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What Is A Economic Bust? – An Economic Apocalypse

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Introduction

 

 

You are all aware of the extreme lengths of what the stock market is capable of doing – take the experience of any survivor of the crash of 29′ for instance. You maybe even have parents, grandparents, or even great-grandparents, who have lived through the aftermath of the busted economy, otherwise known as the Great Depression. But has does this happen, what are the causes – effects? And what if I told you that there is a way to survive the worst case scenario with you and your portfolio intact. In this lesson, we will be answering the fundamental question: What is a economic bust? and show you ways that you can adapt to the changing economy and potentially profit from seemingly dire market conditions.

 

But before we begin, we would like you to read and agree to the Terms & Conditions of this post before you proceed any further.

Disclaimer: Invest In Wall Street is in no way financially or legally responsible for any investing decisions made by any of our readers and are, in turn, acting on their own free will. The information in this article is purely educational and should not be abused or misconstrued in any way, shape, or form.

 

What Is A Economic Bust?

 

The economy often experiences ups and downs. Dramatic upswings are known as booms and dramatic downswings are known as busts.

A boom is an economic expansion commonly accompanied by a bubble in a individual asset, like stocks or real estate. Eventually, the economy will suffer a downturn and the asset bubble will burst, causing the asset to lose value – this is a bust.

 

 

Let’s start by looking at the last century.

Between 1900 and 1920, several stock market busts occurred. During this time period, these downturns were called panics, because investor reactions often resulted in market sell offs and runs on banks.

After several panics and prevailing distrust of the market, the US government created the Federal Reserve in 1913 to try to smooth out the boom and bust cycle by regulating the economy.

By the 1920s, the US market was growing at a rapid rate, contributing to the era coined the Roaring ’20s.

However  in 1929, the stock market crashed and began one of the largest busts in US history, known as the Great Depression. Over the next three years, the stock market lost more than 80% of it’s value and unemployment rose above 30%.

 

 

As a result of this bust, the government continued to try to reduce the boom and bust cycle through the Federal Reserve’s monetary policy, and the US congress’ fiscal policy.

Despite these government entities’s best efforts, the boom and bust cycles have continued. There have been several minor busts in the ’50s, ’60s, and ’80s, and major busts in the ’70s and 2000s.

You can mitigate losses and maybe even profit from these booms and busts by maintaining a long term perspective, looking for opportunities during a bust, and maintaining a well diversified portfolio.

A long term perspective means keeping your long term goals in focus during short term busts. In other words, you should consider holding your investments during a downswing.

Holding a variety of investments for the long term is important, because it is so difficult to predict market movement. In fact, investors may find themselves exiting a position just before it starts going back up.

However, not all assets can be held after a bust, because government actions and regulations can make it difficult for an asset class to return to its original value.

For example, during the 2007 housing bubble, many investors held home building, banking, and real estate stocks. Some investors expected these stocks to quickly return to their previous values after the bust in 2008. However, new regulations were unclear on mortgage lending standards. This made banks worry about whom to loan money to.

 

 

 

Consequently, the housing market wasn’t able to recover quickly and related stocks weren’t able to recover as fast as the overall market.

 

 

Regulation and fear commonly slows an asset’s recovery, which is why it can be important to look for opportunities in other assets.

For example, after the dot.com bubble burst in the early 2000s, a new opportunity appeared in the housing market.

The Fed, along with a rush of investors going to safer saving vehicles, kept interest rates low and loosened lending regulations to help the housing market and the economy recover.

 

 

Some investors allocated funds into housing related stocks. Even though the housing market helped the economy recover from the bubble burst, it later led to a housing bubble that eventually burst.

Investors can possibly capitalize on booms and busts, but they must first understand that ANY asset class can experience a bust.

Investors should review their asset allocation on a regular basis and adjust if needed. This means you should check your portfolio at least quarterly with the current market conditions in mind.

For example, let’s say you’ve determined your ideal portfolio mix is 50% stocks, 25% bonds, 5% cash, 10% commodities, and 10% real estate. When reviewing your portfolio, you notice that real estate now makes up 15% of your holdings and you’d like to trim it back to 10% and redistribute the 5% to other asset classes in order to maintain your target allocation.

This way, you may still profit if the real estate market keeps going up.

However, if real estate experiences a bust, you may have fewer losses because a smaller portion of your portfolio is dedicated to that one asset class.

Investors who maintain a long term perspective, look for new opportunities, and maintain a diversified portfolio may have less to fear from boom and bust cycles.

 

Quick Recap

In Review….

Economic Busts

  • The economy often experiences ups and downs. Dramatic upswings are known as booms and dramatic downswings are known as busts
  • A boom is an economic expansion commonly accompanied by a bubble in an individual asset, like stocks or real estate. Eventually, the economy will suffer a downturn and the asset bubble will burst, causing the asset to lose value – this is a bust
  • You can mitigate losses and maybe even profit from these booms and busts by maintaining a long term perspective, looking for opportunities during a bust, and maintaining a well diversified portfolio
  • A long term perspective means keeping your long term goals in focus during short term busts. In other words, you should consider holding your investments during a downswing
  • Holding a variety of investments for the long term is important, because it is so difficult to predict market movement. In fact, investors may find themselves exiting a position just before it starts going back up
  • However, not all assets can be held after a bust, because government actions and regulations can make it difficult for an asset class to return to its original value
  • Regulation and fear commonly slows an asset’s recovery, which is why it can be important to look for opportunities in other assets
  • Investors can possibly capitalize on booms and busts, but they must first understand that ANY asset class can experience a bust
  • Investors should review their asset allocation on a regular basis and adjust if needed. This means you should check your portfolio at least quarterly with the current market conditions in mind
  • Investors who maintain a long term perspective, look for new opportunities, and maintain a diversified portfolio may have less to fear from boom and bust cycles

 

 

And that all for today’s lesson here on Invest In Wall Street. Today, we have covered a highly important and heavy topic – economic busts, their causes and effects, along with ways to help reduce your risk exposure if a post apocalyptic scenario were to happen to a particular sector in the stock market.

The biggest takeaway from this lesson that you should keep in mind is that any sector of the stock market could experience a boom and, on the flip side, a bust. Newton’s Third Law of Motion elegantly applies here:

“For Every Action There Is An Equal And Opposite Reaction”

– Sir Isaac Newton

 

The best way to handle economic busts is to have a well diversified portfolio allocated to a variety of asset classes. In this case, if one of your positions goes against you, the losses will be limited and you will have other positions to rely on to help mitigate your risk. 9 times out of 10, if you have a position that has been performing poorly lately, there is usually another sector you have either invested in (or are looking to invest in) that has been booming and can help restore your portfolio back to normal.

You should also know that if you are looking to invest in a position long term, it may be best to stick with it and see it through to the end because, there is the possibility that the market will correct itself in due time. However, there may be times when you may realize that it may be time to cut ties with a position that you have been holding either because you no longer view it as a profitable asset, there is no more growth, the position has not been able to fully recover from the burst, ect. Whatever the case may be – THE CHOICE IS UP TO YOU.

If you are unsure on whether you should buy, hold, or sell, there are a plethora of resources you can seek to give you financial advice and guidance of your overall portfolio health – namely any financial advisors or even your brokerage can help you with this – as they will match you with a team of experts ready to help resolve any concerns and issues you may have regarding you next financial move.

I hope you have enjoyed this post and found the information to be quite useful. If you have any questions or concerns, please feel free to leave them down in the comment thread below and make sure to like and share this post.

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