3 Lessons Learned From the 2008 Financial Crisis

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Ten years ago this week, a bolt of lightning shot across the global financial system when Lehman Brothers, a bank that had been in existence for over 150 years, crashed and burned. It was at that point that most people became aware that Wall Street was in serious trouble, and that that trouble could severely affect us all. It did, of course, but as we look back 10 years on, what can we learn from the crash and the events that followed?

  1. Crashes Are Usually Not Foreseeable

Those that watched the market closely already knew by September of 2008 that something was going on, as the S&P 500 had peaked 11 months prior at around 1561 in October of 2007, and had been falling steadily since. Still, the 16 percent or so drop from the high to that point was regarded by many as a needed consolidation. That attitude was summed up by the then CNBC pundit, now White House economic advisor Larry Kudlow, who said in April of 2008 that “…the worst of this subprime business is over.” To be fair to Kudlow, he wasn’t the only one looking at the subprime mess through rose-tinted spectacles. Fed Chair Ben Bernanke, for example, had said a month earlier that it was “contained.”

We now know that thinking was ridiculously optimistic, but it was a widely held view at the time. There are those who claim to have seen it coming, but the problem for investors is that those who claim that disaster is just around the corner are wrong far more times than they are right. Markets do correct severely every now and again, but if you listen to the bears as a matter of practice, you would inevitably stay out of stocks completely. A glance at the history of the market should tell you that that is not a good strategy.

  1. Don’t Panic: Stay Invested for Long-Term Gains

It follows from point number one above that differentiating between regular market volatility and a real market crash is difficult. By the time it becomes obvious that a move is underway, the bulk of it is probably over and selling at that point simply locks in your losses. Logically we all know that it would be far better to buy on a big drop, but psychologically that is a hard thing to do.

The fact is that the U.S. economy is incredibly resilient. No matter how deep the crisis, it always has an end-point. Human innovation, when coupled with the profit motive, on the other hand, is eternal. Deep recessions hurt most people, but for some with available capital they are huge opportunities to invest cheaply and that investment starts the recovery process. So, if you are investing for decades in the future you should, as hard as it is at times, ignore even severe volatility.

The problem with that is that not everyone is investing for something decades away. As retirement or whatever your goal is approaches therefore, you should be reducing your exposure to stocks, especially during tines like this of market strength. It is hard to take profits when everything looks good and even harder to stay put when disaster looms but thinking about it and devising a plan in advance makes it a lot easier.

  1. Politics Doesn’t Matter

Politicians and their supporters claim, when in opposition at the time of a crash, that it is all the fault of the ruling party. And, when in power during a recovery, they waste no opportunity to say that that recovery is down to their insightful, smart policies. Neither of those things are normally true. If the 40% gains since the election are because Donald Trump is smart, for example, then Barak Obama, who presided over a 300% climb in the S&P 500, must be a genius. The fact is that crashes and recoveries happen, and the only thing politicians can do is avoid making them worse.

It is now clear, for example, that in countries where politicians responded to recession with austerity, the problems became deeper and longer-lasting. History also shows, however, that throwing too much money at the problem exacerbates the “boom and bust” cycle. As is so often the case, moderation is the best path and the political extremes only do damage, but generally the economy, and therefore the market, exists independent of politics.

This week marks a decade since the collapse of Lehman made it clear to most people that the subprime problem was reverberating way beyond those directly involved in dodgy mortgages. Looking back though, and looking for lessons to learn, three things are clear. Attempting to predict when the next crash will come is pointless for the average investor. Having a clear idea of the best way to respond, however, is anything but, and executing that plan regardless of the words and  actions of politicians is important if you are to minimize damage.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

This article appears in: Investing , Investing Ideas , Stocks , US Markets

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Martin Tillier

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