The Charge Of The Light-Headed Brigade
Some things in life cannot be overdone. The cavalry charge, for example, cannot be undertaken with too much enthusiasm or singlemindedness. Circumspection, caution and second thoughts do not help.
There are huge paintings in the Musee d’Orsay that record the spirit of Napoleon’s cavalry. Meissonier’s paintings, for example, show the collective energy of men and horses concentrated on a single objective — the charge. There is no room for reflection during a cavalry charge. Even a backwards glance would reveal misgivings and betray the whole effort. The expression, “don’t look back,” originated with cavalry officers.
So, if you’re attacking the enemy on horseback, don’t look back.
I reported, months ago, on the comments of one radio bullmeister, who advised his readers to get into the stock boom before it was too late. “Ours is not to reason why,” he said, picking up the sentiment from Kipling’s poem, The Charge of the Light Brigade, “ours is but to buy, buy, buy.” I doubt that it occurred to the advisor that the poem recalled an event in history that was both extremely stupid and completely futile. Lord Cardigan, who led the charge, had gotten his bearings wrong and charged the wrong objective. His men were almost completely wiped out to no good purpose.
Besides, good advice for the cavalry may not be good advice for investors. Few people go to their brokers complaining that their stocks have gone up excessively. But a moment’s reflection… and a brief backwards glance at the history of market behavior might reveal why they went up so much… and where they might go next.
Most things that are done to excess end in later regrets. Thus, the hardest thing and often most important thing in life is knowing when to stop. That is as true for a truck driver, as it is for a young associate at a company Christmas party, as it is for a trend following investor.
(Of course, it may also be said of many people that they never get going in the first place. But let us ignore that for the moment and stick to the point.)
Back in the late 1980s I became convinced that the Japanese market was about to crash. The valuations were simply too extreme. A single property in downtown Tokyo was worth more — at least on paper — than all of California. My guess was that this was an aberration waiting for regression to the mean.
I formed this view, alas, a bit early, beginning to write about it at least by the spring of 1988. A year later the crash had still not occurred. My friend, Mark Skousen, made a joke of it. He gave me a special award at a banquet in October of 1989. It was a mock-up of a book: “HOW I CALLED THE CRASH IN JAPAN by Bill Bonner.”
I wish I had written that book. Two months later the Japanese market began a bear market. Share prices fell for the next 10 years… and still, even after a 50% increase last year, they are less than half of what they were in 1989.
I did not exactly know WHEN to stop buying Japanese shares. But at least I knew enough to put on the brakes.
Looking at the pattern of the Nasdaq over the last three years, I see Tokyo all over again — if not the shadow of death. The Nasdaq went up 22% in 1997, then the rate of increase doubled to 40% in 1998, and then it doubled again to gain 86% last year. This kind of exponential growth is the mark of excess. It is almost always a prelude to a similar contraction. This will come as a shock to younger readers — but stocks go down as well as up. More on this as it develops.
A similar asymptotic, but even more dramatic, excess can be seen in the growth of P/E ratios. For more than 100 years up until 1996 the P/E of all stocks, I have it on the authority of Jeremy Siegel, a professor of finance at the Wharton School, was about 14. The Nasdaq P/E rose to between 20 and 25 during the late 80s. And then it doubled in the early 90s to about 40. By 1998, it had more than doubled again — to 100. And then, in the following year, 1999, it doubled again, now standing on what must be the pinnacle of P/E excess — 200! If things remained at this level, investors would have to wait 200 years for the companies to earn enough money to repay their investments.
Marc Faber remarked that he had never before seen this level of euphoria. How could he? It has never before existed.
Even during the hey day of the Nifty Fifty — “one decision” stocks that had everything going for them, such as IBM, Xerox, and McDonalds — P/E levels reached only an average of 41. And the most expensive of the whole bunch, Polaroid, had a P/E of 95.
But the Nifty Fifty were good companies. They had business models that were proven to work. Even so, the Nifty Fifty boom went bust in the bear market of ’68 – ’74. Many of the companies never recovered.
The present euphoria is concentrated on companies that have very few of the strengths of the Nifty Fifty. They are more like tulip bulbs than real companies… or maybe like the mining exploration companies that boomed in the mid-90s, though on a far more modest scale.
Like the exploration companies, the Internet stocks are searching for something. And like the Vancouver juniors, they will probably never find it. That doesn’t prevent the sellers of the stock from making a lot of money. But it makes it very hard for the buyers.
