Dusting Off the 1997-98 Playbook as Worldwide Markets Tumble

If you’ve been investing in many markets outside the U.S., you’ve been experiencing a world of hurt. Martin chronicled some of the carnage a few days ago – and things have only gotten worse in the wake of China’s huge devaluation offensive.

If you’re wondering what happens next … especially here in the U.S. … you’re not alone. Me? I suggest you dust off the 1997-98 playbook. It’s not a 100% perfect analog to today’s unfolding crisis. But there are enough similarities now to what happened then that you should sit up and take notice.

There are enough similarities to what happened in 1997-98 to what is happening now to make investors sit up and take notice.

I don’t know if you were following the bond, stock and currency markets back then as closely as I was. But if not, here’s a more detailed refresher about the crisis, which I briefly touched upon a few days ago:

* Smaller Asian nations like Thailand and Indonesia got into trouble borrowing too much money from foreign creditors and spending like mad. Investors realized they were running up unsustainable deficits. So they started dumping their foreign stocks, bonds and currencies.

* The U.S. stock market also stumbled initially in the summer-fall of 1997. But that initial decline didn’t last long.

* Then, things got much worse. Over the course of 1998, the contagion selling spread to larger Asian nations like South Korea – and eventually to Russia. As more foreign markets collapsed, so did the highly leveraged, U.S.-based hedge fund Long-Term Capital Management.

Result: The Dow Industrials plunged almost 2,000 points, or more than 20%, in just a few months.

The only thing that stopped the carnage was the Federal Reserve. Then Fed-Chairman Alan Greenspan helped organize a multi-billion-dollar bailout of LTCM. He also cut interest rates three times between September and November, from 5.5% to 4.75%. Those moves helped re-ignite animal spirits in the market, and stocks raced higher into the 2000 peak.

But here’s the thing: That was when the U.S. economy was in fundamentally much stronger shape than it is now. That was when short-term interest rates were well above the 0% level they’re at today. That was when the U.S. had not yet suffered a huge financial crisis like the Great Recession … and therefore had much less debt and much more financial flexibility to intervene to stem the selling.

Today, it’s a whole different ballgame. So you could easily make a case that we’re in for more pain, and more longer-lasting pain, than we suffered in 1997-98.

That is why I’ve been so adamant about taking profits, cutting losses, and raising cash for the last couple of months. It’s also why I just sent out a critical Flash Alert to my Safe Money Report subscribers with fresh, extremely topical and timely guidance, as well as new actionable recommendations.

Also make sure you keep following Money and Markets – because things are really getting hairy out there. That means it’s not time to let complacency or inertia take over and crush your portfolio. We’re only 5% or so off the highs in the Dow Industrials, and the 1997-98 playbook suggests that could be just the beginning.

Until next time,

Mike Larson