See A Pattern?
“There is always a disposition in people’s minds to think that existing conditions will be permanent,” wrote Charles Dow in 1902. “When the market is down and dull, it is hard to make people believe that this is the prelude to a period of activity and advance. When prices are up and the country is prosperous, it is always said that while preceding booms have not lasted, there are circumstances connected with this one which is unlike is predecessors and give assurance of permanency. The one fact pertaining to all conditions is that they will change.”
I regret, almost daily, that I have not been granted the gift of prophesy. Wouldn’t that make the whole thing so much easier – to be able to merely sit down with a copy of the Wall Street Journal from some time in the future…and see what actually happened!
We romantic contrarians are often confused with moss-backed traditionalists. It is assumed that we are just “negative” or anti-progress, or backwards party poopers.
“The ‘bah humbug’ modern-Luddite, hard-asset, deep-value crowd tends to cringe at the thought that a spurt of innovation and investment like we are currently experiencing will actually change anything…” wrote George Schott, of Tellus Capital.
Schott has written an interesting article, to which I will return in a moment. But, first, let me clarify:
Change is a feature of life – a permanent feature. But how will things change? Perhaps the Internet will revolutionize life on the planet. Maybe the Nation State will disappear. “Shaft” could win an Academy Award. You and I can speculate about these things. We can try to figure out what is going on and try to look into the future to guess about what may happen next.
But there is no way of knowing. We have no future editions of the WSJ to read. And usually, the most important events of the future are those you do not expect. Unforeseen, you take no action to avoid or accommodate them.
More predictable are the moods with which people greet events and react to them. They range from euphoria and complacency…to despair and panic. These moods are what make the difference between a P/E of 150 for Cisco and one of 11 for Genuine Parts. These moods change episodically, but never fundamentally.
Sixty years ago this week, one of the most dramatic changes in public mood in history occurred – centered right here in Paris. At 3:40 AM on June 14, 1940, a lone motorcyclist crossed the Place Voltaire. There was no shortage of motorcyclists in those days, but this one had never before been seen in Paris – he wore a German uniform.
This was astonishing in several respects. The largest army in Europe was not that of the Germans. It was the French army. On paper, at least, the French were bigger and better equipped. What’s more, they had constructed a marvelous defensive breastwork – the Maginot Line, fully stocked with guns and ammunition to drive back any assault. Paris, well behind the Maginot Line, enjoyed the 30s – it was the gayest, most exciting city in the world. Parisians, in the spring of 1940 sat in their cafes talking about Hitler (socialism was the Next Big Thing back then)… Who among them could have imagined what would happen next?
The Germans did not come by the expected route. They did not attack Maginot’s impressive line; they by-passed it.
Events took an unforeseen turn. Not only did Hitler outflank French defenses, he cut off and rolled back French troops with surprising speed. From the day he announced his attack on France, to the day German troops arrived in Paris only a little more than four weeks had elapsed.
Churchill wanted the French to fight for Paris. “Can’t you imagine,” he urged them, “how a big city like Paris can tie down enemy troops? We can fight in the big squares, in the little streets, at the corner of every building, every street corner. We can defend ourselves neighborhood by neighborhood, block by block, street by street, house by house. Whole armies can be buried there!”
The idea struck the French as absurd. The idea was to save Paris, not destroy it. “It makes no sense,” replied General Weygand, “reducing Paris to cinders won’t have any effect on the final outcome.”
Instead, Paris was declared “an open city.” French soldiers escaped to the south, many making their way to Spain and then to North Africa, where they joined the Free French Forces.
Half the population of the city fled. Those who could not leave – or chose not to leave – met the Germans with a combination of dignity, horror and opportunism. The great surgeon, Thierry de Martel, hung himself. A few others took their own lives. But by the evening of the 14th, the brothels were back in business – with a new source of business.
Things change dramatically in the financial world too. But they are changes you can anticipate. After a boom; a bust is inevitable. After a bust…expect a boom.
“Gold prices peaked in the first month of the new decade on January 21, 1980,” wrote George Schott, the analyst mentioned above, “when gold hit $850 per ounce (today’s spot price is $282). In the next two-and-a-half months, gold shed 43.5% of its value, as the price slid to $480 per ounce.”
“The very end of the 1980s coincided with the peak of the bubble in Japan. The Nikkei 225 hit an all-time high on December 29, 1989, the last trading day of the decade for the Japanese market, when the index hit 38,915 (the index stands at 18,480 at this writing). After kicking off the decade of the 1990s with a nasty downslide, the Nikkei did rebound in the latter part of January 1990, edging back towards 38,000. Then, the avalanche started. By October 1, 1990, the Nikkei had lost 48% of its value…”
“Anyone see a pattern developing?” asks Schott.
I do not know what will happen next in world events – though I spend a lot of time thinking about them. I don’t know what new innovations will succeed, and which will fail. But I do know that despair will eventually replace today’s complacency.
If the pattern repeats itself, the Nasdaq high of March 10, 2000 will not be seen again for at least another 10 years. Maybe 20.
