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October, 2008


During the 1987 stock market crash, the Dow fell 22% in a single day. Although it is down over 40% since its highest level, in October, 2007, that market index has so far not had this big a daily drop since that frightening day 21 years ago. And within a year or two after its seemingly cataclysmic 1987 fall, stocks had rallied well enough that investors who had kept their cool were not just back to where they were before, but making real profits on the bargains the plummeting market had created.

So now, the question is not whether we should be (or have been) in or out of the market. If one has already sustained major drops in principal, it is certainly too late to be completely out, safely instead in Treasuries or money market funds, CDs, and the like. To sell at this point would simply lock in those losses.

Rather, the issues might be whether or not the system as a whole is vulnerable to collapse and if that matters. Many smart financial types on both traditional sides of the U.S. political aisle have been warning for weeks now that we are indeed in a situation in which our entire financial system is vulnerable. They hope the measures already taken and in the offing by the current administration and Congress will prove to have been sufficient to forestall a collapse of our economy and of ways of handling and dealing with monetary exchange. Some may consider this hyperbole. I was one of them at first. But when even the savviest among our financial gurus are singing the same tune, it may behoove us to listen.

Still, if one accepts that most everything monetary may soon come crashing down around us due to excessive debt, lack of adequate liquidity or credit, the housing bubble collapse, "swaps," whatever those are, and derivative bets, on future outcomes of money fluctuations, that are leveraged against real money at the rate of 40 or more to one, deflation, the potential devaluation of the dollar, and/or hyper-inflation, or the unwillingness in future of third world countries, such as our Chinese Communist friends, to keep propping up our huge indebtedness (debt being lately our biggest export) with new investments in U.S. bonds, what possible meaning does that have in terms of an individual investor's plan of action?

Suppose we knew that our financial system were coming to an end on Friday, the 31st of October (fittingly on Halloween). Just what difference would that make, and what should we do now? Well, as to the first, it would make a mammoth difference, of course. We could likely no longer use credit cards to get gasoline or groceries or buy meals out or clothes or ... anything. The value of the dollar would probably plummet to pennies or less, and so it would be kind of hard even to get a loaf of bread with less than several score of them. We could not depend on our next paycheck, annuity payment, or Social Security deposit. Trading would probably cease on Wall Street. Most borrowing would cease on Main Street. Massive layoffs would begin to occur. Doctors would not be available except on a volunteer basis. And... on and on.

But what, then, should one DO? Well, the unsettling answer I have come up with is that, aside from stocking up the way people do before a hurricane, there is not a whole lot one can do that would be effective. Buy real estate or gold? How would one use that to pay for groceries after a system of exchange has collapsed?

So what we may be left with is that, in the event of such a systemic failure we are going to be dependent on a lot of other scared, confused people being relatively nice to one another till a new system is up and running. Perhaps the new one will look something like the old, except be less efficient or cost effective and have a lot more government involvement and regulation (be a lot more socialized).

Or perhaps something new will come along only after a period of social upheaval, martial law, etc. Either way, what I can do about it ahead of time is so limited and so unlikely to be exactly what will truly help sustain me (or me and any of my extended family and friends) through such a crisis as to be inconsequential. Well, there might be some things to do that would be effective, but one would not know what they would be in advance, just as she or he might not know precisely what strain of a severe virus to protect one's child against till it has already arrived on the scene.

My point, then, is that forces well beyond each of us individually will determine whether we make it through this crisis and how best later to deal with things if the system comes crumbling down. I personally doubt, now that Congress and the Administration are doing what they can to avoid a new Great Depression, that we are in for that kind of fate. But even if I am wrong about that, since I do not know what as a practical matter I can do about it beforehand, I may just as well assume all will be well and go on with my life.

And in THAT case, if the system is assumed to be alright or at least sound enough that it will be sustained by the measures now being taken, then the next question is what difference does it make that the market is now down over 40% from its highs? If I have a well allocated portfolio with little or no margin debt and do not have to use my nest egg right away - and if I did, I should not have been in the stock market in the first place - then the only significant difference, except perhaps to my ego and its ability to inflate itself further by pointing at a fat stash of equity goodies, as if to show how brilliant it was before the bear market showed how full of hubris that was, is that now there are oodles of great stock bargains available in the marketplace and, wonder of wonders, this is just the kind of time to gradually reallocate one's portfolio out of more stable bonds or reserves and into stocks or stock mutual funds.

