Playing The Game

One of the presents received by our children this year is a board game. Festooned with the flag, the game calls itself “America! A game about our great nation.” Edward, Henry, and his friend from across the road, Nathaniel, were spread out on the floor playing the Monopoly-like game yesterday.

“What’s the idea,” I asked Edward. “How do you win?”

“The one who makes the most money is the winner!” Edward replied.

Money, money, money. That is, of course, the subject of the Daily Reckoning. Day after day, the game goes on. Once your family has food, clothing, and shelter, money is merely a diversion, an entertainment – like a board game or a newspaper’s editorial page. For what difference does it really make if your wife carries a
bag from Louis Vuitton or one from K-Mart? Do they not render the same service?

Getting and spending may not make the world go round, but it gives it a good spin. And who are we to question it? Wanting more money is as natural as homemade hooch.

But sometimes people drink so deeply from the cup of financial ambition they nearly go blind and forget that it is just a game. During the great bubble of 1996-2000, for example, investors could not see that the stocks they were buying were worth only a fraction of the prices they paid. Nor could they make out the true dimensions of the debt they took on. Big debts looked small and loopy, spending seemed almost reasonable. “Last year,” reminisces an article in the Wall Street Journal, “the well-groomed bankers – inspiration for Bret Easton Ellis’ novel “American Psycho,” fed the city’s economy with their fat bonuses. They easily dropped $200,000 at Gucci on a Saturday shopping spree and test-drove new BMWs with serious buying intent. “It was the norm for a 28-year-old top associate at a bank
like Goldman Sachs or Salomon Brothers to earn a $90,000 salary, topped off with a $210,000 bonus.”

At the height of the bubble economy, dear reader, people played the money game as though it really   mattered. Money seemed to mean everything to people…even though they spent it as though it were nothing. It has been 2 years since the mania reached its zenith. Times have changed. All across the economy, people are rubbing their eyes and straining to see what the future holds. And almost everywhere, they see earnings melting away like snow in Miami. Stocks are down with the broadest measure, the Wilshire 5000 off 27% from its high. Wall Street bonuses are expected to average about 30% lower than last year. “This year,” continues the WSJ article, “the same associate will probably earn a total of $210,000, said banking sources. With bonuses slashed across the board, Wall Streeters have to – gasp – spend conservatively, especially in case the market doesn’t rebound swiftly.”

“Scrooge puts lid on pay raises in ’02,” says a headline from Southern California. First year associates at law firms are getting only half the bonus they got last year, reports the New York Times. Bonuses are extremely
important, explains the NYT, because young lawyers measure their success almost completely in terms of
money and jump from one firm to another in search of the highest salary. The law firms have to play the game, too, or they will lose their talented associates. And between the two coasts, the story is much the same. Even assembly-line workers in Elkhart, Indiana, are getting slimmed down bonuses and less overtime if they still have jobs at all. Never before in U.S. history have so many people depended so much on the performance of U.S. companies. Over the last 10 years, a sizeable portion of the workforce has moved towards incentive-based compensation plans. If the company does well, so do its employees. While profits and share prices were rising, the shipping clerks and marketing managers, as well as the CEOs, could anticipate an increase in earnings often in the form of a big bonus at year end. But this year, as perhaps never before, the bonuses are smaller. Most people will regret the decline in revenue.

But here at the Daily Reckoning, as usual, we take a contrary view. ‘Money isn’t everything,’ they say.
“Everything isn’t money,” we add, pointing out that financial gains most people thought they made in the
late’90s are turning out to be an illusion.

But what does it matter? The genius of America is not that it celebrates material success alone, but that it lets people worship whatever fool thing they want. Through the refracted bubble light of rapidly rising
equity prices in the late’90s, Americans could see only money. Falling incomes, we think, will help improve
their vision. In the first decade of the new century, we predict, they will take money less seriously and spend it more carefully.

Your correspondent…just playing the game like everybody else.

Bill Bonner
December 27, 2001

P.S. Never before has the U.S. economy reckoned with a big drop in income in the first quarter of the year. How will a consumer-driven economy rebound when the consumers have no bounce left in their incomes, or their savings? We don’t know, but we expect to find out early next year.

Stocks rose on the first trading day after Christmas. The biggest increase in the money supply ever…and the sharpest drop in interest rates ever…are having their effect. But not where they were supposed to in the
economy. Instead, they’ve merely suckered investors into putting more good money into badly mispriced stocks. The smart money, meanwhile, is moving away from stocks. Insider purchases fell 54% in 2001 from the year before the steepest drop in 15 years. Bill Gates led the sellers unloading $2.55 billion of Microsoft. “Insider buying tends to accelerate when the economic outlook and earnings outlook is positive,” said a market strategist quoted by Bloomberg. Exactly. Despite the billions of new money gushing into the bath, real earnings continue to sink beneath the bubbles.

Eric, tell us more:

*****

Eric Fry in New York…

– “See stocks run! Run stocks! Run!”

– The Dow sprinted ahead from the opening bell yesterday. By late afternoon the index had advanced 133
points to anew “post-terror” high.

