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Our current financial crisis isn't just about stocks anymore.
But you'll find even more troubling behavior beyond the stock market. When officials like Hank Paulson and Ben Bernanke talk about the potential collapse of the financial system, they're talking about much more than just stocks. They're trying to keep problems from threatening every type of investment you can make.
Safe no more?
If the financial crisis were contained in the stock market, worries about systemic risk would be less extreme. As painful as it is for shareholders to watch their stocks plummet toward zero, everyone knows -- or should have known -- that taking on the risk of complete loss is the price you pay for the chance at high returns.
The problem, however, got a lot wider last week, when the bankruptcy of Lehman Brothers caused one money market fund to break the buck. Just as bank deposits weren't insured during the failures of the Great Depression, money market funds aren't insured against loss. Faced with the dire consequences that would result from a worldwide run on such funds, the U.S. government was left with little choice: It included provisions in its bailout package to provide insurance on money-market fund deposits similar to that offered for bank deposits.
Adding to the list
That challenge to a fundamental tenet of investing -- that you can always retreat to cash if you want to avoid risk entirely -- is just the latest in the onslaught against successful investing. Consider:
- As we approach the 10th anniversary of the last stages of the tech bubble, trailing 10-year returns for major indexes are almost certain to go negative in the next year. Already, many large stocks, including Pfizer (NYSE: PFE ) , Dell (Nasdaq: DELL ) , and International Paper (NYSE: IP ) , have lost at least 20% of their value since 1998.
- Despite seeing some gains recently, the U.S. dollar saw its biggest drop in seven years Monday, on fears that the Treasury's $700 billion bailout proposal will cause budget deficits to skyrocket and cause long-term inflation.
- With short-term rates still near historic lows -- Treasury bill yields actually went negative briefly last week -- income investors aren't earning much on their savings. Even worse, bond-fund investors could see big losses too if interest rates rise.
- Given the carnage on Wall Street, with the last surviving investment banks registering to become more regulated bank-holding companies, basic questions arise about whether companies will have to fundamentally change the way they raise capital.
It's enough to make you think the whole system may really be ready to collapse -- especially if investors don't find something that will at least let them protect their capital. Even those trying to protect themselves with gold and silver bullion have had trouble, as the U.S. Mint and other bullion coin retailers have had trouble keeping up with demand.
Investing isn't dead
Despite the turmoil in the financial markets, one thing is certain: The entrepreneurial spirit is still alive and strong. Even if traditional investment banking were to disappear entirely, companies would still find ways to raise capital, with innovations like the auction IPO Google (Nasdaq: GOOG ) used in 2004. If public stock exchanges like NYSE Euronext (NYSE: NYX ) stopped trading, private equity would likely prosper, by offering a conduit for wealthy investors to find excellent profit-making opportunities.
There's no doubt that Wall Street is going through a fundamental transformation. But those who believe that the end of capitalism is near underestimate the need for people to preserve wealth, both for their own good in the future as well as for the present needs of those who are important to them. As long as that need is there, investing will survive. And given how many times familiar investments like the stock market have gotten through the toughest troubles, there's every reason to believe that stocks will rise again.
For more on the financial crisis, read: