Tuesday, January 16, 2018

Washout

If Stephen Blow has $500,000 in his retirement portfolio and Betsy Gatesbook has $50,000,000, a 90% market loss causes Blow to lose $450 thousand and Gates to lose $45 million. The cost to Betsy appears greater. Since lots of people feel that they're clever investors, assume for the purposes of this example that Blow and Gates are each retiring, facing health problems that leave "door greeter at local megamart" the only real fallback job option, and that their portfolios depend upon professional management at around 100 basis points (1% management fee).

Under these conditions, it first seems like Gatesbook has been hit harder than Blow. The true effects on the portfolios, though, are significantly different. Gatesbook's, upon which she doesn't need to rely anyway after the "market crash," has earnings sufficient to cover its costs, to reinvest itself and continue growing, and to provide for her needs all the while. By contrast, Blow's becomes almost cost-prohibitive, can't afford to reinvest, and has to shed principal for day-to-day survival. While Gatesbook lives off reduced income, Blow is forced to destroy his principal (slowed slightly if he does become a Walmart greeter). Gatesbook's five million maintains her lifestyle, while Blow's fifty grand is a tattered savings account. When the market later "corrects" itself upward, Blow has nothing left, while Gatesbook gets hers all back. The ability to weather cyclic storms stays with Gatesbook, regularly purging all the others. It's very cute to pretend that being a financial whiz can alleviate or eliminate these conditions, but for people never permitted to generate salaries sufficient to build above the washout point, or who get screwed in myriad other ways--including being old and needing to rely upon professional management even if you were a discriminating financial whiz before--the cycle achieves its desired effect, reducing the "middle class" by leaps and bounds.

We've briefly summarized the effects of cyclical raids on the middle class:
Now, consider the middle class family with, say, a million and a half in savings earned over two working lifetimes of scrimping. The stock market drops, and their $900K retirement fund goes down to $500K. The real estate market crashes, and their house goes from $600K to $350K. All of a sudden, their retirement just got a little less easy. Instead of passing on a large sum to their heirs, they use up most of what they have left. Maybe they keep working longer.

Or the family with $5 million, drops to $3. Suddenly, they can’t afford that extra property. They’re not starving, but there’s a world of difference in investment income and future planning. Their ascent toward the top has just been stopped. In a generation or two (or less), they’re off the radar. Their holdings have been dispersed, and are no longer large enough to grow to something meaningful.
The fallout from attacks delivered through financial markets goes far beyond mere investment, spending, and inheritance issues. Businesses which compete with the mainstream are not started (e.g., Dad never starts that Greek restaurant), attempts to obtain significant voting blocs in smaller publicly-traded corporations are stymied, and so forth. More importantly, the washouts raise the prices of many commodities and consumer loans, so lower class transitions to middle class are forestalled at the same time as middle class transitions to upper class. What, to middle class people, is a portfolio drop, becomes the elimination of working savers, such that workers learn that it is unintelligent to save, and better instead to live by debt and employ bankruptcy when necessary. The supposed idiocy of the American consumer is based in large part upon the many washouts of savers over the course of generations, whereby it actually is more rational to waste money on a luxury cruise or a sports car than to buy stock--when you need savings to meet an emergency bill, the market tends to have drastically reduced the value of those savings, so you lose money by not having spent those savings on something frivolous before, then gone bankrupt in the E.R. when the medical emergency hits. The desire to trick working consumers into "saving" and "investing" keeps getting resisted by working consumers, who have to some extent built up an instinctive recognition of the ruse. It is not always their stupidity that causes them to buy a new truck instead of saving for college--inflation washes out FDIC accounts, and market games make securities too risky. Only if you have wealth sufficient to live off income during cyclical recessions are you (potentially, partially, if you're lucky) saved from these effects.

Compare brahmin attitudes toward lower-class "financial responsibility" habits with the same attitudes toward race. Poor blacks know why it is dangerous to have their neighborhood taken over by poor Hispanics, and vice versa, and poor whites know the same for both groups. The middle-class loves lecturing the poor about how happy they'll all be together, and how their racism is all the same, whereas people who've experienced those lives understand that kumbaya is different. Similarly, the brahmin love to plan budgets for the poor.

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