Worried About a Market Crash? Consider Buying 2008’s Winners

Source: Thinkstock

2008’s stock and commodity market meltdown destroyed a lot of fortunes, although it also taught us a lot of lessons. We know that while market crashes don’t happen too often, they are not uncommon. We have already seen two since the year 2000, and while they are difficult to time, it is fair to say that the stock market will probably crash again in the next few years.

Some signs to look for include:

  • Disparate economic data and stock market activity (e.g., a rising stock market versus a shrinking economy).
  • Weakness in economically sensitive stocks like industrials and financials versus relative strength by defensive large-cap names.
  • Too much leverage in the equity markets.
  • A generally bullish consensus among Wall Street analysts.

To a certain extent, these four things describe the current environment, although not only are they not predictive, but we live in unprecedented times, considering the Federal Reserve’s near-zero percent interest rate policy.

Nevertheless I would be a little cautious, and one strategy that I think is worth considering is to look at the assets that outperformed in 2008 for portfolio ideas.

Treasury bonds

Treasury bonds were huge winners in 2008, and the explanation is quite simple: Investors seek safety in U.S. bonds and in the U.S. dollar. Of course, the irony is that the supply of Treasury bonds saw an unprecedented rise as the government borrowed a massive amount of money in order to bail out Fannie Mae, Freddie Mac, AIG (NYSE:AIG), and to fund the Troubled Asset Relief Program (TARP). Nevertheless, the market didn’t care, and the attitude was to sell everything and buy Treasuries.

But the next time around I’m skeptical, and there are two reasons for this. The first is that the supply of Treasuries has skyrocketed over the past several years, and so has the size of America’s unfunded liabilities (i.e., what the government owes in Social Security and Medicare benefits that aren’t current liabilities). While this didn’t seem to matter in 2008, the next time around, investors may decide that the debt load has gotten out of hand, and we could see bond prices fall along with stocks.

The second is that international demand for Treasury bonds is shrinking. The Chinese have not been buying as many, and the Japanese have been too busy buying their own JGBs to buy Treasuries. The one major international buyer left is Saudi Arabia, which accepts dollars for oil, and which buys Treasuries with these dollars. But given rising demand for oil in Asia and declining demand in the West, and given America’s rising oil production, the Saudi-American oil trade is set to decline.

With this in mind, it seems that there are no major international buyers left for Treasuries. So while we might see an initial spike in the bond market when stocks begin to decline, I don’t think it will be sustained.

Spencer Platt/Getty Images

Wal-Mart (NYSE:WMT) and McDonald’s (NYSE:MCD)

Wal-Mart and McDonald’s actually rose in 2008. They fell during the few frightening weeks in September and October like everything else, but they fell less dramatically, and they immediately resumed their uptrends. Now shares in both companies are meaningfully higher than they were, but I think that we can look to these companies, and maybe some similar companies, to outperform in a market crash.

The reason that these companies’ stocks held up so well is that they have incredibly stable businesses that don’t have a lot of stock holders as their primary customers. Furthermore, purchases that customers of these establishments make are typically small, especially at McDonald’s. People won’t give up a Big Mac because the Dow is down 500 points that day.

In the current environment, I prefer Wal-Mart. While I’d rather wait to buy it in the $70 per share range, it is clearly finding support around $75 per share. It is also a cheaper stock on a price-to-earnings basis, and analyst sentiment is more negative, meaning that there are fewer investors left to sell. Finally, a large portion of the shares are held by the Walton Family Trust, and the company aggressively buys back stock, meaning that there are continuously fewer and fewer shares left to the public.

Source: Thinkstock

Gold

While gold fell during the summer of 2008 and into the deleveraging in September and October, gold ended the year higher by about 6 percent. Gold is a safe-haven asset. When investors don’t know what to do with their money, they put it into gold. But while gold was up only 6 percent in the 2008 crisis, as investors preferred Treasury bonds, I think gold will end up the winner in the next crisis.

As I mentioned above, I am skeptical that Treasuries can perform the same safe-haven role that they did in 2008. So if investors are selling stocks and bonds, I think that, aside from some money going into ultra-safe stocks, gold will be the beneficiary.

Disclosure: Ben Kramer-Miller owns gold coins and shares in select gold miners.

More From Wall St. Cheat Sheet: