End of the Gildered Age, II

“Over the next 12 to 18 months, investors will look back at current prices of the leading players [telecoms] and wish that they had bought stock at these prices.”

Jack Grubman’s State of the Union March 2001

“It’s ‘1985’ all over again!”

So declares the headline on a subscription offer from George Gilder’s Technology Report. “Buy the right technology stocks now and before long your skyrocketing profits will make you think it’s 1999 all over again,” writes Gilder. “Don’t let the ‘Chicken Littles’…keep you from a second chance to grow rich on today’s best technology!”

Unrepentant. Unreconstructed. Unbelievable.

Gilder reminds us that 1985 was not a great year for technology stocks. People thought tech was “dead.” But fearless investors who bought Intel and Microsoft over the next few years made a fortune. $20,000 invested in Microsoft, for example, would have turned into $3.6 million over the next 15 years.

People who think they need to x-ray each other’s shoes are ready to believe anything – even that the U.S. might be on the threshold of a great new boom.

Buy low, sell high. We remind ourselves and you, dear reader, of the traditional rule. George Gilder couldn’t get enough of Global Crossing when it was trading at 33 times sales and $60 per share. The man must be beside himself with joy today – now that he can buy as many shares as he wants for only 6 cents apiece.

Investors have lost 99.9% of their money already. Can they lose more? The shares are relatively cheap; an analyst would have to look carefully to find out whether or not they are absolutely cheap. After all, what is all that glass fiber really worth? Perhaps, when the debts are settled…Global Crossing might still be in business when it gets out of the bankruptcy courts.

Maybe the promise of the Information Revolution will come true at last. Suddenly, late at night when sensible men have taken to their beds and only techies, terrorists and teenagers are still awake, the world’s dark fibers will light up with data. Maybe then, the stock will rise to 7 cents.

We come back again to George Gilder today, dear reader, not to praise him, nor to bury him, but only to tease him. For Gilder seems like a decent sort, after all. He put his money where his mouth was…and lost it fair and square.

Besides, every revolution needs its intellectuals, its profiteers and its executioners. Gilder’s role was to justify the dreams of masses, helping persuade the lumpeninvestoriat that they could get rich buying stocks in technology they couldn’t possibly understand. For what was talk of gigabits of photons flying over glass fiber and multiplexing, pulsating cransits…other than the information age’s answer to Marxist claptrap about the class struggle, the proletariat, and dialectical materialism?

And who can blame Gilder – or Marx – for the excesses of their disciples, bowdlerizers and exploiters? Gilder was just thinking, after all. Who can fault a man for that? Here at the Daily Reckoning we rather admire it, not for its utility, of course, but for its rarity.

As in every revolution, the real mischief was done by the small cadre of cynical gun runners who followed in Gilder’s visionary footsteps.

Jack Grubman, for example, did what other Wall Streeters had always done – he found a way to make revolution pay off. In 1917, when the Bolsheviks needed money and ammunition, Wall Street sent over a team of 16 financiers (attached to a group of 15 Red Cross volunteers). Like Armand Hammer’s father, who provided the communists with “supplies”, at a profit, of course, Grubman hustled stocks to investors – ones that would later blow up. The traffic made Grubman a rich man; he earned as much as $20 million per year as Salomon Smith Barney’s telecom analyst. And unlike Gilder, he wasn’t dizzy enough to believe in the cause – he realized it was just a way to separate the fools from their money. Grubman didn’t buy telecom stocks – he sold them.

According to press reports, Grubman worked closely with Global Crossing’s chairman, Gary Winnick…perhaps advising him on his stock selections. “Winnick used to walk around the office saying he owned Jack Grubman…” said a former employee, quoted in FORTUNE. “Winnick and his cronies are arguably the biggest group of greedheads in an era of fabled excess,” continues the FORTUNE article.

Winnick, like Grubman, made money on Global Crossing – again, by selling the stock, not by buying it. When the telecoms blew up it cost investors $2.5 trillion in market value. But Winnick walked away with $730 million before the bomb detonated.

Poor Klaus “Patsy” Reinisch wasn’t so lucky. A refugee from WWII Europe, Mr. Reinisch retired from a New York city job and invested some of his $300,000 in savings in Global Crossing, following Mr. Grubman’s advice. Somehow, Mr. Grubman forgot to tell him when to sell.

