Common Sense from Ben Stein (NY Times)

March 30, 2008
Everybody's Business
Time to Go on a Liquid Diet
By BEN STEIN
AS the market keeps torturing us, many people say the problem is fallout from the losses in subprime mortgages. Others say it is fear of a recession because of the credit crisis, rising oil prices and the collapsing dollar and its flip side, inflation.
We could be in for much more pain as profits fall this year, and maybe even into 2009. Financial companies account for a huge hunk of total corporate profits — or they did.
And we could be in for more suffering if the currents of fear whipped up by the short-sellers grow into tidal waves.
Markets can certainly fall: from 1926 through 2007, the Standard & Poor’s 500-stock index fell 3 out of every 10 years. Some declines can be substantial. And there can be times like the 1970s when the market is sluggish for cruelly long periods.
As we are now seeing, real estate is far from a consistent shelter. And, for many of us, there isn’t much time before we’ll want to hang up our spurs. (Actually, I don’t ever plan to hang up my spurs. I plan to die going through an airport security line en route to a speech.)
So what do we do? I am going to be honest here: I don’t know. Or at least I don’t know for sure. (Hey, honesty may not be the best policy, but it’s worth trying every once in a while, as my old chief, Richard Nixon, once said. He had a much better sense of humor than is usually believed.) But I do have some general considerations that should guide you.
No one ever went broke from too much liquidity. In volatile times like these, cash is your best friend, aside from your dogs and cats. True, you earn very little interest on cash these days. True, if the stock market has a huge move up and you are largely in cash, you will be sad.
But it is also true that cash does not crash — although it does slowly but surely lose its value. You can pay your bills with it without having to sell it at a loss. So, as my pal Ray Lucia, the San Diego money manager, has taught me over the years, your first bucket of money should be in cash.
Having a plan is vital. It does not have to be a perfect or precise plan. Indeed, it cannot be, because you cannot forecast your rate of return or cost of living. But a rough plan to get you to and through retirement (to the Rainbow Bridge, where you meet all your departed dogs and cats) is a must.
Nowadays, alas, such a plan must consider the likelihood of much higher inflation than we had expected, as imports and food costs skyrocket. And we have to plan for the possibility of prolonged low returns from stocks. That means more saving.
Third, we have to be diversified: large- and small-capitalization stocks, foreign and domestic, emerging and developed markets. My own preference is for index funds, but there may be some fine managed funds out there, too.
Diversification should also include real estate investment trusts, with their fabulous yields, and commodities, which can easily be bought through index funds. Commodities may well have hit an air pocket, as commodities do, but they will be back someday.
My preference for a plan would also include guaranteed income that you cannot outlive — and that means annuities. There are now fixed annuities and variable annuities that give you inflation protection as well as protection from a collapse of the stock market. Of course, you have to pay for this, as you would for any hedge, but it can allow you to sleep better. Investigate the fees carefully and buy only the features that you want and need.
Fourth, plan for living more frugally. This is not easy for some of us. “What were once vices are now habits,” as the Doobie Brothers once said. This is true for millions of us, but we simply cannot escape the logic and power of arithmetic.
We cannot live forever on more than we have in principal and interest (or earnings ) and pensions. If that means no more second homes, or no more third cars, so be it.
No comfort is worth putting yourself in genuine fear of poverty. For me, your humble scribe, this is a vicious problem, but at some point, it must be solved.
But look on the bright side. My pal and investment guru Phil DeMuth and I have shown repeatedly that the best returns for stocks come after periods of extreme pessimism. It is just when the horizon seems darkest and cloudiest that we find above-par returns. And it is just when hopes seem dimmest for the United States that the economy starts to rally. If you have enough liquidity, if you are well diversified, now would be a good time to start back into the buying pool, in the most diversified way imaginable.
The best time to go house-hunting may be when pundits say the housing market is hopeless. That market, too, will eventually turn around. Many homes bought decades ago, when prices seemed insanely high, are now a steal. If you do buy a home, be patient. The days of flipping for easy money are long gone.
Prudence is the order of the day. If we can remember that, we’ll really be well off when, soon enough, the good times start rolling again.
Ben Stein is a lawyer, writer, actor and economist. E-mail: ebiz@nytimes.com.