All eyes these days are on the war with Iran which has spilled over into states around the Persian Gulf, up into Iraq, and from Israel into Lebanon. It would serve the interests of investors to look at how today’s financial picture resembles that of 2008 going into the financial crisis. Will 2026 be a repeat of the 2008 financial crisis or a similar economic horror show?
Bloomberg reports that the managing director and chief investment strategist at Bank of America Merril Lynch Global Research, Michael Hartnett, warns about parallels between today and the market and financial picture in 2008 before the US and world economies nearly collapsed. Of concern today are the increasing risks in private credit and soaring oil prices. Back before the financial crisis it was subprime mortgages instead of private credit but crude oil doubled in price from July of 2007 to August of 2008. Today Brent Crude has gone up from $65 a barrel in the middle of February to more than $100 a barrel today. In addition, as noted by Hartnett, stock market price action resembles that of the immediate pre financial crisis era.
How Long Will the War with Iran Last?
Going into the combined US and Israeli attacks on Iran we were being told that it would be a short and decisive war knocking out Iran’s capabilities to build ballistic missiles, drones, and a nuclear bomb. Nevertheless, the conflict is dragging on and Iran appears to have a greater ability to endure attacks on their command and control and infrastructure than we had been led to believe. In fact, this war is an existential issue for those who have been in charge in Iran since the overthrow of the shah in 1979. Many are probably thinking of how when the US went after Sadam Hussein in the second gulf war he ended being executed by hanging along with his chief supporters. This time around in Iran the top hierarchy has been taken out by air strikes but the next lower echelon of leadership is likely still thinking that inflicting damage on anyone and everyone may be their best option for survival. Thus, we do not see a quick end to the war with Iran, reopening of the Strait of Hormuz, or a lower price of oil. Damage to Iranian oil facilities and those of Gulf of Persia neighbors may end up being significant enough to curtail supplies for some time after cessation of the conflict.
Why Is Private Credit a Problem?
In the aftermath of the financial crisis governments, especially the USA, forced banks to tighten up their lending practices. Thus many borrowers looked to private creditors for help when they needed money. The private credit market steadily grew over the last decade and a half to about $2 Trillion. One of the sectors heavily financed by private credit is the software industry, especially companies in artificial intelligence. As costs of AI development and operations risk so do private credit risks. Folks like Hartnett at Bank of America think the magnitude of risk may be close to that of the subprime mortgages that were at the root of the financial crisis.
How Should An Investor Deal With a Looming Second Financial Crisis?
The game plan for surviving a pending second financial crisis and Great Recession reads like the sort of intrinsic value investing and strategies for starting investing that we have written about for years. Start by paying down high interest debt. Rotate a substantial portion of your assets into cash of safe cash equivalents and diversify into defensive stocks that pay dividends and have been doing so for decades. These are the sorts of companies that do not suffer during a recession because people keep buying hand soap, detergent, and even beer. And should the Iran war drag on or widen in scope there are always defense stocks in a world where the US launches offensive and defensive missiles at a million dollars a pop.