Doug Casey’s most recent newsletter revealed more of the insanity concentrated in the Internet stock industry. Amazon.com, which I’ve ragged about for months, has one feature I’ve ignored — debt. $1.25 billion of it. I’ve always assumed the company would shrink to some modest level of sales, upon which it could make a modest amount of money. But with so much debt to service, it will not have the time or flexibility to do so. In the coming crash, it will be unable to raise capital to service the debt and will be forced into bankruptcy.
Ameritrade is capitalized as though each of its 450,000 customers were worth $10,000. This is such a preposterous figure it sounds like it was conjured up by a Vancouver stock promoter. Doug points out that when the stocks crash, Ameritrade’s customers will disappear too. And many may visit the company again, merely to file some sort of sore-loser lawsuit. Thus, many customers could cease being dubious assets and become real liabilities.
Dr. Koop, meanwhile, has found 500,000 people who visit his site to get various ideas and information for free. His drkoop.com stock values these freeloaders at nearly $1,000 each. But he’s losing about $100 a year on each one — which implies that the actual value of each visitor is a negative 1,000 bucks. This is not a profit making company — it’s an anti-business… redistributing investors’ capital to Internet surfers and suppliers.
At least the exploration companies might have stumbled upon, perhaps by accident as Doug’s friend Robert Friedland did at Voisey Bay, valuable mineral deposits.
These Internet companies are more like Bre-X… the company that claimed to have discovered one of the biggest gold deposits ever. The story sent the price of the shares soaring… and lifted the entire market. All was well until an independent lab cast a backwards glance over the test results and found that they have been rigged. And then the lead geologist decided that he’d rather be dead than in jail. He went sky-diving out of a helicopter, without the customary equipment.
All of it was amusing at the time. And so was the discovery that Japan, Inc. wasn’t immune to the temptations to excess.
But it reminds me how close we might be to another great financial debacle. I’ve been warning about a crash in the Rocket Chips for at least a year. If it occurs now… it will be right on time.
Your correspondent and ever-vigilant market watcher.
Paris, France January 13, 2000
P.S. Lord Cardigan returned to England after the Charge of Light Brigade fiasco. The mob in London mistook him for a hero. He lived happily ever after… and left the world the sweater that bears his name.
*** The major trend I predicted continued yesterday — convergence. I mean the convergence of the out-of-this- world prices of the Nasdaq with the more down-to-earth ones for most stocks.
*** The Dow rose modestly — 40 points. But the Nasdaq stumbled again — down 71. AOL, proposing another kind of convergence — between the new Internet economy and the old economy of Henry Luce and Jack Warner, fell 13%
*** The AOL deal highlights one aspect of the market that few have noticed. Dr. Kurt Richebacher reports that corporate borrowing is way up — by $1.73 trillion since 1995. And the use to which the money is put has changed — rather than build new plants and buy new equipment, corporate borrowing is being used for mergers, acquisitions, and stock repurchases… all of which tend to push stock prices higher.
*** Overall, it is still a bear market. The number of advancing stocks fell below the number of declining ones. Stocks hitting new lows exceeded those hitting new highs.
*** 70% of stocks are below their 200-day moving averages.
*** The Internets and techs were bear meat yesterday. And the more I look at these stocks the more they look like they should be on the menu of a cheap Chinese restaurant, rather than in your portfolio. You want to be in the business of selling these stocks… not buying them.
*** It may have made sense to try to ride the Rocket Chips last year — when it appeared that the Fed was loading on the cash like fuel onto the Space Shuttle. But it’s a new year… the Y2k threat is past… and it looks like the bias of the central bankers — as well as the bond markets — is turning towards tighter money. Get out while you still can.
*** Prime Minister Blair’s wife was fined for hopping on the subway without a ticket. Cherie Blair was late for a business meeting… and had no change. So, she did what all Londoners do. She evaded the turnstiles, but alas, the law got her.
*** What a refreshing contrast from America’s Queen of Politics, our own First Femme, who goes nowhere without a phalanx of secret service agents and a half dozen limousines. Also, Cherie Blair — four months pregnant — has a job.
*** I am happy to see the debate raging over the confederate flag in South Carolina. It is an argument that engages the forces of politics without immediately endangering liberty or property.
*** Only one in five U.S. companies now pays a dividend according to the “Economist.” Only 14 of the 350 publicly traded biotech companies are profitable.
*** It looks like Pinochet will be allowed to go home to Chile and die. This is a disappointment to many people. An article in the Herald Tribune reports that victims and their families may be denied the “catharsis” they hoped for. Apparently, even private feelings of grief and pain need to be collectivized and politicized before they become legitimate. The paper reports that 40,000 people were tortured under the Pinochet rule.