Hope For The Best, But Prepare For The Worst

September 30th, 2008

Reactions to the financial crisis has run the entire spectrum, from sheer panic to joy of a buying opportunity. It’s easy to categorize people as either optimists or pessimists, but as for myself, I think the distinction is a bit more nuanced.

It may seem from recent posts that I’m a pessimist, but I follow the old adage of “hope for the best, but prepare for the worst.” This is not a doom-and-gloom perspective - I don’t hope the financial world collapses into chaos and we all run for the hills, gold and shotguns in hand. Rather, I find it empowering to research the worst-case scenario, and comforting to be prepared so you’re ready for anything. And then when the “best” or even the “average” happens - you can appreciate it that much more.

A good analogy is the ever-present threat of an earthquake here in the Bay Area. It’s guaranteed to happen at some point. We’re all advised to be prepared for that disaster. Being prepared does not mean you want the earthquake to happen, nor is it pessimistic to get prepared. It’s just smart, common sense. Another good analogy is wearing a seatbelt any time you’re driving a car.

Here’s a recent Time article that lays out some possible effects on us average joe middle class Americans:

So here’s a blog post that caught my eye that lays out potential best and worst case scenarios of the credit crunch for the immediate future:

The best case scenario: The bad banks continue to be bought up, there is no run on hedge funds next Tuesday, only mid-sized European banks fail, money market funds keep on buying commercial paper, and the Fed and Treasury continue to operate on a case-by-case basis. Since Congress doesn’t have to vote for something called “a bailout,” it can give Paulson and Bernanke more operational freedom than they would have otherwise had. The American economy is in recession for two years and unemployment does not rise above eight or nine percent.

The worst case scenario: Credit markets freeze up within the next week and many businesses cannot meet their payrolls. Margin calls cannot be met and the NYSE shuts down for a week. Hardly anyone can get a mortgage so most home prices end up undefined rather than low. There is an emergency de facto nationalization of banks to keep the payments system moving. The Paulson plan is seen as a lost paradise. There is no one to buy up the busted hedge funds, so government and the taxpayer end up holding the bag. The quasi-nationalized banks are asked to serve political ends and it proves hard to recapitalize them in private hands. In the very worst case scenario, the Chinese bubble bursts too.

Just stop and think - what does this worst case scenario imply? Well, the biggest bugaboo is “many businesses cannot meet their payrolls.” How many of us live paycheck to paycheck, and what panic will ensue if people don’t get paid on time? And note that even the “best” scenario doesn’t look all that hot, what with a recession and rising unemployment. It’s within the realm of possibility I could be out of a job in a year. Hope for the best, but be prepared for the worst. And my personal solution is that old, conservative standby: 3 months’ worth of living expenses, minimum, in cash, at the ready - and ideally not at a bank that is about to go under.

But while we’ve put on the financial equivalent of a seat belt, here’s my form of optimism: Ultimately, I hope this crisis will be an impetus for Americans to take a long, hard look our personal finances and realize living paycheck to paycheck and slowly paying off high interest, personal debt is not a very smart way to go about things. We can move forward into a better world where we actually spend less than we earn and earn our American Dream - instead of financing it with monthly payments and passing the bill onto future generations. There’s nothing wrong, or pessimistic, of hoping for a future based on solid fundamentals instead of denial and debt. And based on the way things are going - the latter option will not even be an option for many.

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Viewing 6 Comments

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    Dude, you've said some damn sensible things in these posts and it does keep me thinking too. Even though I'm in the UK, the situation isn't too different and what goes down on your side of the pond will affect me. I like to think I'm safe, and I do actually have some very fortunate circumstances, but, given that normal people's (not just bankers) jobs could start to go, it could be time to take stock and consider how long I could last without employment.

    Time to prepare for the worst.
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    Glad someone is enjoying these brief diversions from Apple and movie
    reviews. I had a few months of ill timed unemployment at the tail end
    of the .com boom, which now I look back in retrospect as one of the
    best things that happened in our marriage, since it forced us to get
    on the financial straight and narrow. Definitely no financial expert,
    but we're doing okay.

    Oh, and a handy subscription to The Economist is recommended - you
    UKers have a better take on politics and global finance than any US
    magazine. They called the housing bubble quite a while back (2005) http://www.economist.com/displaystory.cfm?story...
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    One of my favorite definitions of wealth is the amount of time one can survive after the normal flow of income is cut off. Not assets, mind you, but income from your "job." Take away the paycheck, and how long could you last at your current lifestyle? The higher that number, the wealthier you are. The great thing about this definition is that it ignores how big your paycheck is. Someone making $40,000 a year could be wealthier than someone making $110,000. It all depends on the cost of living the way you choose to live.

    The truly wealthy can sustain their lifestyles indefinitely without any job at all. Their assets cover their monthly expenses, or more. Few of us ever get there, but there isn't a good reason for that. We just all chase the "dream" a little too much.

    Great insights into the current crisis. I have friends who think the world is coming apart. I have others who don't see how a few bankrupt Wall Street jerks effects them. You strike a nice balance in between.
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    there is a fundamental problem that is bigger the financial markets themselves - it is the behaviour of human beings - the levels of consumption and excess are going to be mankind's downfall - there is no bailout etc that can change that so it is just a matter or time before we go back to the dark ages etc
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    Really the head line " Hope For The Best, But Prepare For The Worst " is very nice .I think it true for any one how want to use shortcuts.
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    this is pessimism though and pessimism can attract negative enegery assuming you believe in the law of attraction
 

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