Jill Kerby

You and Your Money – June 2010

By Jill Kerby

WHEN BLACK SWANS ONLY OCCURRED IN NATURE... 

When my son was little, because we lived just across from the River Liffey and the Phoenix Park, we visited Dublin Zoo a lot. It was our own exotic playground and we each had our favourite animals that we had to see.   

Mine were the black swans. They reminded me of the first time I went to Swan Lake with my mother and sister and I saw Odile, the black swan and sorcerer’s daughter who is mistaken by Prince Siegfried to be Odette, the white swan that he falls in love after she is transformed by the moonlight into a woman.

In the days when the child and I played in the zoo, scouting out our favourite animals, black swans were just …rare swans.  No one had ever heard of ‘black swan events’ back then - those rare, improbable but calamitous events that the economist Nassim Nicholas Taleb first articulated in his 2007 book The Black Swan. 

The collapse of the global financial system back in 2008 is now considered to be ‘a black swan’ by the ‘light touch’ politicians and bankers who actually caused it, though of course many people like Taleb genuinely saw it coming.  No doubt the same naysayers will consider the collapse of Greece a black swan – something that was also utterly improbable. 

The collapse of the Greece was no such thing. It was just what happens to insolvent little countries – or companies, or individuals and families when they have no savings, wildly overspend, run out of income and cook their books.  Lenders, naturally enough in such circumstances, refuse to extend them any more credit.

The end of the euro may also be considered an improbable black swan, but who’s kidding whom?  The euro is just another trumped up, fiat currency, backed up by now by nothing more than the faith and promises of a collection of European countries, many of them as badly mismanaged and indebted as Greece.  The collapse of the euro was going to happen eventually, just as every paper currency, devalued by politicians, has eventually disappeared.  Genuine money is not just paper and promises…it is backed by an asset of value that is real, immutable, precious and rare…like gold.

But this isn’t a column about gold. It is about black swans.

 The Icelandic volcano, Eyjafjallajokull, is a black swan geological event. Most volcanoes in Iceland tend to produce a lot of lava and steam, not lava and 30 mile high columns of explosive rock and fine ash that can close European air space.

This angry black swan, which couldn’t be predicted and can’t be stopped, was certainly improbable given how seldom it goes off (in our time, not geological time). If it continues indefinitely it certainly will have a significant financial impact – just ask someone in the hotel or tourism industry here.

 But do ‘black swans’ of the Nassim Taleb kind, appear closer to home? Do they happen to individuals too?

Of course they do, and with just the same dramatic, sometimes catastrophic effect for the person concerned and their loved ones. 

This Great Recession is just part of the same Greece/euro event that many saw coming, but it has impacted on both the prudent, and the financially reckless.  Some people have quite rightly lost their businesses and livelihoods:  they made idiotic, unethical and sometimes downright criminal decisions that have now caught up with them.

But what about their innocent suppliers, employees or dependents, who had no hand, act or part of their recklessness?

Every financial advisor and insurance broker has a raft of black swan stories to tell.  Last week, one described a young couple he assisted to secure a large mortgage five years ago.  They had to buy mortgage protection as a condition of the loan but since they had no other kind of protection insurance, or even health cover, he recommended they buy some…just in case.

“Their attitude was pretty typical.  They said they were young…they were perfectly healthy…their jobs were secure.  She was French and said if anything ever happened she’d go home to France and its wonderful health and social welfare system.

 “Well, it was as if she was tempting fate.  Last autumn I got a call from the husband. His wife had had a baby a few months earlier but developed an allergic reaction to something and went into anaphylactic shock. By the time she got to hospital for treatment, the oxygen deprivation she suffered caused brain damage.  He was hoping – in desperation – that the mortgage protection policy they bought five years earlier included a financial benefit other than the life insurance.”

It didn’t, of course, and this man is now left to take care of his wife and child full-time. He had to quit his job but cannot keep up the repayments on their house, which he knew they were going to lose.

There’s very little that ordinary people can do to prepare for the appearance of a geological or climate related black swan, except perhaps to accept that we are mere specks on mother earth’s landscape.  That said, we can take some steps to protect ourselves against financial black swans – whether they perfectly match Mr Taleb’s definition or not.

Future asset bubbles, for example, can be identified and avoided if you just use some common sense:  the next time a share rises spectacularly on media or political hype (a la Eircom and most of the other dot.coms from back in the last 1990s) but has no profit stream or even customers, keep your money in your pocket. Ditto if the rise in house prices exceed your annual income.

And if someone comes along with a ‘sure thing’ investment or a horse in the 3.40 from Fairyhouse, get him to buy it or back it for you with no strings attached and an unwritten promise to pay him back after it “absolutely doubles in price” or comes in at 10 to one.

Keep in mind too that the only way to avoid losing a mortgaged home to a black swan – say, a catastrophic illness or death -  is to pay it off early or know someone who can on your behalf.  It’s called insurance.

No one with dependents (and an earned income) should be without top up life insurance, serious illness or income protection insurance in addition to the mandatory mortgage protection insurance that will at least clear the outstanding debt on their home.  We should all aim to have three to six months worth of income in a ring-fenced contingency account.

 Those personal black swans – in all their terrible beauty - will glide away and do little to no harm if you accept that, however improbable and unwelcome they are, they do exist.  

THE NEW NORMAL - GET USED TO IT 

“I guess this is the ‘new normal’,” said my friend as we had a €5.95 soup and sandwich lunch combo at the counter of a little deli in town. I know what she means, but I didn’t mind.  The soup was delicious. The sambo was not plastic ham and cheese.

