Be Ready for the Next Financial Crisis

This month marked the 10th anniversary of Lehman Brothers collapse. Many say that such a collapse will never happen again because regulators will simply not allow it. I predicted the fall of Lehman Brothers earlier in 2008 when I was a guest with Wolf Blitzer on CNN’s Larry King Live.

Let me refresh your memory the events leading to the largest bankruptcy filing in U.S. history:

“In 2008, Lehman faced an unprecedented loss due to the continuing subprime mortgage crisis. The loss was largely due to Lehman holding onto large positions in subprime and other lower-rated mortgage tranches when securitizing the underlying mortgages. Huge losses accrued in lower-rated mortgage-backed securities throughout 2008. In the second fiscal quarter, Lehman reported losses of $2.8 billion and decided to raise $6 billion in additional capital by offering new shares. In the first half of 2008 alone, Lehman stock lost 73% of its value as the credit market continued to tighten. In August 2008, Lehman reported that it intended to release 6% of its workforce, 1,500 people, just ahead of its third-quarter-reporting deadline in September.”

Investor confidence was eroding as Lehman’s stock lost roughly half its value and pushed the S&P 500 down 3.4% on September 9.  The Dow lost nearly 300 points the same day. On September 10, 2008, Lehman announced a loss of $3.9 billion and their intent to sell off a majority stake in their investment-management business. The stock slid 7% that day.

After talks with several companies to buy Lehman brothers fell through, the government summoned them to file for bankruptcy.

On September 15, 2008 the Lehman Brothers investment bank declared bankruptcy.

What might be the most surprising is that this firm survived some of the world’s largest disasters, including two world wars, the Great Depression, and a wide variety of other crises.

It was over-leveraging and sub-prime lending that finally took them down.

The Aftermath

When Lehman collapsed, it triggered a flood of widespread recession. Following September 15, there were an estimated 6 million jobs lost, unemployment rose to record highs, and the DOW dropped 5,000 points.

Panic spread that the U.S. was going into another Great Depression.

The ripple effects could be felt as far away in countries like Latvia, Hungary, and Lithuania.

For many people that event is etched into their memory and they can remember exactly where they were the day Lehman’s collapse almost triggered a financial meltdown.

Ultimately, trust in the financial system suffered the most.

Proof: Your House Is Not an Asset

When I wrote Rich Dad Poor Dad 1997, it was the first time I publicly stated, “Your house is not an asset.” People thought I was a lunatic out to sell a book.

In the years leading up to the Lehman collapse, the economy was artificially fueled by cheap money that made it easy for anyone who wanted a loan to get one, whether it be to buy a house for their residence, a car or money to expand a business.

Before the housing crash, many Americans treated the rising value of their homes and other investments as a substitute for savings. But the $14 trillion in household wealth destruction caused by plunging home prices and the worst stock swoon since the 1930s has wiped away that false sense of financial security for a generation of Americans. And rightly so.

The housing crash coupled with the largest bankruptcy in history was a rude awakening for many Americans and is exactly why I constantly reiterate: your house is not an asset.

The Roots of the Problem Are Alive, Well and Spreading

I can say with some certainty that a collapse the size if 2008 will happen again.

The economy is steadily moving along toward another financial crisis. Like the Lehman collapse starting in the housing market, the next crash will start in one corner of the economy and spread.

It’s not really hard to predict when a market might go bust. All markets boom and bust. It’s easier to predict a bust when you look at history. We only have to go back ten years to see that we are in a similar cycle. There’s high consumer confidence, easy access to money, and amateurs entering the market. A bullish stock market, a pumped-up housing market have all the makings of pre-Lehman times.

Crashes usually result from high debt and leverage. Increased risk taking with no financial education. Greed fueled by low volatility. Rising interest rates; lower corporate profits.

Debt levels are also higher than before. Global debt is at $237— some $70 trillion higher than before the Lehman Brothers collapsed, according to Financial Times.

A decade of near zero interest rates and ultra-low volatility has fueled speculation and risk-taking across the board.

Booms are harder to predict. They start silently, like oak acorns buried in the ground — you don’t notice them until they’re towering trees.

Busts are better because we can see them coming. It gives us time to prepare, and it makes it easier to capitalize on them.

The Sky Is Not Falling… You Can Be Prepared

I’m not giving you a “sky is falling” warning with this letter. I’m giving you a “get educated” warning. A crash the size of 2008 will be another transfer of wealth. You have the choice to be on the winning end—or to lose it all.

We will have another crash. Losing all of your hard-earned money is avoidable. You need to know how to spend your money on assets that retain their value, provide income, adjust for inflation, and go up in value—not down.

The rich understand that in today’s economy you cannot become wealthy by sticking your money under a mattress—or even worse, in a bank. They know that the key to wealth is investing in cash-flowing assets.

What I fear the most is just like people ignored me in 1997 and again in early 2008, I will be ignored the next time.

Regards,

Robert Kiyosaki

Robert Kiyosaki
Editor, Rich Dad Poor Dad Daily

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The Daily Reckoning