Game Plan
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Energy, essential for life and economic growth, is an extremely important component of tangible investing. The United States is enjoying a well-timed energy boom. Our most nagging national security risk over the past forty years has been our dependence on foreign oil, which has tethered us to one of the most dangerous regions on earth. So, investing in energy is one way to hedge against economic attack.
You can buy the commodities directly through the futures markets or buy shares in energy producers. You can focus on so-called fossil fuels such as natural gas, coal, and oil. You can buy shares in uranium producers. Or you can invest in alternatives such as wind, solar, and hydrogen. These investments have to be made in companies that produce the equipment or use the equipment to produce energy for sale.
You can also own shares in companies that transport energy, like the railroads or pipeline companies. You can participate in ETFs, REITs, and even master limited partnerships (MLPs), which are publicly traded. The limited partner provides the capital to the MLP and receives periodic income. The general partner runs the MLP’s affairs and is paid according to the partnership’s performance. In an MLP the partnership must derive roughly 90 percent of its cash flow from real estate, natural resources, and commodities. The advantage of an MLP is that the partnership does not pay taxes from the profit, only when partners get paid.59
You can invest in energy company stocks, in mineral rights or producing wells, or even energy exploration. All of these investments carry risks, of course, but the biggest risk is probably to ignore the potential of energy in your portfolio.
Collectibles
The final category of tangible-asset investing is collectibles. These can be toys, comic books, stamps, coins, autographs, baseball cards, jewelry, classic cars, antiques, guns, and even fine wine. It takes intuition, savvy, and general awareness to win with these investments. I remember that in the mid-1970s my brother once begged my parents to let him spend forty dollars on a comic book. They thought he was crazy but let him do it anyway, and he bought something called Amazing Fantasy 15. It turns out that comic in mint condition sold for over a million dollars in 2011.60 Now, my brother’s copy wasn’t close to mint condition, but it was worth a lot more than the forty dollars he paid for it!
I once bought twenty bottles of Dom Perignon 1998 at Costco in anticipation of high champagne demand for New Year’s 2000. I paid seventy dollars per bottle and eventually sold them all on consignment through a wine shop for a net $140 per bottle, a quick doubling of my money.
Not all investments in collectibles work out so well. In the late 1990s, my family had an ice cream and candy shop in Carmel, where we sold Beanie Babies. They retailed for around six dollars, but a strong after-market drove the prices of the “rare” ones to astronomical prices. People were paying one hundred, three hundred, and even five hundred dollars for a little purple bear called Princess. Some parents bought several, believing they would make enough profit to put their kids through college. Today you’ll find people trying to sell them on eBay for hundreds and even thousands of dollars, though you can get Princess for five to fifty dollars, depending on the production run. Not bad if you paid five dollars in 1998, but a serious disappointment if you paid five hundred!61
The best collectors are those who have a passion for the collection but a willingness to take advantage of price discrepancies. Suitable items for collecting include antique motorcycles, watches, and even autographs.62 The Financial Times reported in 2013 that “the best-performing luxury investments—cars, coins, stamps and art—have matched or out-performed prime property investments, over one-, five- and 10-year periods, in the indices of five key world cities: London, Paris, New York, Hong Kong and São Paolo.”63
Judith Miller of TV’s Antiques Roadshow, the coauthor of Miller’s Collectibles Price Guide, champions collectibles: “They have done much better than most other investments. Do you want a piece of paper over which you have no control or something really nice like a table that you can not only enjoy but eventually sell for a good price at market?” James Daley, the money editor at the British consumer-advocacy magazine Which?, is more cautious: “It might seem like an exciting idea but these investments are only suitable for a minority of investors. Not until you have a cash reserve and a relatively large portfolio of equities, bonds and property should you even consider them.”
Tim Schofield, the director of the motorcar department at the British auction house Bonhams, is bullish about cars as investments. He said, “If you have got money earning nothing in the bank, view the stock market as a bit hit and miss, and have petrol in the veins, then why not buy an old car? It is a tangible asset that is kept in your garage and you cannot put a figure on the fun you get out of its use.” Geoff Anandappa, investment portfolio manager at Stanley Gibbons, pushes stamps, noting that they “can be a good way of diversifying your portfolios because they do not correlate closely with any other asset classes.”64
A word of caution about collectibles: you are not allowed to hold them in an IRA,65 although you can buy them in British retirement accounts.66
Alternative Assets in Times of Economic Warfare
We have covered a variety of alternative investments ranging from hedge funds to stamps. But you’re wondering, “How will these perform in an economic attack?” It depends on the investment and on the kind of attack.
In the case of a network heart attack or systems disruption, anything related to the market could be hurt. Hedge funds that rely on complex trading strategies could well be toast. Private equity and private debt, if focused on the right areas, could do quite well. Imagine investing in a startup company with the latest network-protection software. Or owning a piece of a survival gear company in the case of an EMP.
