Tuesday, August 25, 2015
So, how does stock market volatility affect retirees? Look at yourself as a "company"
How much do stock prices really matter?
To a retiree living off of “rentier” wealth (not able to earn enough by labor or annuities or other benefits), it sounds like an important question when we have a volatile market.
One way to understand this is for me to imagine I am a company. I issue shares, on the theory that my books, blog posts, and future movies or music should make money. The “par value” for the shares would be based on my net worth (as equity) at a starting point, according to the accounting equation:
E = A – L
I would get cash (liquidity) from the event. Then shares of me could be traded in market, and would go up and down, increasing or decreasing market capitalization. If the price was low, and I was liquidated, I would have E left over. But if the price was too high, then I could go bankrupt (but would be protected by incorporation).
A small business site explains how this works for most small businesses in most states, here. When you incorporate, there is a record of how many shares you are allowed to issue (regulated by the state).
Another site that explains some of this is here.
A retiree typically is concerned about liquidity. A stock market (or bond market) decline is bad if the retiree suddenly needs cash (for uncovered medical bills, maybe for property taxes, legal problems, etc). The market value of his or her holdings may be undervalued according to the “accounting equation” for each company in his or her portfolio, but that does not help him get cash in the short run. Over the long run (dollar cost averaging), the market value of a company tends to average out closer to its real value.
Of course, since companies (or individuals acting like companies) own securities, these become assets to be computed into these holders’ own accounting equations, which are affected by stock prices.
What sounds strange right now is that stock values seem so dependent on the unreliable behavior of a large competitor and authoritarian, and even by name, Communist, country – China. Investors need to get over this preoccupation with a country that just fifty years ago, under Maoism, made peasants of almost everybody. But our dependence on importing their “cheap” dormitory-style labor is part of the moral problem.
As Donald Trump says, China is not your friend. Certainly not Wall Street’s.