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Economy Has Much to Reveal

Warren Buffett famously said, “Only when the tide goes out do you discover who’s been swimming naked.” What the Oracle of Omaha meant was that when markets are booming, people who take unwise risks can still do OK. When conditions go south, those who invested or borrowed recklessly often find themselves exposed to financial trouble.

There remains a belief that controlled spending and borrowing reflect well on one’s character. But very often what comes off as a lack of prudence is really a lack of sophistication. Much of the public has difficulty assessing risk. That goes double during flush times.

The targeted audience often doesn’t read the fine print.

Despite expected Federal Reserve interest rate hikes, household debt in the U.S. is nearing a record $16 trillion. Those who use credit card debt to make ends meet or to keep up appearances are about to see most of their interest rates rise.

Change should be expected. Thus, there should have been little surprise that as interest rates headed upward, the share of subprime credit cards and personal loans that are at least 60 days late in payment would rise.

Subprime loans are designed for people with less-than-great credit scores, many of whom also have low incomes. Lenders demand higher interest for taking on the above-average risk that these borrowers won’t be able to keep up with payments.

Nowadays, even careful investors who had built up their savings when stock prices kept rising may have erred on the side of optimism. Some had allocated their entire portfolios to early retirement or down payments on a swank house. Their financial advisers now talk about panicky calls as the Dow swoons, as it’s done a lot lately. (Buffett advises investors who freak out during down markets to just stop looking at their portfolios.)

But some problems aren’t as bad as they seem. First off, the recent jump in defaults comes on top of the totally unexpected low number of delinquencies during the pandemic.

What happened? Stimulus checks helped many who were living on the edge to keep up payments or pay loans off. Meanwhile, the pandemic shutdowns saved them money for gas or meals out.

As Yogi Berra said, “It’s tough to make predictions, especially about the future.”

There remains good news in robust employment and growing wages. Lenders may ease standards at such times, figuring the borrowers can always get a second or third job. To the surprise of many, inflation has not slowed down consumer spending.

Buffett also said: It is wise for investors to be “fearful when others are greedy and greedy when others are fearful.”

Tides go out but also come back. Savers who kept their clothes on, even when lower interest rates tried to seduce them into heavy borrowing, may be best positioned to get back into the swim.

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