Now you may say we should wait till we see if the market is going lower before buying any new stocks or stock funds. But the trouble with that is nobody knows just when we will reach the exact bottom. So, we might as well be approximately right than completely wrong. After all, the market mathematically cannot keep going down much further at the rate it has been over the past month or so, or it will be virtually at zero before Christmas. (Even in the last depression, stocks "only" lost about 90%. )

The biggest fear folks seem to have about getting into a falling market is that they will just be using up precious reserves putting good money after bad, and so getting nothing out of it but red ink. So I say: "Forget about the market price!" Do not think about it at all, except maybe for the limit at which to place a buy order.

Instead, buy and sell book value, a company's total assets less its liabilities divided by the number of its shares. If ready (with enough funds and time before one will have to have them back) to be investing, set yourself an annual goal to at least maintain or - better yet - increase the amount of book value you have.

First, find out the per share book value of each of your holdings, multiply by your number of shares held, and add them all up. That is your equity portfolio total book value. Say it is $25,000 now - or $1,000, $10,000, $100,000... whatever it is. Set yourself a target of 5%, 10%, or 12% or... (whatever is consistent with your situation) higher by a year from now. I find it easiest to calculate book value targets from the end of one year to end of the next. Set yourself a reasonable rate of compounded increase in book value, based on your or your family's income and expenses, and then just stick with that, regardless of what crazy gyrations the market is up to.

The great thing about a really aggressive bear market is that it creates all these marvelous book value bargains. If a good company has a price to book value of .8 or below, a well funded dividend, and some earnings, it is almost like found money! And if it is that low, it means it only takes $4 of your hard earned cash to buy $5 or more of book value. In some cases, one can even buy $2 worth of value for $1 of your cash. That hardly seems fair, but it is quite legal and will help immensely in one's goal of raising the total book value level by year's end. Thus, as times are getting hard for the stock market as a whole, they are making it easier and easier for you to attain your end of year book value target.

Since we retired, we have seen our book value go up every year, right through the last severe downturn in market prices, in 2002, and we are on track to do it again this year even though, in the first nearly ten months of 2008, we have lost 20% in the paper value of our holdings.

I sound like one of those late night infomercials, but it is true. One can just ignore the general market and go for something more objective, like book value. An especially neat thing is that, on average, once the market sorts itself out and slowly or swiftly starts to head up again, market prices (at least since World War II) tend to average about twice the per share book value. So, if your book value nest egg goes up $5000 by year's end, it could very well represent eventual gains of $10,000 in your portfolio.

Interested in some book value bargains available today? Here are several I like at the moment. There is no guarantee, but a portfolio of assets like these on average tend to do well for the patient investor.

CDI Corp.*CDI$13.350.798.440.013.90
IPC Holdings, Ltd.*IPCR$20.450.513.250.074.20
Ingersol-Rand Co., Ltd.*IR$20.570.611.810.553.50
Methode Electronics, Inc.*MEI$6.900.686.760.003.20
Presidential Life Corp.*PLFE$10.050.507.580.154.10
Platinum Underwriters Holdings, Ltd.*PTP$24.950.623.840.131.30

Happy investing! These are the kind of market conditions that historically have helped folks like Ben Graham, John Templeton, Warren Buffett, or Charlie Munger get rich.

(*Stats are effective before market trading on 10/20/08. As always, it is recommended that, in advance of purchasing any security, one do one's own due diligence research and/or consult a trusted financial advisor.)


Larry is not a professional. Don't take him seriously!

Actually, the investment article provided here is for general information only and should not be considered as professional advice, a solicitation to buy or sell any security, or the Word of God. Investors are encouraged to do their own research while considering their personal goals and circumstances, or consult their own professional financial advisors, before making investment decisions. Neither Larry nor LARVALBUG will be liable for any losses sustained by any visitor to this site.

(Disclosure statement: Larry and Val have holdings in some of the suggested assets but do not "make a market" in any of them and do not derive any direct benefit from recommending them, except perhaps for a bit of smug self-satisfaction.)

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