In a deflation, many types of private equity would suffer, but private debt, with the right issuer, could become more valuable. In an inflationary period, just the opposite is true. The right kind of private equity would do well, but private debt would be paid back with ever-diminishing dollars.
The best alternative investments in an inflationary attack or currency meltdown would probably be “stuff.” Real assets tend to hold value during inflation. In fact, they can be ideal hedges. Food, energy, and basic materials all can do well in inflation but can be hurt badly by deflation.
Collectibles are questionable. They can do well in mild to medium inflation but can become nearly worthless in a hyperinflation. That’s because collectors may be forced to sell to pay for food, energy, clothing, and shelter. In a currency collapse, the only collectibles that will retain their value are those with global appeal. If the Chinese aren’t interested in a 1969 Nolan Ryan baseball card, it might be hard to get a decent price if the dollar collapses.
There are no simple solutions. Good investors have to be flexible. And it is extremely important to understand what the economic climate will be and to have professional, trained guidance to get you through it.
CHAPTER ELEVEN
A Sane Strategy for an Insane World
A strategy built upon incomplete information may be doomed to failure. That is why it is so important to understand the geopolitical events swirling around us. For example, even if you build the perfect portfolio to maximize dollar returns, if the dollar fails, you are out of luck.
This chapter will cover some of the basics needed to develop a proper investment approach, accepting the reality of a very fluid situation. The key is to apply time-tested disciplines with situational awareness to protect and grow wealth. The times can be treacherous, but with proper understanding and the benefits of professional advice, it is possible not only to survive but to prosper. Furthermore, it is possible to invest in a way that enhances America’s economic security.
There are a number of books that offer excellent advice about investment strategies, and in this chapter I will borrow from a few of them. Developing an investment strategy is the first half of our task. The other half is adapting that strategy for a treacherous world.
The starting point for all investors is determining their goals. The Anatomy of Investing lists four broad categories of needs:
•Basic (meeting needs for food, clothing, shelter, medical, and other basic necessities)
•Lifestyle (which Dean Junkans defines as “maintaining a satisfactory or specific lifestyle throughout your life”)
•Philanthropy (defined by Junkans as “supporting causes or charities that you are passionate about”)
•Legacy (which Junkans defines as “making significant bequests during or after your lifetime”)
Then we must consider how financial terrorism would affect each of these goals. An attack on the dollar as reserve currency would affect your ability to meet basic needs and would certainly change your lifestyle. But the damage would not stop there. If the dollar lost half its purchasing power, any hopes for philanthropy or legacy would be destroyed. Imagine what it must have been like in Zimbabwe when its dollar collapsed. Or Greece, where the turmoil caused by economic dislocations has shattered the dreams of investors. But those who accounted for the possibility of such destruction were protected.
You need, therefore, a fifth goal—economic security—that you pursue in connection with each of the other four.
In her highly regarded investment book for women, On My Own Two Feet: A Modern Girl’s Guide to Personal Finance, Manisha Thakor, CFA, boils the goals of investing down to two: “The first reason you should invest is to combat the corrosive effects of inflation. Inflation is corrosive because it eats up the value of your money. . . . The second reason to invest is that if you do it right, you’ll have the opportunity to actually grow your money faster than the rate of inflation.”
Unless you are very wealthy to begin with, you need to invest if you want to be able to meet your own needs and the needs of those you care about. And if you address the threat of inflation, you will address much of the risk of economic warfare. So whether you think about meeting a list of needs or simply realize that you need to grow your money, investing is an essential course.
Most investors are concerned about more than just themselves. Junkans identifies five kinds of beneficiaries, and I have added one (number four) to his list:
1.Yourself
2.Spouse or partner
3.Children or other heirs
4.Neighbors and community
5.Society
6.Government
Junkans then identifies five concerns (what he calls “parameters”) for your portfolio:
1.Return
2.Risk
3.Liquidity
4.Cash flow
5.Tax efficiency
According to Junkans, “Once you have determined your needs, goals, beneficiaries, and parameters, then it is time to determine how you can set up portfolios to meet those needs.”
This is a desirable starting point, but that is all it is—a starting point. Early in my career, I was able to work with Bob Duggan, a self-taught investor from Santa Barbara, California. Bob shared with me that “Success equals Observation plus Action plus Responsibility.” He abbreviates his formula S=O+A+R and says that to win in life, you have to learn to SOAR. Bob Duggan has gone on to become a billionaire and was recently added to the Forbes list of richest Americans.8
The Dean Junkans lists provide the framework for an investment policy statement. At the same time, they meet the criteria to SOAR.
