Sunday, November 23, 2008

Your Average Middle Class Millionaire and Energy/Credit Crisis

I have been contemplating for several years how the energy/economic crisis would unfold and how it would affect myself and my contemporaries, friends, and extended family (I come from a huge family).  I received an email from an enlightened fellow who, in his email, proceeded to beat me about the head and shoulders for not having the courage (he used another word - "b--ls") to lay it out more clearly and stop my noncommittal commentary...

Fair enough.

Let me use as an example the life of a professional living in Boca Raton, Florida, mid forties, 2.1 kids, wife, dog, 3 leased cars, and 2 private school tuitions. He makes $400k per year,  his financial assets are worth is $2 million and he owns a small business/practice and a $750k house with a $400k mortgage.  He works 50 hours per week, commutes 7 hours, plays golf 3 hours per week, and has 12 minutes of sex twice a week.  (If you think housewive's are "desperate", they have NOTHING on these guys.  Ever see Chris Rock's act on being married?)

This pretty much sums up the lives of most of my contemporaries in Boca Raton, FL.  (Some have more money, some less... in the end they will ALL be in the same boat, just keep reading.) 

Along with the above assumptions, I need to make 1 more.  Oil imports into the U.S. continue to decline by 8%+  per year for the next 5 years, just as they have for 2008 from 2007 (see table 1).  Of course the credit crisis might interrupt this metric temporarily, but that is like having cancer cure your tuberculosis.

Given the above data set, it would be my best guess that U.S. GDP would decline in real terms by 3% + each year during the next 5 years.  Given that, what happens to the value of our typical professional's portfolio of assets?

First, the economic production available to him from his business/practice would contract... I would guess 50%, more or less (remember, a 20% economic contraction over 5 years would not contract evenly for the owners of the means of production).  Ergo his income will be cut in half if he is one of the lucky ones that is able to remain in business.  25% of the business/practices will fail.

The value of his home would decline to its utility value of shelter, all of the equity will have evaporated.  Any property tax/insurance liability above that would be just that - a liability that should be subtracted from his net worth. Some would argue this has already happened to house prices in South Florida.  The folks making this argument are probably Real Estate brokers.  

That leaves his financial assets.  Stocks, bonds, money markets and cash.  Care to take a guess as to the value of the stock market in my scenario? The markets would be trading similarly to privately held business, giving no value to potential future growth.  Say 3 to 4 times cash flow. If the entity's were self liquidating... some number less than that.  My best guess would be a Dow under 5000 and an S&P under 600, perhaps a great deal less.  Of course this is in REAL terms, nominally the number might be quite different depending on the extent of deflation/inflation.  (By the way, PRAY for inflation.  Ot it is all over but the gun shot.)

The value of the bonds?  That will depend on the value of the currency the bonds are denominated in, weather the bonds are sovereign (Treasury) or corporate, and the monetary environment (inflation, deflation).  Same with his cash.  Corporate bonds are better than the equity holders in this environment, but only marginally so, and in the end... not at at all.  They merely slow the rate of change.

What about his automobiles?  Cars are worth no more than the fuel supply.

So why would/should this middle aged/middle class millionaire ("MCM") continue to participate in this?  Clearly he shouldn't, but that does not mean he won't.  Denial, fear of ridicule, lack of vision, his wife, his kids, "deer in the headlightsism", etc... are all contributing factors keeping this guy to a grindstone that is doing no more for him than grinding his face off - with little to show except a couple hours of golf and a couple minutes of boring sex/marital bliss.

We are amusing creatures, aren't we?

The thing is, we DON'T know anything for sure.  But we have 1 year's worth of data.  If we get another data set in 2009 that continues to support this outcome I think it would mean that the probability is high enough to take "evasive maneuvers".

But what does that mean, exactly?

Should everybody move to a small farm and go Amish?  NAFC.  Well, I am not talking about everybody, I am talking about people with the MEANS to do something - if they were so inclined. But what should that something be?

Clearly, in a low Oil availability scenario, the "Best Possible Arrangement" ("BPA") shifts from where our MCM is now, to some where else.  Right now, it is hard to have it better than to live in sunny South Florida, in one of the most desirable locals.  Would that be the BPA if unemployment were 20% and gasoline was in very short supply?  I don't think so.  For example, in such an environment, if the AC unit at the MCM's McMansion were to break down, how long (IF it happens at all) would it take to repair/replace the unit (it is HOT down here). What is a South Florida McMansion without AC worth?  Is his McMansion walking/biking distance to his place of business? What about the grocery store?

It would seem that if our MCM KNEW FOR SURE that this outcome was a certainty that he would move to a home that was an efficient cost of resources versus what utility our MCM gained from the abode.  Shelter, ability to provision and maintain, egress, etc...

What about his business?  Take a look through history.  Ice houses when refridgeration came a long?  Buggy whips at the advent of the age of automobiles?  Does this describe you? (It certainly describes my business).  So our MCM must look at his income AND his assets coming under attack...

So perhaps a home in the downtown area of a small, walkable city center, located in a moderate clime.  Perhaps a business nearby that is an essential - food merchant, dentist, carpenter, maintenance & repair, etc... you get the idea...

Since our MCM lives in a hurricane vulnerable area ("HVA"), he really should, but NONE do, prepare for the direct hit of a major hurricane.  Anybody living in an HVA must accept the fact that at any given hurricane season they will have to put their key in the door, pack as much of their momentoes in the family car as they can, and never come back.  It has been 3 years since Hurricane Katrina - have you seen New Orleans?  And their was no shortage of diesel to fix New Orleans with.  New Orleans has less than 1/10 the population of Southeast Florida's Megatropolis.

Most importantly, our MCM must find a way to enjoy his LIFE.  Ask anyone who is STRUGGLING to make ends meet if they are enjoying this very beautiful day.  Not so much. The current actions being taken by our Federal officials this very moment have only ONE AGENDA - keeping people willingly in debt and making their payments.  They don't give a good hooty about keeping people in their homes.  Arranging one's life - home, business, family, etc... so that one might enjoy themselves without some of the self inflicted burdens we seem to enjoy strapping onto our backs.  This will absolutely REQUIRE the cooperation of the MCM's wife and family - but really his wife.  In a world where 85% of retail transactions are consummated by women it would seem likely that his wife is the critical element in this menagerie.  And if you think our MCM picked out the family home or had much say in its appointments, you are a politically correct goofball.  Remember, we are talking about my friends here in Boca Raton.  Hubby works, wife drives the kids around.  These are not dual income families.

In the final analysis:  If we knew for sure that U.S. Oil imports were going to decline 8%+ EVERY rational person would take action, given the means.  Since most people lack the means, this is much like triage in war.  Some don't need help with their minor problem.  Some cannot help themselves.  Others have the means, motivation, and intellect to do something, even if the something eventually proves to have been incorrect.

This is my vision of the future.  Perhaps not right away, or perhaps we are already in the 2nd year of the 5 year contractionary period I describe.

How you interpret your environment is your business, your liability, your asset.

Good Luck!

Mentatt (at) yahoo (d0t) com


1 comment:

bureaucrat said...

Nice long piece, so I'll keep mine short. Since the dawn of man, there have been people saying "the end is near", and because the end was not near, we all learned to reflexively ignore such people. Alternatives are found, new supply is discovered, and God will provide. Powerful motivators for inaction. A person has to come to the conclusion that: based on fact, something is gonna happen, it will hurt a lot of people, there is nothing I can do about it, and I'm gonna prepare and make $ the best I can. Pure survival. I have been chosen to "know", for whatever reason.