Too Big To Fail is one of the best books that I’ve read on the subject of the financial crash of 2007–2008. At least from a Wall Street perspective, anyway. And I speak as something of a junkie of the genre.
Based on five hundred hours of interviews with two hundred individuals who participated directly in the events that it describes, it’s real fly-on-the-wall stuff. Riveting, and – once-begun – difficult to put down. In the years since the crash, I’ve read it several times.
And not surprisingly, as banks teetered on the brink of collapse, and were either bailed out or went bust, investor confidence slumped and stock markets cratered. Reading Too Big To Fail, you can almost see the sea of red on the Bloomberg terminals.
But to me, one of the most telling statistics comes in the book’s epilogue, written over a year after the events of September 2008 that it describes.
The book closes with President Bush signing into law the Troubled Assets Relief Programme – essentially, the piece of legislation that put a floor under America’s banks, preventing the implosion from continuing.
And what is startling is that even then, some fifteen months into the crisis, the epilogue points out that stock markets had much, much further to fall. The Dow Jones, in fact, was to fall a further 37% from that point.
The same thing happened here, of course.
The FTSE 100’s high point before the crisis was on 15 June 2007, when it closed at 6,732, just before jitters around investment bank Bear Stearns began to surface a week later. But the FTSE 100 wasn’t to reach its low point until 3 March 2009, when it closed at 3,512.
From peak to trough, that’s almost 20 months. Glacial, or what?
Contrast that with the events of little over a year ago. On 17 January 2020, the FTSE 100 closed at 7,674. We didn’t know it then, but that was to be its high point for the entire year.
By 23 March 2020, it closed at 4,993. And while we didn’t know it then, that was to be its low point for the entire year.
Now, the two events – the financial crash of 2007–2008, and a global pandemic – are completely different, of course.
In the first, money is lost. In the second, lives are lost.
Even so, investors should give serious thought to the speed at which markets reacted. In contrast to the financial crash and ensuing recession, markets declined at precipitous speed, going from peak to trough in a matter of weeks.
And it wasn’t just the markets that reacted at speed.
Investors – especially income investors – need to also look carefully at how individual companies reacted. Because as the extent of the forthcoming lockdown became clear, companies remembered all too clearly the tight credit markets of a decade earlier.
With business put on hold for weeks – or months – companies realised that they had a new and compelling priority: cash flow.
In short, cash conservation became king. And one very easy way to conserve cash was to either slash dividend payouts, or just stop paying dividends altogether. That said, I’m still puzzled as to why some companies did it, when seemingly almost unaffected by the pandemic.
Link Asset Services’ dividend monitor for 2020 starkly shows the extent of the cuts. 2020 dividends fell 44.0%, with two-thirds of companies cancelling or cut their dividends between the second and fourth quarters. Overall, Link reckons that dividends totalling £39.5bn didn’t get paid out.
What to do?
So what are the lessons of all this? There are several, I believe.
First, share prices can fall with breathtaking speed. Put another way, investors who are unwilling to incur losses are going to find themselves having become inadvertent ‘long-term buy and hold’ investors – even though that wasn’t their intention. So choose your investments wisely.
Second, companies have discovered a new source of cheap, short-term finance: you. In the event, cutting dividends proved relatively painless, and I fully expect that companies will move quickly to do it again, when adverse times re-occur.
Third, medium-sized companies were more likely to cut their dividends than large companies – roughly speaking, 50% more likely. If dividend income is important to you, have a bias towards the FTSE 100, rather than the FTSE 250.
And fourth, as you’d expect, the dividends of defensive businesses held up fairly well, with relatively few cuts. Healthcare, food retail, food production, and basic consumer products may be boring, but their dividends are more reliable. So again, if dividend income is important to you, these are the sort of companies in which it’s best to be overweight.
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