The Secret of Success
To be successful you must observe your current circumstances. You have to know yourself and know where you are. For example, if you wanted to travel to New York but didn’t know your starting location, you couldn’t get there. If you thought you were starting in Miami but were actually in Seattle, following the directions to New York from Miami would really mess you up.
My grandfather was a great man. He served in the navy during World War II, ran a filling station after the war, and eventually became a rural mail carrier in Oklahoma. He was part Cherokee and deeply loved this country. Late in life he decided to take up flying with one of his friends. I remember his telling me how they would fly from Oklahoma to Kansas, but sometimes they got so lost that they had to land at the nearest airstrip. Too embarrassed to admit they were lost, they would look for a pay phone and consult the phonebook to find out where they were. The old joke is true—men hate to ask for directions. But before you get directions, you have to know where you are.
Observation is identifying your needs, your beneficiaries, and your circumstances. It is essential that you become aware of your personal risk tolerance (how well you might sleep at night if your investments are volatile) as well as the market environment (including what returns you can expect under what circumstances). You also have to know the time horizon of your needs (how long before you will need funds and for what) as well as the time horizon of possible investments (when they might provide returns and how liquid they might be when you need money). You also need to be aware of tax consequences and how those might change in the future.
The next step in Bob Duggan’s success formula is to take action. You should begin by formulating an investment policy statement based on your observations. This is the point at which most people turn to professional assistance. Here’s how to come up with an investment policy statement:9
1.Summarize your major financial goals, your feelings about risk, your expectations
2.Specify the purpose of certain investments and the rationale behind them
3.Outline general policies and procedures for managing the portfolio over the long term
4.Establish who calls the shots when picking investments
How do you know if you have a solid investment policy? Charles Ellis offers a five-part test:10
1.Is the policy carefully designed to meet your needs and objectives?
2.Is the policy written so clearly and explicitly that a competent stranger could manage the portfolio and conform to your intentions?
3.Would you have been able to sustain your commitment to your investment policies over the past fifty or sixty years—particularly over the past ten years—when conventional wisdom would have opposed them?
4.Would your investment manager have been able to remain faithful to the policy over the same periods, despite intense daily pressure?
5.Would the policy, if implemented, have achieved your objectives?
I would amend Ellis’s third and fourth questions to ask how your investment policy would have performed under the various threats of economic warfare we face. Those are more difficult questions to answer, but they are necessary. That’s why it is so important to have an advisor who understands the risks we will face in the years ahead and who is not wedded to the methods of the past.
Of course, it does no good to create a plan if you are unwilling to implement it. This also will require some assistance from pros who understand the risks involved. But you have to start, and the sooner the better. This is the “action” part of Duggan’s formula. Once you know where you are and where you’d like to go, you have to head in the right direction.
Now you’re ready to select investments if you want to build a portfolio on your own, or to select managers if you want professional help. Your investments need to meet the criteria of your investment plan and to be flexible enough to withstand a wide variety of threats. No portfolio will be perfect. But you
can do your best with the best available information. We’ve covered all the key options—stocks, bonds, precious metals, “guaranteed investments”—and a host of alternatives including hedge funds, energy, and even collectibles. Taking action means matching those choices with your needs in light of the global risks we are all now facing.
Responsibility
The final component of Duggan’s success formula—and it’s critical—is to take responsibility. Even if you have an advisor, you bear responsibility for your investments. Your portfolio will require course corrections, which will send you back to observation and then action. Charles Ellis put it this way: “Clients—not their portfolio managers—have the most important job in successful investment management. Clients’ central responsibilities are to decide on their long-term investment objectives and, with the expert advice of professional managers, determine a well-reasoned and realistic set of investment policies that can achieve the specified objectives of the client.”11
So who is responsible for what? If you follow the Ellis pathway, you are responsible for outlining your objectives and determining the policies. If you choose to hire a professional, you can gain assistance in setting the policies, but ultimately the buck stops with you. Once the policies are set, you will be responsible for making it all happen or having a pro do it for you.
But what happens in a severe crisis? What do you do when there is massive deflation or hyperinflation or a currency collapse? To answer that question, we can turn to another of my mentors, Sir John Templeton.
John Templeton began his investment career in 1937. The world economy was in its eighth year of depression. Franklin Roosevelt was beginning his second term in office, threatening to “pack” the Supreme Court with justices who would uphold the New Deal. Japan invaded China. The Soviet Union began the “Great Purge,” which killed more than seven hundred thousand people in a year. Spain was embroiled in a murderous civil war. Neville Chamberlain became the prime minister of the United Kingdom. And Adolf Hitler continued to tighten his grip on the German state.12 It was hardly an auspicious time for a young man starting out, and the worst was yet to come. Yet each of the seven decades of Templeton’s career would be remarkably successful.