Clowns still live
from the New York Times, April 6, 2001
Floyd Norris: Is a 95% Decline
Discouraging? Not to These Investors
By FLOYD NORRIS
he crumbling Nasdaq market
may have scared a lot of people,
but so far it does not seem to have
fazed many of the traders who
believed the most in those stocks
when they were soaring. There is no
sign of capitulation on the part of the
old superbulls.
Consider what has happened to the
ProFunds UltraOTC fund. If it is not
familiar to you, maybe you didn't pay
a lot of attention to really hot mutual
funds while the party was on. The
fund rose 188 percent in 1998, its first
full year; 233 percent in 1999; and 49
percent in early 2000.
The fund achieved those gains
without paying anyone to pick stocks.
Instead, it used leverage. The theory
was deceptively simple. If stocks are
sure to go up over the long term, then
it is wise to be fully invested in a
diversified portfolio of stocks. And it
must be even wiser to be more than
fully invested. Then the profits will be
greater.
ProFunds did not invent the leveraged index fund — the Rydex
Group was the pioneer in 1994 — and it was not even the first to
apply the concept to the Nasdaq 100. But although Potomac Funds
got its Nasdaq fund on the market in 1997 a few weeks before the
ProFunds offering, Potomac offered only 125 percent leverage, far
less than the 200 percent ProFunds promised. If the Nasdaq 100 went
up 3 percent on a day, ProFunds would use futures contracts to rise 6
percent. It was a great bull market strategy.
There is, of course, another side to leverage. On the way down, it can
be absolutely brutal. Before the recovery yesterday, the Nasdaq 100
was down 71 percent from its peak. The ProFunds UltraOTC fund
was off 95 percent.
What is remarkable is not that the fund has fallen so far, or that fund
investors have lost far more money in the decline than they made
when the market was rising.
Instead, it is the behavior of investors that is intriguing. By and large,
they have not fled the fund. Michael Sapir, the chief executive of
ProFunds, speaks of "deer in the headlight" investors who are "just
too paralyzed to do anything." He suggests that more redemptions
would have occurred if the Nasdaq's fall had been more gradual.
But investors have done more than just stand still. The lower the fund
goes, the more money is invested in it. About twice as many shares
are outstanding now as there were when the fund was at its peak last
year.
Many investors appear to believe that this fall is like all the earlier
ones from 1987 to 1998, when rewards came rapidly to those who
bought as prices tumbled.
It is not just at turbocharged mutual funds that hope springs eternal.
On Tuesday, when the Nasdaq composite plunged 6 percent, buyers
at Ameritrade, an online brokerage firm, outnumbered sellers by
almost 10 to 1. Most of the orders were concentrated in just two
stocks: Oracle, which fell 14 percent that day, and Cisco, down 9
percent.
The continued expectation that the market bottom is at hand has
helped provide Nasdaq's three best days in history — all within the
last four months. Yesterday's soaring market pushed the ProFunds
UltraOTC fund up 22 percent, but it is still down 94 percent from the
peak.
On Wall Street, there were hopeful comments earlier this week that
greed was gone and fear had taken over. Bear markets can end when
such bearish sentiment really prevails, because by then the selling has
largely ended.
But that is a hard argument to make when a 95 percent fall in a
souped-up mutual fund is not enough to drive investors from the
fund. Many still think they can make it all back, just as they did in
past market dips. Greed lives. |
