Wall Street is in the middle of a crisis that is spilling over into Main Street. The roots of the problem were laid many years ago. The answers are still coming out. The answers could cause more problems. We will not recover from this anytime soon.
Each individual has to think about what risks they are willing to incur and how to grow their own nest egg.
Let's start with the origin of the current financial problem. During the 90's Alan Greenspan started lowering interest rates. We had significant periods of very low interest rates. This lead to too many people buying houses. On the surface, nothing is wrong with that. Home ownership is a good thing. Many of these people would not have normally qualified for a loan. Since rates were so low, the lenders could still charge a premium and make decent money on the loan. Many of these loans were adjustable. So if interest rates went up, so would their payment.
A quick aside about housing starts. Housing starts are one of the single most important guides to the economic health of our country. An average house cost about $250,000. It takes about 6 months to build. People are spending several years' salary in a single purchase. There is labor in building it, appliances, wood, paint, tile, carpet and everything el. Once you buy it, you typically get some furniture for it. All of this is financed. With that financial package come the title company, loan processing and the loan itself. With each house, there are several times your incomes spent in a single period. Economic growth is measured but the total activity. A house contributes quite a bit to that.
So there were several years where housing was great and a lot of loan packages out there that were good packages as long as rates stayed low.
Throw in Wall Street starts making new markets based on mortgage-based derivatives. There are so many mortgage-based derivatives out there and each one is confusing. To oversimplify it, they created trading markets for sections of the loans and were trading them amongst each other. Essentially they were generating volume and commissions for themselves. This was not too different from Enron.
Eventually interest rates went up. All those sub-prime loans that were adjustable, their monthly payments went up. These loans were good when payments stayed the same, but now the monthly payment was going up by several hundred dollars. Guess what people started doing - not payment the mortgage.
Many banks, brokerage houses and other financial institutions were holding these and now the payments weren't coming in. The value of a loan from someone who cannot pay is not very good. Multiply that by several thousand.
Multiple things start happening all at the same time. Housing starts go down. Home prices stagnate or fall. Lending stops or slows because they have no money to lend because the loan payments are not coming in. All of these are bad.
What has happened it the Wall Street players who have the most assets in sub-prime mortgages are left without a seat when playing musical chairs.
On top of all this, add on increase in gas, and groceries.
Bear Stearns, Lehman Bros and Merrill Lynch have all failed and other companies were told to buy them or help them with guarantees by the government. The government just outright saved Fannie Mae and Freddie Mac.
This hurts Main Street because the credit market is gone for awhile. No new development anywhere or the construction jobs to build them. Small business lines-of-credit will get scarce. Small business that has financial institutions or construction companies as clients will have longer cash cycles. Once again, all of these are bad.
The biggest culprit in all this is Wall Street. The games they play to inflate trading volumes have been nothing more than Enron Part II. The trading they do is immensely complex. Sarbanes Oxley did not quite cover that.
So what is an individual supposed to do about it?
1) Do not stay away from Wall Street completely. There is nothing wrong with owning GE, Google, Ford or any other of the still solid companies out there. Just do not expect to get rich from them. They get brought down by the rest of the Wall Street gang.
2) If you want true financial independence, it is up to you to do something about it. You eventually need to find your own way to make money that does not rely on anyone else or any other company. This means starting your own business. It can be something on the side or full time. In our current climate, this will be your retirement.
The forces that affect our financial lives are out of the control of the individual. This means it is up to the individual to do something about it.