Calculate Your Wealth Number
Bad economies are great times to become rich.
Since the stock market crash of 1987, the world’s economy has gone through two major boom-and-bust cycles. Each boom and each bust made my wife Kim and me stronger financially.
In fact, it was during a very bad recession in 1990 that Kim and I began our process of going from poor to rich.
My rich dad said, “there may or may not be this giant stock-market crash, but I can assure you that there will be booms and busts. There always have been booms and busts in the past, and there will always be booms and busts in the future.”
Today, the debate rages on: Can the Fed’s endless money printing keep financial markets cruising along to new highs, indefinitely?
Not if history has anything to say about it. We don’t know where the shock will come from, but there will always be busts…
To protect my wealth and grow it, I’ve followed the same formula since that period in the ‘90s. Our process has not changed, boom or bust. The only thing that changed is the number of zeros.
Today, I’ll share my five-point plan to profit during busts.
But before we get to that, let’s take a look at what the bust will look like…
Things Fall Apart
One key to preparing is to understand the nature of market booms and busts. This can be done by understanding history and then seeing the patterns of history in play in our world today.
In one of the most influential books on the subject, Can It Happen Again, Nobel Laureate Hyman Minsky described the seven stages of a financial bubble:
Stage 1: A financial shock wave
A crisis begins when a financial disturbance alters the current economic status quo. It could be a war, low-interest rates, or new technology, as was the case in the dot-com boom.
Stage 2: Acceleration
Not all financial shocks turn into booms. What’s required is fuel to get the fire going. After 9/11, I believe the fuel in the real estate market was a panic as the stock market crashed and interest rates fell. Billions of dollars flooded into the system from banks and the stock market, and the biggest real estate boom in history took place.
Stage 3: Euphoria
We have all missed booms. A wise investor knows to wait for the next boom, rather than jump in if they’ve missed the current one. But when acceleration turns to euphoria, the greater fools rush in.
During this euphoric period, amateurs believed they were real-estate geniuses. They would tell anyone who would listen about how much money they had made and how smart they were.
And then it all falls apart…
Stage 4: Financial distress
Insiders sell to outsiders. The greater fools are now streaming into the trap. The last fools are the ones who stood on the sidelines for years, watching the prices go up, terrified of jumping in. Finally, the euphoria and stories of friends and neighbors making a killing in the market get to them. The latecomers, skeptics, amateurs, and the timid are finally overcome by greed and rush into the trap, cash in hand.
Stage 5: The market reverses, and the boom turns into a bust
The amateurs begin to realize that prices don’t always go up. They may notice that the professionals have sold and are no longer buying. Buyers turn into sellers, and prices drop, causing banks to tighten up.
Minsky refers to this period as “discredit.” My rich dad said, “This is when God reminds you that you’re not as smart as you thought you were.”
Stage 6: The panic
Amateurs now hate their assets. They start to dump it as prices fall and banks stop lending. The panic accelerates. The boom is now officially a bust. At this time, controls might be installed to slow the fall, as is often the case with the stock market. If the tumble continues, people begin looking for a lender of last resort to save us all like the Federal Reserve.
The good news is that at this stage, the professional investors wake up from their slumber and get excited again. They’re like a hibernating bear waking after a long sleep and finding a row of garbage cans, filled with expensive food and champagne from the party the night before, positioned right outside their den.
Stage 7: The White Knight rides in
Occasionally, the bust really explodes, and the government must step in — as it did after the 2008 crash, buying shares in companies like GM and bailing out large Wall Street banks that leveraged themselves too far.
Today, you should ask yourself what stage you think we’re in as the stock market is at an all-time high.
The Rich Dad five-point plan to profit during stock market corrections
The first step to success in any market is obvious enough, but too often ignored. Know what your money is invested in.
If you don’t plan on investing in financial education, then, by all means, keep your money in your 401(k) and let it sit there. It’s safer than moving money without the knowledge of how or why.
But if you want to be prepared to make money in any market, you need to understand how to make that money work for you.
#1 Know your position
The sad reality is that most people don’t even know what their retirement money is invested in. The money gets pulled out of a check, goes to a magical place called a managed investment account, and is moved around by a wizard called a financial manager.
#2 Know how you’ll perform
Once you understand what your money is invested in, you need to understand how those investments will perform in a given market. For instance, if interest rates are hiked substantially, as the Fed seems to be prepping for, there is a good chance that stocks and bonds will fall — and these make up most investors’ retirement accounts.
In such a market, it may be time to invest in real estate before interest rates go higher.
#3 Get educated
This means that you can’t just take advice about the market, you have to educate yourself so you can see what’s coming and have time to prepare.
#4 Slowly pare back your risk
With the proper education, you can see better where the markets are going, how your current asset mix will perform in the coming markets, and how much risk you have. This allows you to make the proper adjustments to minimize your risk and take positions that will perform well whether the market is going up or down. And it leads us to the final point.
#5 Buy in pairs
Professional investors always buy in pairs. One position is for growth, and the other is for protection. So for instance, if you’re heavily invested in the stock market and paper assets, you want to take an insurance stake in precious metals or commodities. If you buy real estate, you want to also buy insurance for that real estate.
Play it smart,
Editor, Rich Dad Poor Dad Daily