Lessons Learned by Looking Back at 2010

The year is winding down, and boy has it been an exciting and volatile one. Bonds. Currencies. Financial stocks. Some of the gyrations we’ve witnessed in those instruments over the past 12 months were enough to take your breath away …

• The “Flash Crash” that wiped 1,000 points off the Dow in the blink of an eye …

• The European debt meltdown that caused interest rates to double, and double again in countries like Greece and Portugal, and …

• The launch of the Fed’s QE2 program, which sparked one of the biggest surges in U.S. interest rates in ages — rather than the decline Ben Bernanke promised.

The list of significant market developments goes on and on. So what kind of lessons can we learn from events like these?

Here’s my take …

Violations of Trust Have
Four Serious Consequences

First, you just can’t trust many government pronouncements!

I wish that weren’t the case. But it is. We have been lied to and misled repeatedly by U.S. and foreign officials alike.

In Greece, they lied about the amount of debt the country had taken on. They did so to entice investors to buy their bonds. Then when the truth came out, the value of those bonds collapsed.

In Ireland, they said over and over they wouldn’t need financial help. They claimed the losses from shoring up their largest banks would be manageable. Then shortly thereafter, they went hat in hand to richer European nations for tens of billions of dollars of bailout money.

Here in the U.S., both Democrats and Republicans promised to get the budget deficit under control. They paid lip service to a new era of fiscal prudence. The deficit commission’s report was full of lofty language, laying out “a plan to get this crushing debt burden off our backs.”

Before heading home for the holidays, politicians saddled taxpayers with $858 billion in additional debt.

But just days later, what did the folks in Washington do? They passed a $858 billion economic stimulus and tax program … one that will blow a huge new hole in the budget. And that hole will need to be plugged with even more borrowed money from creditors like China!

Second, even the best laid plans can blow up in your face … especially if you’re a Fed policymaker!

Just look at the QE2 program, which is crashing against the rocks as we speak.

Fed Chairman Ben Bernanke and his cohorts promised us the $600 billion plan would lower borrowing costs. Instead, it’s proving to be a $600 billion boondoggle!

Interest rates have done nothing but rise since the Fed started buying bonds, raising the cost of everything from mortgages to municipal loans. Yet there is no plan to change course, no sign that policymakers are learning from their mistakes.

Third, you can postpone the day of reckoning for a while. But eventually, your problems catch up to you.

This is another key lesson from the European debt crisis …

Countries like Greece and Ireland continued to borrow and spend, with little in the way of consequences for quarters on end. Then out of the blue, market conditions changed. Bondholders decided they were fed up and stopped buying. That caused government bond prices to tank, interest rates to soar, and social disorder to spread.

Here in the U.S., pundits such as Paul Krugman continue to cite relatively low U.S. interest rates as proof that Washington’s borrow-and-spend philosophy will be consequence free. Heck, they want politicians to spend even MORE!

It’s easy to get buy recommendations. But when it comes time to sell, you’re on your own.

But as I noted, rates are already starting to rise — a sign that investor patience is wearing thin. If we don’t get off this misguided path soon, I believe D.C. is going to look a lot more like Lisbon or Athens or Dublin than folks like Krugman understand.

Fourth, you can’t count on Wall Street or Washington to look out for your interests.

You have to take things into your OWN hands! Look behind the headlines to see what’s really going on. Listen to the advice of unconflicted advisors, rather than those with an axe to grind.

Treasury Secretary Geithner isn’t going to tell you to dump your bonds and hedge against rising interest rates. Your banker isn’t going to tell you his institution is about to fail. Your broker won’t tell you to dump your stocks before the market cracks. And the ratings agencies sure as heck aren’t going to warn you far enough in advance that a sovereign government or weak corporation is going to default.

But there are people who will.

My advice? Take these lessons to heart as you enjoy the peace and joy of the holiday season.

Until next time,

Mike