| OF COURSE…I COULD BE WRONG THE DAILY RECKONING PARIS, FRANCE
FRIDAY, 29 OCTOBER 1999 * * * * * * * * * * * * * * * * * * * * * * * * * * * * * *
In Today's Daily Reckoning: *** Bulls have a good day…finally
*** Bezos…alas…has a bad day
*** Gold is up above $300 * * * * * * * * * * * * * * * * * * * * * * * * * * * * * * *** The head of Shamil Basayev is believed to be still on Mr. Basayev's
shoulders, despite the Russians' $1 million bid. *** The Dow and other indices rose sharply…indeed, the Dow hit the 50%
retracement level forecast by Bill King a few days ago. Does this mean the bear
market is over? Hmmm…see below… *** While almost everything on Wall Street went up, poor Jeff Bezos lost about
another $400 million as Amazon's stock fell on bad earnings news. My guess is
that investors are beginning to get weary of waiting for profits. *** Barnes & Noble.com is losing money, too…but not nearly as much. They lost a
little over $20 million in the last quarter. *** "Liquidity has fallen off a cliff," says State Street Bank. It's at a five-
year low. This helps explain the volatility of the markets…and sets the stage
for a decisive break to the downside…if our analysis is correct. *** Gold rose sharply, too…above the $300 level. It is still in bull mode. *** Y2K -- in Japan. Officials have advised citizens to stock a couple days of
food and water before Jan. 1. Officials there estimate that only half of medical
institutions are Y2K compliant. *** I knew this was coming. Remember Linux? It's the free operating system you
can get off the Internet. It's probably the most prominent post-capitalist
innovation in the business world. Meaning…investors had almost no role in
creating it. They cannot own it…or profit from it, directly. Now Intel has
chosen to use the Linux operating system instead of the Microsoft product,
Windows. *** The last Liberty Tree in America was scheduled to come down this week. It is
probably in a landfill by now. The thought crossed my mind as my lawyer warned me
that Wednesday's note about taxes could be interpreted as aiding tax evasion.
"Tread carefully," he said. I merely reported the truth -- and will repeat it: a
lot of people overseas don't bother to file tax returns, even though they are
required by law to do so. If this is encouraging tax evasion, then IRS is guilty,
too…because the facts come from the IRS itself. *** Europeans are much more ready to cheat on their taxes…and their governments
are much more civilized about it. Unlike the United States, they do not put you
in jail for tax evasion. They just levy penalties. But Americans…two centuries
after the right of free speech was declared an inviolable law of the land…live
in fear of the IRS and have to look over their shoulders and consult with
attorneys before writing what they believe to be the truth…We are all cowards
now. *** Porter Stansberry, mentioned here two days ago, tells me that he has no
intention of attacking me for my views on Amazon. Porter, by the way, is doing
quite well with his high tech/communications picks…Qualcomm up over 400%,
Uniphase up over 207%, Adobe up 150%. For information on Porter's newsleter, call
877-873-7441 and ask for code PSA99. *** I wondered what deal Al Gore had struck with Clinton when the first thing Al
said in the debate with Bradley was that he was disappointed by his boss's
behavior. Yesterday, Clinton was asked if Al had ever expressed any disapproval.
"No," was Clinton's response. *** Remember Sam Berry? He's the unknown candidate for president whom I mentioned
yesterday. Well, I noticed that he went to the same school at the same time as my
wife, Elizabeth. So I asked if she knew him. Turns out…he was her boyfriend.
Uh…well, small world. Hmmm…she could have married the guy…a Harvard
lawyer…good family man, probably…wealthy, no doubt…now a candidate for
president. I wondered if she had regrets.
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WHAT TO DO NOW
The economy that "couldn't get better"…just got better.
That's how today's papers are portraying the stunning news that the U.S. economy
is doing even better than expected. It is not just growing, it is growing at
"cyber-speed." That is how Merrill Lynch's chief economist put it. For the third quarter, GDP figures showed an annual growth rate of 4.8%. And
that's a real rate, adjusted for inflation. Inflation actually went down from 1.9
in the second quarter to 1.6% in the third. Even labor costs are rising less
steeply. They went up at an annual rate of 3.1% in the last 12 months…against
3.7% in the preceding 12 months. This is especially impressive, in that it
suggests increasing productivity, too. Relatively fewer people seem to be
producing relatively more goods and services. Naturally, stocks responded to the good news. So did the dollar, which rose
against both the yen and the euro.
