It was the summer of 1971.
I was studying in West Germany, but had taken the opportunity to visit London. The world was much different then. International travel, especially air travel, was novel and expensive; we took trains and ferries. International telecommunications was possibly even more novel and expensive; we wrote letters home.
What wasn’t particularly expensive was food or lodging in Western Europe. One US Dollar bought four Deutsche Marks, and that went a long way, even for a student on a meager budget. Europe was, in short, quite cheap, at least for Americans. (Does anyone remember “Europe on $5 a Day”?)
Then the change happened. President Nixon closed the Gold Window.
At the time, I didn’t understand what that meant or why it happened. All I knew was that, from one day to the next, my dollars were useless – or “kaput” as my German host was delighted to say. I could no longer exchange them for the British Pounds or Deutsche Marks I needed to survive. I was alone in a foreign country, and, as if that wasn’t bad enough, I couldn’t even get back to the other foreign country that I was living in.
Stock market volatility is annoying, even disturbing. The experience of one’s currency suddenly becoming worthless is my definition of terrifying.
Don’t Mistake Short-Term Effects for Long-Term Effects
Does anyone else remember the Summer of ’71 as a financially terrifying time? Most of the world has long since forgotten the gold standard, the post-WWII Breton Woods Agreement, and even the Deutsche Mark (which is now, itself, truly ‘kaput’). We now live in a world that takes the free convertibility, albeit at variable rates, of currencies into other currencies for granted. In some ways this has made our lives more complex, but it has also relieved the tensions and inconsistencies that had been associated with the old gold standard system. In short, we all adjusted, more-or-less for the better, and went on with life – eventually.
A wise person once remarked that we all tend to overestimate the impact of a new technology in the short term, but underestimate its actual or potential long-term impact. Yet the inverse of this human tendency is also true. We almost always experience events that suddenly upset the status quo – ‘shocks to the system’ – as more permanent and more problematic than they actually turn out to be over the long run.
That does not mean that a global pandemic (or a stock market meltdown) is ever easy to experience, nor that it won’t have a serious impact on our lives. Immediate problems are real and need to be addressed. What it does mean is that we shouldn’t conflate the short-term with the long-term, either impact or cure. The dramatic market shifts that we have experienced over the past couple of weeks are the result of short-term, fear-driven, supply-and-demand factors – and not long-term considerations. Selling your stocks – a long-term wealth accumulation vehicle – into a short-term market panic is a dumb move.
A Time for Everything Under the Sun
We always talk to clients about the need for an Emergency Fund, by which we simply mean cash that can be drawn upon in unusual or unforeseen circumstances. Given the stability of markets over the past decade, it’s been tempting for some to think that such a cash stash is secretly the source for a bathroom remodel. But it is not. The point is that your Emergency Fund is there for the “unknown unknowns” in your financial life. And what we’re currently experiencing is probably one of those. Most professionals in Silicon Valley won’t get thrown out of work as a result of this health and financial crisis, but some may be asked to take unpaid leave or need to arrange for unexpected child care, which would result in lower monthly cash flow. This is what your Emergency Fund is for.
And if you don’t have an Emergency Fund because you thought it was a useless idea, remember how your perspective may have changed over the past couple of weeks. Promise yourself that you’ll have one in the future.
Making Lemonade out of Lemons
Don’t forget that stock market volatility and low stock prices in general are actually good for a number of things. For example, now – or the coming months – may well be an excellent time to do that Roth conversion you’ve been thinking about. With stock prices nearing bear market territory, you’ll get a 20%+ discount on the tax bill associated with that long-term tax savings opportunity.
Similarly, if the decline in equity prices cause portfolios to get too far off their target allocations, we’ll take the opportunity to rebalance. That simply means that we’ll sell ‘high priced’ asset classes in the portfolio to buy ‘low-priced’ asset classes in the portfolio. This is another long-term gain that can result from short-term pain. (Note: we’re not yet near price levels where I think this is imminent, but we may get there yet.)
Finally, we’ll have the opportunity to do some classic tax-loss harvesting. This can be either a near-term benefit or a permanent one, depending on the client and their circumstances. But it can definitely be a way to ease some of the tax pain associated with the accumulated gains in many long-term portfolios today.
So take heart. Take care of yourselves – financially and health-wise – for now, but please don’t lose faith in your long-term prospects. And let us know if we can help; that’s what we’re here for.