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AARP Bulletin

Lessons From the Recession

Millions lost their homes, savings and jobs in 2008 when the economy went into free fall. What have we learned?

foreclosure, lessons recession

Nearly a third of homeowners with mortgages were underwater. — Bruce Gilden/Magnum Photos

2. A house is primarily a place to live

If you saw yours as an ATM during the housing boom, you certainly weren't alone.

People with good credit scores opted to refinance with subprime loans in order to take more cash out of their houses than a conventional mortgage would permit. A lot of boomers also counted on their homes to pay for their kids' college.

True, subprime mortgages carried much higher interest rates — but not right away. Many had low "teaser" rates or required no initial payments at all. Borrowers figured they'd refinance again before the monthly payments skyrocketed, and might even eventually sell the house at a profit big enough to pay for their retirement.

This was a pipe dream. As the recession made painfully clear, you can't count on your home to be worth more than you paid for it when you're ready to sell.

"Even if their house sale does provide them with excess funds," says Elissa Buie, a Vienna, Va., financial planner, "they should not plan on those funds being enough to cover their living expenses, as there is no way to know that will happen." Besides, everyone needs somewhere to live, and most Americans don't downsize in retirement.

"The vast majority of people stay in their homes until their 80s," says Stuart Ritter, a certified financial planner at T. Rowe Price: "Your house is a place to live and a lifestyle choice. It's not an investment asset."

Wall Street, Lessons Recession

Wall Street firms and banks earned huge fees selling subprime loans. — Christopher Anderson/Magnum Photos

3. Stock prices can keep falling a very long time

This painful fact of life is all too easily forgotten. In a bull market, the smart investor's mantra is "buy on the dips" — that is, buy when prices fall because they won't stay down long. In bear markets, they do.

Between October 2007 and March 2009, stocks plunged 57 percent, down a seemingly bottomless hole. Twelve years of gains disappeared in 17 months.

The big challenge in such a market is resisting the overwhelming impulse to join the stampede for the exit. History has repeatedly shown that sitting tight is the key to successful stock market investing. If you sell, as many people did in 2008, you lock in your losses. That's a disaster — and the older you are, the less time you have to rebuild your savings.

A bear market is easier to endure if you know how much pain you're likely to face. As a rule of thumb, assume that your stocks and stock funds can drop 50 percent overnight and stay down for a very long time, advises Larry Elkin, a Scarsdale, N.Y., financial planner. (The average bear market since 1900 has lasted about 14 months, with an average decline of 31.5 percent.) If you can't stand to see your total savings fall by more than 25 percent, Elkin says, you should invest no more than 50 percent of your portfolio in stocks.

Next page: You can't avoid risk by avoiding the stock market. »

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