Now we have to ask ourselves…could it be…that we're wrong? (You will notice
how I have dragged you into this, using the collective pronoun "we.") To make a long story short…no, I don't think so. And even if we are wrong about
the bear's intentions…we are still well-advised to give him plenty of room. Greenspan said this market was the result of an "extraordinary innovation." There are a number of extraordinary innovations about this market. One of the
most extraordinary is the way the numbers are massaged and manipulated. Dr.
Richebacher has pointed out that the switch to using "chained dollars" for
computer spending has added hundreds of billions to the GDP. Only trouble
is…it's a myth. Today's "Financial Times" reported yet another
innovation…treating software expenses as capital expenditures rather than
operating ones. While not entirely unjustified, it has the effect of magnifying
GDP figures. Take these innovations out of the calculations, and the GDP gets cut
in half. All of a sudden the greatest economy ever looks more like a rather
ordinary economy. And it depends heavily on continued exaggerated levels of consumer spending.
Americans spend like Faulkner drank. And they're on a binge. But they can't
continue to spend like this for long. Already, net savings are negative. Sooner
or later, people run out of money. They have to sober up.
This, by the way, is exactly what happened to 5% of households over the last five
years. They were forced to dry out in the bankruptcy courts. This figure is
particularly alarming when you consider that these were the five strongest years
in the country's financial history. Obviously, for every household that has had
to go on the bankruptcy wagon, there are many more that are close to it. Half of
U.S. households, according to today's "Financial Times," have less than $1,000 in
net financial assets. Half of them own no stock. Clinton says that this economy is "virtually unprecedented in our time." Perhaps,
not in Clinton's time…but America has seen similar economic miracles. In the
1920s, productivity really was increasing at a rapid clip…so fast that the
supply of goods and services rose faster than the supply of money. Thanks to the
advent of electric and internal-combustion motors, consumer price inflation was
negligible, despite huge increases in credit. But the increased credit did not go
unnoticed by the stock market. It began a spectacular rise in 1925…taking the
P/E on S&P stocks from its traditional 10 to a high of 16. (Now it's 35). As stock prices hit new highs, analysts, brokers, politicians and economists
began to find reasons why…and began to fantasize that the markets had reached a
"permanent plateau" of prosperity. Traditional P/E ratios no longer meant
anything, they said, because it was a new era. That kind of thinking was also applied to the Japanese stock market just 10 years
ago. In fact, Nomura Securities placed an ad in financial newspapers all over the
world in 1989 to explain that the concern over high prices of Japanese securities
was "outdated." The ad compared traditional P/E ratios to the Ptolemaic theory of
the solar system -- in which the sun revolved around the Earth -- and proclaimed
the new era in Japan to be the equivalent of Copernicus' discovery that the sun
was at the center. I would like to make some smart remark about Ptolemaic theory and stock
markets…but I can't think of one. Suffice it to say…the markets crashed.
Nomura Securities fell by 80%. And the world's financial fantasies shifted nearly
180 degrees of longitude from Tokyo to New York.
Looking at the market action itself, it is hard to escape the conclusion that we
are in a bear market now. And we've been in a bear market for a year and a half.
Already, the damage has been severe: ** The advance-decline ratio topped out on April 3, 1998…since then, most
stocks have gone down ** The Russell 2000 hit its high point on April 21, 1998 ** The Transports topped out May 12, 1999 ** Financial stocks topped the following day ** Utilities hit their last high on June 16 ** The S&P topped out on July 16 ** And the Dow itself hit a high on August 25 Trillions of dollars have been lost. Day after day, more stocks have hit new lows
than new highs. Even yesterday, with the Dow up 227 points, there were
nevertheless nearly twice as many stocks hitting new lows as new highs.
It is not surprising, given the grinding work the bear has done so far, that he
should be ready for an extended vacation. That is the most likely explanation for
yesterday's rise in prices. But despite all the damage…stocks are still at very high prices. There is a
huge amount of inflation on Wall Street. The six biggest cap stocks alone now are
worth $1.65 trillion …or more than 12 times what they were worth at the
beginning of 1995. What made them so much more valuable? The annual sales for the
group have only doubled.
It is possible that share prices will go up from here. But the "new era" is still
a fraud. Only profits, and the expectation of profits, make stocks valuable. And
the numbers do not support current valuations. P/E ratios still matter. So what do you do? Remember, the whole idea of investing is to buy low/sell high.
Even if we don't know exactly what the market will do, we do know that most of
today's stocks are expensive. Sell them now, on the rally. Buy cheap stocks,
bonds and gold in their place. Regards,
Bill Bonner
P.S. This is the last trading day in October. It is also the beginning of the All
Saints' vacation. The kids have a week off school. So we're off to the country.
This is good news for everyone…except Sophia, who hates to leave her friends in
Paris. Oh well…you can't please everyone.
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