-country financial markets.
Continued: Where to find stability
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