Boomers cashing out could crash stock market

Boomer Bucks by Barbara Whelehan • Bankrate.com
How far into the future can you see? And what will you do about that vision?

Some academics have extrapolated the known and have made some dire predictions about the stock market's movements and what it portends for baby boomers as they retire. They believe that stock market values could become severely depressed when boomers try to sell their assets and discover that no one's interested in buying them.

Jeremy Siegel, an otherwise mostly optimistic professor of finance at the Wharton School of the University of Pennsylvania, expresses concern about this phenomenon in his book "The Future for Investors."

"Looming in the future are changes more fundamental and long-lasting than all the crises that have confronted our economy in the past. ...The dramatic increase in the number of retirees and the pending sale of trillions of dollars of stocks and bonds threatens to crush asset prices and drown the baby boomers' hopes of a comfortable and lengthy retirement."

A trend that wasn't

In 1970, futurist Paul Ehrlich wrote of demographic trends that threatened to create "The Population Explosion." Remember? But that never materialized. Instead of rising, fertility rates declined in many countries. In the United States the birth rate fell from a high of 3.68 in 1957 to 2.1 today. The feminist movement can be partly blamed or credited for that reversal, as women entered the work force in droves, contributing more income to the household, but fewer babies.

But now, as retirement looms for millions of baby boomers, there's the threat that the stock market may sputter just as we attempt to enjoy the fruits of our labor.

Should we be alarmed?

Not at all, say those on Wall Street who remain unconvinced that demographic trends will have much impact on the markets. After all, they argue, the richest 10 percent of Americans own nearly 90 percent of the stock owned by individuals. They're not likely to be in a big hurry to sell their stakes, so any selling by other individuals won't likely make a huge difference.

But pension-fund managers are big investors in the stock market, with control of more than half of U.S. equities. They're investing for clients at all levels of the income spectrum. What will happen when it's time to liquidate these assets for retirees?

The global solution

Investors from such developing countries as China and India will step in to buy them, Siegel concludes after expounding for 50 pages on the severity of the problem and the solutions that would not work. "The next half century will see a massive exchange of goods for assets that will not only shift the center of the world economy eastward, but also negate the destructive impact of the age wave on asset prices and retirement opportunities," he says. "I call this the global solution."

Of course, this means the United States will have to cede its position as economic superpower and will have to be more open to capital flows from such places as China. So when a Chinese company tenders an offer to buy a U.S. company, our politicians can't go ape nuts and say absolutely not; forget it; not for all the tea in ... well, you know. This happened a few times in recent months, most notably the thwarted high-profile offer by Chinese company Cnooc for Unocal.

China and other foreign governments are big buyers of U.S. treasury securities. So, it's only a matter of time before China and other developing countries move assets into equities, Siegel believes. While he admits he doesn't know to what extent foreigners buy U.S. stocks right now, "my feeling is that value's increasing, and my projection is it will be increasing at a much more rapid rate in the future," he says.

Laurence Kotlikoff, professor of economics at Boston University and co-author of "The Coming Generational Storm," does not foresee a big sell-off of stocks when boomers retire. He sees other boomer-related demographic problems with serious fiscal implications that threaten to bankrupt the country, but a big sell-off of stocks at our retirement? Nah.

Because of the 18-year spread between the youngest and oldest boomers, the process of selling equities will take place over decades. "The demographics are occurring gradually, so you wouldn't expect anything to happen overnight," he says. His major concern is the effect of demographic imbalances on the big social programs.

America is going to look a lot like Florida, he says, as the age 65-plus population doubles, but the under-65 population rises by only 18 percent. In 1950, the ratio of workers to each Social Security beneficiary was 16.5-to-1. In 2000, it was 3.4-to-1. Between now and 2030, the ratio will fall to about 2-to-1. This demographic shift threatens the sustainability of the major social programs: Social Security, Medicare and Medicaid. Compared to these programs, the national debt is a mere sideshow.

Medicare is the largest unfunded liability -- roughly six times larger than that of Social Security.

America's political leadership, over the past several decades, has done little to address the problem and everything in its power to hide the ugly truth from the people.

The ugly truth can be calculated by subtracting projected future government expenditures from future government receipts in present-value terms, says Kotlikoff. Here's the ugly truth: We have a fiscal gap of $65.9 trillion, according to the most recent calculations by economists Jagadeesh Gokhale and Kent Smetters, who use the government's numbers to do the math. The way things stand now, the less populous, younger workforce -- our X, Y and Z generations -- will have to shoulder the burden of these social programs by paying onerously higher taxes unless a solution is put into place soon. In a recent article called "The New New Deal" in The New Republic (registration required), he and co-author Niall Ferguson present some pretty radical solutions to the problem, including the elimination of income and FICA taxes, but the implementation of a 33-percent sales tax.

Big bond sell-off, big crash

So what does this have to do with the stock market? Kotlikoff believes it's quite vulnerable to a crash. Here's how it could happen: The Chinese and Japanese governments, which are big buyers of U.S. debt, could suddenly wake up to our fiscal imbalance and decide not to show up at the next Treasury auction. They might figure that the only way the U.S. government can make good on its debt is by printing money, which of course would drive up inflation, which would lessen the value of their bonds.

"At that point, just from one minute to the next, they'll sell the bonds and that will depress bond prices and raise interest rates," says Kotlikoff. "And it could raise them dramatically. Now, if long-term rates were to rise from around 4 or 5 percent to 10 percent from one day to the next, the stock market would crash," he says.

But that won't happen, right?

"I think that will happen," he says adamantly. "I think that's much more likely than some big boomer sell-off."

Let's all hope he's wrong.