Hedging against Stinking Thinking

"It smells, feels and tastes like manure. Yep, it's definitely manure" ~ old joke

A colleague of mine once said that he hated stinking thinking, referring to the poor ideas generated during creative problem solving sessions. While I do agree with him, I think there is a worse kind of stinking thinking, ignoring facts and reality and proceeding in spite of them. Unless one has been living in a cave, there has been a lot of stinking thinking over the past 18 months. Here are some of the one's I consider most egregious:

Taxing the rich will raise the money needed to cover government spending. Of course, everybody seems to like the Robin Hood approach of taking from the rich and giving to the poor. While a great populist tax program, the reality is much different. The rich have ways to shelter money from taxes. For example, Senator John Kerry, one of the wealthiest Senators, has his wife's fortune invested in tax-free municipal bonds. While taxes are paid on his wage and royalty income, they legally pay zero taxes the millions received in bond interest.

Of course, anyone with a calculator can figure out that even a 100% tax, i.e. taking all their income, on the rich wouldn't not cover the spending deficit. Perhaps the government should try a proven personal finance technique, spending less than one collects, and living below one's means :-)

The situation of financial companies is improving. As I see it, the financial companies are in no different situation that they were in October 3, 2008. Back then, investors overestimated the problems and drove down the financial stocks and the stock market. Today, investors and underestimating the issues and driving up financial stocks and the stock market.

As far as I know, the banks still own virtually all the same toxic assets that they did in October, 2008. With the exception of investor psychology, the banks have been consistently in about the same poor condition for the past 8 months.

Government spending will reverse the economic decline. I believe that the current government spending will slow the decline, perhaps at a cost of higher inflation. Unfortunately, government spending is not a sustainable solution. It will require a true business recovery to turn the economy around.

To me the real solution is to return sufficient liquidity to the credit market, which will enable businesses to expand once again. Prior to that happening, I believe the economy will continue to experience the same malaise of the past 18 months.

Of course, I don't expect the government's course to change much in the near future. Thus, I believe the economy and the stock market will continue to be stagnant and choppy for the next few months. Eventually, I also expect inflation to come roaring back within a couple years. Based on this scenario, we sold off 20% of our stock investments last week, in anticipation of a market decline. In addition, we will start putting more funds into TIPS (Treasury Inflation Protected Securities) bonds as a hedge against inflation.

For more on Reflections and Musings, check back every Saturday for a new segment.

This is not financial or economic advice. Please consult a professional advisor.

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