Instead, almost exactly a year ago, Grubman wrote: “There are historic opportunities to buy world-class assets such as Global Crossing that are evolving into world-class operating businesses at compelling value.” On that day, Global Crossing shares sold for $7.68. But if they were compelling then, you’d think the shares would be absolutely irresistible today. Alas, after the company went bankrupt in January, Grubman…who owns a $6 million townhouse in Manhattan, with neither mortgage nor lien…simply “discontinued coverage” of the stock.

All of this may not mean much to Gilder. He’s still staring at the skies, thinking about gigabits, and scribbling away…while creditors pull up in front of his house and wonder how much they could get for it.

Is it 1985 all over again? Well, not likely. In 1985, it was “morning in America.” The Fed funds rate was near 8% – with plenty of room to come down – and the average P/E was near 15 – with plenty of room to go up. No matter how many gigabits Gilder thinks he can squish through a strand of glass, stocks will have a very hard time going up in the years ahead. Fed funds will find little room to go down.

Your correspondent,

Bill Bonner

June 21, 2002

A couple of things happened yesterday; Mr. Market didn’t seem to like either one.

First, the figures from April showed that the U.S. trade gap has reached a new record – $35.9 billion in a single month. Gradually, smart investors are becoming aware that the U.S. stock market – and its economy – depend upon foreign investors. If they ever stop buying our stocks, bonds and dead presidents – the whole republic is in big trouble. And, as Eric reports below, the kindness of these strangers is wearing a little thin. They’re beginning to think that they’ve got all the dead presidents they need. So, they’re trading the green Jeffersons, Jacksons, and Washingtons for funny-looking paper with pictures of Europe, cathedrals and other unfamiliar images.

Economists and investors now expect the dollar to fall. What might still surprise them, though, is how much and how fast. Not that we know anything…but Mr. Market likes surprises, especially those that come at investors’ expense. Yesterday, the greenback hit a 2- year low against the euro.

Then came more poll results, which don’t really mean anything but spook investors anyway. Seems the guy on the street is beginning to wonder. Consumer confidence is at a 9-mo. low, say the pollsters. Investors Business Daily’s index of leading mutual funds is down nearly 15% so far this year. It is now Year III of the bear market and ordinary investors are beginning to have some questions. How long will this go on? Who is responsible for this? If the economy is recovering, why are stocks going down? If buying and holding is such a smart idea, why is the “smart money” – the insiders and the real pros – selling?

And so….Stage II of the Great Bear Market of ’00 -? continues…

Eric, what’s the latest?


Eric Fry, reporting from Wall Street:

– Mr. Market has become an “Eeyore.” Like the despondent donkey from Winnie the Pooh, he skulks through each day moaning, “When it’s daytime, I’m sad. When it’s nighttime I’m sad. But nothing that happens makes me sad. I’m too busy being sad to be affected.”

– Mr. Market is just not the kind of guy you’d want to hang out with…He’s a “downer.” And yesterday was no exception. The Dow slumped 129 points, depressing it to 9,431, while the Nasdaq dropped more than 2% to 1,464. The dollar slipped as well, falling to a new two-year low against the euro. Gold responded to the sliding stock market and sliding dollar by jumping $3.40 to $323.70 an ounce. The Amex Gold Bugs Index soared 5.4%. For the bears, it doesn’t get any better than this!…Or does it?

– Neither the stock market nor the dollar can seem to find their footing. Rather, they stumble through each trading day like a couple of drunks heading home after the bars close.

– Not surprisingly, therefore, foreigners are starting to back away from US financial assets. According to the Treasury Department, foreign investors purchased a net $17.6 billion of US stocks in the first three months of the year. That’s down a whopping 58% from the $41.7 billion they purchased in the same period the year before. We should not be too surprised if foreign investors have become net SELLERS in the current quarter.

– Worse still, the dollar labors under the weight of a massive current account deficit – a deficit that grows ever-larger. The government announced yesterday that the deficit soared to a record $112.5 billion in the first quarter of the year. That’s up from $95.1 billion in the first quarter of 2001.

– “While the consensus expects a strong dollar again next year, we see it falling over time to new all-time lows against the major currencies,” says Dr. Kurt Richebacher. To emphasize the dollar’s vulnerability, he compares the current state of America’s national finances to those prevailing in 1985, when the dollar last suffered a major bear market.