Your correspondent in Paris,
June 16, 2000 — Paris, France
P.S. A couple of interesting events next week: I’ve been invited to the Procession of Garter Day in Windsor Castle on Monday…and to the Ascot Races on Tuesday. Stay tuned for a full report.
*** The Dow is still see-sawing around the 50% retracement mark. It was up 26 points yesterday – amid little enthusiasm.
*** The Nasdaq rose 48 points for no apparent reason.
*** The dollar was mixed. Bonds mixed. Gold fell $2.
*** So, there is not much to say today.
*** I’ve always wondered how is it possible for huge companies with billions in sales to be able to forecast earnings within a penny or so of the actual number. In our very small business, there are always surprises. Nothing ever seems to happen as forecast in the budget. But quarter after quarter, GE, CISCO and many other biggies bring in earnings of 1 penny per share more than they expected.
*** Now, I know. CUC officials admitted that they simply “cooked the books.” It was “a culture that had been developed over many years,” one testified.
*** Despite some recovery, the Dow is still down 6.8% for the year. Margin accounts, which hit a record of $278.53 billion in March, have fallen to $240.66 billion. No one is making money in this market. The insiders are dropping out. And speculators are getting knocked out.
*** “Why can’t the market just level off and stay relatively high?” This question was posed to Richard Russell in this week’s Barron’s interview. “When the bull dies,” replied Russell, “the bear takes over, and the correction process begins. In this process, things go wrong, sentiment changes and dirty water begins to seep out from under the closet door. Secrets are exposed, corruption shows itself, fantasies turn to nightmares, and bull-market dreams become bear-market horrors.”
“Don’t ask how or why,” advises the guardian of the Dow Theory flame, “It’s simply the way bear markets work. The sad part of it is that bear markets work just the opposite of bull markets. Just as bull markets climb a wall of worry, bear markets descend on a ladder of misplaced optimism.”
*** As I have been pointing out, a bubble is created on credit. The bigger the bubble gets, the more the credit costs. It’s like buying horses. You may want the additional horse…but each one needs to be fed and cared for. After a while, you can’t keep up.
*** Among the big eaters in the stable is the US current account deficit – which results from buying more globally than we sell. That deficit – nearing 5% of GDP – takes 70% of the entire world’s savings to finance.
*** Richard Russell mentions an estimate of total debt of $35 Trillion. At 7% interest, this credit costs $2.45 trillion annually. I’m not sure what this figure means – but it’s big enough to be very scary, representing more than a quarter of US GDP.
*** In the same Barron’s issue Alan Abelson shows a chart illustrating how the Fed is now tightening up on the money supply. You will recall that the Fed (in fact, all the world’s central banks) rushed to fatten up the world’s financial system – supplying plenty of money in anticipation of Y2K problems. In this sense, the Y2K scare was real – and it had an enormous effect on markets. Given a big bucket of Y2K oats and molasses, the Nasdaq nag spurted ahead by 50% in the last quarter of ’99.
*** Now, rations are being reduced. MZM, measuring cash, is growing at only 3.4% according to the latest figures.
*** As I explained yesterday, nobody harbors a burning desire to own a Cisco product. People do not save their money so they can buy one. Owning one will not make you, as Isaac Hayes sings of “Shaft”, “a sex machine to all the chicks.” Nor is a Cisco product indispensable, like toilet paper. Women do not say to their husbands, “Honey, would you be sure to pick up some Cisco products on the way home from work.”
*** No, on both desire and need…Cisco gets weak marks. Of course, the same might be said of GPC, a ‘nuts and bolts’ supplier for the automotive age. Founded in 1928, GPC must be one of the greatest business success stories in America. Genuine Parts has been increasing revenues for 50 consecutive years. Dividends have risen for 44 consecutive years. And during the early 70s, GPC was one of the ‘nifty fifty’ with a P/E above 40. But who cares? No one, apparently. Its P/E ratio now is less than 1/10th that of Cisco’s. You can buy a share at about 11 times profits, yielding almost 5% cash dividend. Both GPC and Cisco may be good companies. But only one is likely to make investors money. Guess which.
*** “Currency strength or weakness,” says Dr. Kurt Richebacher, contradicting me, “is determined not by perception, but by hard economic facts.” And in this respect, he ranks the “euro-zone” economy well above the American economy. Eurolandhas a 44 billion euro surplus in the current [trade] account…a gross investment ratio of 19% of GDP and a personal savings ratio of 9% of GDP, as opposed to almost zero in the United States.” What’s ahead for the dollar?
***** “The first problem with vacations is lowering your pace of thinking and living from the hectic securities business,” says Ray Devoe, securities analyst and FSL contributor. “The second… is getting back up to speed and determining what has been going on in your absence.” After returning recently from Ireland, Ray was puzzled to find “the old ‘momentum game’ and super-optimism has returned, as if the wild convulsions and gyrations of the March 10- May 24, 2000 period never happened…”
*** And something else…France has some of the toughest gun control laws in the world. Private firearms were confiscated and outlawed in 1940 when Hitler took control of France. But that did not stop someone from taking shots at people yesterday – at the Porte de la Chappelle. No reports on casualties.