We are still some way away from that proverbial light at the end of the economic tunnel, but there’s no turning back, and no return – in my lifetime at least – to the extravagant borrowing and spending of the 2001-2008 boom.  It just makes good sense to start adjusting to what we do have, and put behind what we’ve lost.

With 440,000 people still out of work, house prices and income tax revenue still falling, and not much sign of bank credit for SMEs, that is easier said than done, you might say; especially if you’ve lost your job, your business or have only taken a large cut in income. Tougher still, is if you also find yourself in property limbo – living with horrific negative equity or arrears on a property that you now lament buying back at the peak of the market in 2006.

Lamenting and coping are very different things, though and the longer that we deny the ‘new normal’, and instead hark back to the days of easy credit or even expect those days to return in the near future, the less coping and the more regretting we will do.

It’s a trap the Government fell into by not acting at least a year sooner to contain our spiralling deficit and address the fact that the nation’s income halved but spending didn’t. The EU has failed to recognise that reality as well: has a single penny been cut from monstrous EU Commission budgets or the cost of its octopus-like bureaucracy?

So long as the EU central planners persist in believing that the more they permit weak link members like Greece, Ireland, Portugal, Spain and Italy (GIPSI’s sounds better than PIIGS, don’t you think?) to allow their budget deficits to spiral completely out of control by bailing them out with below cost money, the weaker the euro will become. 

There’s nothing the international debt markets crave more than a steady diet of fresh road-kill, and Greece is the first dumb EU rabbit to get knocked down.  The ECB chiefs are kidding themselves if they think the bond dealers are unaware that unemployment continues to rise (or does not abate) in the eurozone; tax revenue continue to fall; the cost of servicing this debt is a multiple of annual growth (GDP) and the euro continues to weaken against an inherently weakened dollar.

If doesn’t take a genius to see that adding the burden of a €30 billion bail-out for a puny member state like Greece – with the other laggers hanging around waiting for their turn - is hardly going to strengthen the euro experiment. 

It looked at one stage as if the German Chancellor, the once formidable Angela Merkel was going to stand firm – but she didn’t - first against quantitative easing (effectively the printing of money) and now the Greek bail-out.  She knows very well - what German chancellor doesn’t - that “There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of the voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved”.*

But since the dye is now cast, and all the decision-making is being taken by politicians, central bankers and their paid creatures, the Keynesian economists, who persist in believing that they can correctly manipulate the economies of 15 to 25 individual countries and know better the individual financial aspirations and needs of the over half a billion real people who live in those countries, the bail-outs will continue, no matter the cost. 

The mind boggles – but that is our ‘new normal’.  Hey ho.  C’est la vie. Und aus! 

I think the €5.95 soup and sandwich offer is a good start.  What were we thinking putting €60 lunches on the credit card?  Or €800 handbags and €200 haircuts?  We were clearly out of our minds borrowing seven and eight times our gross salaries to buy way-out-of-the-way-starter-homes and rabbit hutch buy-to-lets (especially in Benidorm, Budapest and Bratislava). 

So a proper audit of what you have, what you need, what you don’t need, what you want and what you really, really want, is the way to move on. 

When I suggested recently to my friend that we do a ‘stuff’ audit, she thought that was a great idea.  We live near enough that this is going to be a ‘sort and skip’ project:  the stuff worth passing onto the charity shops gets sorted; the stuff that’s only fit for the dump gets skipped.

From there we intend to de-clutter the wardrobes, our bookcases, the shelves of CDs and DVDs and useless kitchen appliances, garden tools and redundant kids toys.

For anyone who has been hit by income and pension cutbacks and levies, an audit of the big-ticket stuff should also certainly be considered – of the cost of the mortgage and car and the family food bill.

The new normal means negotiating an affordable mortgage repayment schedule that your children hopefully won’t have to inherit along with the house.  It means driving one ordinary car or riding a bike and switching back and forth between energy suppliers for the best tariffs and the same for the mobile phones…for now. 

It means rediscovering the library and local park and taking Irish holidays (maybe even on Irish caravan-sites) with funny old relatives again, and telling your kids to get a part-time job to pay for all the stuff they’ve ‘gotta, ‘gotta have.  It means learning how to cook food instead of processing (or ordering) it.

It means learning to live below your means – perhaps for many years - while you clear the credit card bills and personal loans.

The ‘because I’m worth it, or because little Conor or Chloe is worth it’ spending was never a pretty sight; we got sucked into the high maintenance glamour routines and spa sessions, the must-have granite worktops and designer sun-glasses and the fee-based privatisation of our children’s play-time (aka private music, drama, sports, computer, language lessons) because we completely lost the run of ourselves and were able to fund it all with debt that the likes of Seanie Fitzpatrick, Michael Fingleton, Brian Goggin, Eugene Sheehy and the other bankers couldn’t wait to lend us. 

(Please dear God, let us also see the end soon of the cocktail dress wearing slappers who enter Ladies Day competitions at racetracks – the only place, incidentally, throughout Ireland’s bubble époque, that a day’s gambling – and losses – were never described as an “investment” or that your losses were someone else’s fault.)

 If these past two pretty awful years teach us anything, it is that the mountain of things we’ve accumulated – from the killer mortgages and ghost estates, to the closets full of clothes and electronic equipment - will also be the keys to our liberation when we pay them off …or write them off.