– Stocks might have racked up even more sizable gains, were it not for fresh murmurings from that Ghost of Terrorists Past himself, Osama bin Laden. The videotaped images of the madman – as well as the formulaic
genocidal diatribe seemed real enough. Still, no one can say for sure whether the turbaned apparition is alive or dead.

– Either way, his unexpected reappearance spooked the market. By day’s end the Dow’s advance had shriveled to 53 points. The Nasdaq also finished well off its highs rising 16 points to 1,961.

– The early morning stock market rally seemed to spring from the notion that holiday retail sales were not
nearly as awful as feared. Bear in mind, however, that no one knows the true story yet. Nevertheless, investors seemed more than happy to assume that the decent retail sales report from Wal-Mart meant that sales were okay everywhere else.

– Yahoo also reported better-than-expected holiday sales gains, along with a few specialty retailers like
Tiffany, Coach and Bed Bath Beyond.

– But even as a few select retailers report respectable sales, many more are complaining of empty stores,
despite severe discounting.

– “The holiday shopping season…ended over the final weekend before Christmas with a frenzy of desperation sales with as much as 70 percent off,” the New York Times reports. “[But] rather than generatin lots of last-minute traffic, deep sales were the minimum and retailers had to offer discounts merely to attract the attention of jaded customers.” The Times continues, “The Gap’s downfall has been the most spectacular of the season, but mall-based specialty clothing stores were hit hard across the board as the cathedrals of consumption did not seem to draw the usual immense crowds on the last weekend before Christmas…”

– Still, things could be worse. Were it not for the mortgage-refinancing boom, there might be even fewer
bright lights like Wal-Mart flickering amidst retailing’s dark and forbidding firmament.

– To understand how consumer spending has managed to holdup as well as it has in the final months of 2001, one need look no further than the latest earnings report from Countrywide Credit. The mortgage lender’s net income soared 69% for the quarter ending November 30th, thanks to the “refinance boom.” Countrywide funded a whopping $42.3 billion worth of mortgages during the quarter or more than double the amount it funded during the same quarter last year.

– No doubt, some sliver of that $42.3 billion has found its way into the cash registers at Wal-Mart. And Countrywide is but one of the many lenders shoving billions of dollars into John Q. Public’s pocket. It is
great fun while it lasts.

– What’s this? Oil rallying? That’s no way to create a proper deflation! On the New York Mercantile Exchange,
crude for February delivery rose $1.65 to $21.27 or 8.6percent. Crude now sells at its highest level in six
weeks.- A recent observation from Moody’s John Lonski should be troubling to all investors who are busily
“bottom-fishing” in the stock market right now Corporate profits from current production have fallen to their lowest level since 1995, but the market value of U.S. common stock is now nearly double what it was in 1995. That’s right, same earnings, twice the price. Some deal.

– Lonski points out a few other curious characteristics of the terrific “buying opportunity” that now presents itself in the stock market. Corporate profit margins peaked in late 1997, and have been falling steadily ever
since. So has corporate credit-worthiness. Each and every quarter since early 1998 to the present, Moody’s has downgraded the credit ratings of more companies that it has upgraded.

– Sounds like the bottom-fishers have bought into the recovering economy story, hook-line-and-sinker.- And now, today’s Candide Award for contrived optimism goes to Wall Street Journal writer, Jeff B. Opdyke for observing, “While a stock-market decline is painful for everybody, younger people saving for retirement actually benefit because they can buy shares cheaper.”

– Gee, thanks Jeff. I never looked at it that way before.

*****

Back in rural France…where Bill is spending his Christmas vacation:

*** The Greatest Boom in history left people 65 and older with an average of $23,000 in debt times the amount they had 10 years ago. “In the space of a decade, older Americans have become more financially
vulnerable,” says Elizabeth Warren of Harvard Law School, stating the obvious.

*** Not only do they have more debt, they are also having a harder time paying it off. Part-time jobs are
becoming scarce. And income from savings is falling…Lower rates help people finance a new home,
but older people typically own their own home. For these people, lower rates are a losing proposition. CD’s now yield only 2.73% interest only half of what you could
get a year ago them.

*** I had tea with Bernard Vuitton (of the Louis Vuitton family) at the St. James Club in Paris last week. “How
are sales at the very high end of the retail spectrum holding up,” I wondered. “Great,” came the reply. “On
the Champs Elysees, Japanese tourists mob our store. We limit them to one purchase each. So they go outside, where young people – for 100 francs – offer to go inside the store and buy another handbag for them.” “Why do you limit them to one purchase,” asked my companion. “It’s a marketing strategy.” Bernard took me over to see his apartment on the Avenue Foch probably the chicest address in Paris. It’s for sale. Details to follow.

*** Genealogy is a keen interest among many Americans. Not sure who we are, we wonder where we came from and what we once were. A relative spent 7 years trying to trace our mutual ancestry in America and sent me the results with his Christmas card. He found that the first McCeney (a name that more frequently appears as MacKenzie) came to Jamestown, Virginia, in 1659. Macom McCeney had fought with the Scots…and was captured by the English at the battle of Worcester. At the age of 15, he was sold into indentured servitude in America and later died on Christmas Eve, at the age of 28, on Kent Island, Maryland.