“The biggest difference between the mid-1980s and early 2000 is, by far, the international investment position of the United States,” he says. “In 1985, the international investment position of United States went into negative territory for the first time. Foreign- owned assets in the United States of $1.061 trillion compared with U.S.-owned assets abroad of $949 billion, for a net negative of $111 billion.

“At year-and 2000, the market value of foreign holdings amounted to almost 10 times the amount of 1985: $9.377 trillion, versus U.S.-owned assets abroad of $7.189 trillion, resulting in net foreign indebtedness of $2.187 trillion…Net foreign indebtedness is rapidly approaching $3 trillion.

“These figures…provide some idea of the fantastic magnitude of the forces that may come into operation once the dollar’s invincibility comes into question.

“Huge capital inflows have become the U.S. financial markets’ single most important pillar. Take this pillar away, and those markets will instantly collapse with devastating effects for the U.S. economy, turning quickly into a savage credit crunch.”

– David Tice is also a card-carrying member of the Dollar Bears Club. The U.S. stock market’s booming performance in the ’90s was wind-aided, says Tice, and one of the most powerful tailwinds was the increased foreign buying of U.S. financial assets. “Throughout the ’90s, non-U.S. investors were increasingly aggressive buyers of U.S. securities,” Tice explains, “helping to drive U.S. stocks higher during the bubble, and keeping them from falling further since…

“Foreign net purchases of U.S. equities increased tenfold from 1991 to 2001,” Tice continues, “…[But] foreign investors bought more than stocks over the past decade…Foreign investors now own some 40% of the country’s marketable Treasury securities, compared to 90% in 1992…It’s a stretch to think that foreigners will bet as heavily on U.S. markets in the next five years as they did over the last five. Given the sheer size of those foreign inflows, it looks like yet another tailwind to U.S. stocks is changing directions.”

– “The wind blows where it wishes,” the gospel of John observes, “and you hear the sound of it, but do not know where it comes from and where it is going…”

– True, but that doesn’t mean we can’t keep a close eye on the weathercock.


Back in Paris….

*** Is the U.S. situation really like Japan’s – only 10 years later? Well, no…it could be much worse. The Japanese went on a spending binge in the ’80s, but they started from a very high savings rate. Even at their most spendthrift, Japanese savings rates never fell below 10%. Which meant that the Japanese were prepared for a long period of slow growth, bankruptcies, and recurring recession. They had a pad of cash to cushion the blow.

*** Americans on the other hand, spent every dollar that came into their hands. Savings rates were never very high in America. As in Japan, they fell about 10 percentage points during the boom years, but beginning at only about 10%…which took them down to zero. How will Americans cope with the low, slow, soft depression of the next decade? We will see, dear reader, we will see…

*** “If Congress doesn’t take action immediately [by raising the debt ceiling], the U.S. government will come to a halt,” says a hysterical message on the internet. Why would this be a bad thing, we can’t help but wonder…

*** We had dinner last night with old friends. Rick Rule is as knowledgeable as anyone about the gold market, so I wanted to know: what gives?

*** “People are making a lot of money…a lot of money,” said Rick. “The bear market in gold lasted so long it knocked out many of the players. So there just aren’t many people in the hard money marketplace. The few who are left are doing very well.”

*** Gold rose again yesterday – up $3.

*** “Hey, are you Americans,” asked our taxi driver? “Isn’t that crazy? The good teams were knocked out…and you Americans are still in it. But, heh heh, you’ve got to play Germany tomorrow.”

*** At the Hotel de Ville, near our office, the city has set up a huge TV so crowds can watch the soccer matches. The world championship games are going on now in Korea and Japan. France, the winner 4 years ago, figured Parisians would want to watch the home team win the Coupe du Monde again. But France was beaten in 3 games straight, without ever scoring a goal. Other front runners – Italy and Argentina – were also knocked out unexpectedly, leaving teams from the U.S. and Senegal in surprisingly good positions.

*** “Did you hear that President Bush called the American team?” asked a companion at dinner. “He said something like ‘Of course, no one over here really cares…least of all me…'”

*** “Good luck,” said the taxi driver as we got out of the cab, “you’ll need it.”