The Bigger They Are, The Harder They Go Splat
The Market Rap
William A. Fleckenstein
06:15 PM 08|15|2001
Overnight, Japan was down about 1 1/3%, giving back about a third of its prior night's gains, while Europe was down about 1%. There were a couple of attempts to rally the futures, but that really went nowhere. This morning, the casino reprised what we saw yesterday, with the market opening on the back of a small buying flurry. The first half hour was it for the highs. Then, over the next few hours, we proceeded to sell off, taking the market down about a half percent in the S&P and down a percent on the Nasdaq. The Dow stubbornly resisted the declines in the early going, a beneficiary of Bubbleonians scurrying to find the next stock group to buy, based on the concept that a falling dollar will be good for these large multinationals that make up the Dow. While that may be true at the margin, given the price that these companies trade at, and the poor fundamentals, they will be anything but a port in the upcoming storm.
On the earnings front, bad news from BEA Systems (BEAS) was ignored, and lukewarm results from Applied Materials (AMAT) were praised because they weren't worse than expected. It's worth pointing out, however, that during the past six months, any time a company did not warn dramatically, the stock prices would take off. So, if the logic isn't too perverse, the fact that AMAT was unable to shoot up may indicate that the game is ending. In other words, it couldn't lift on the "good news" of no bad news. Maybe there just isn't enough juice to easily jam stocks higher anymore.
Slip-Sliding Away The market leaked all morning, finding a temporary low about midday. There was an attempt at a rally, but that totally fell apart with a couple of hours to go, and we had a sell-off into the close. Everything closed on the lows. The S&P and the Dow ended on their early-morning lows, but the Nasdaq took out the early-morning lows like an anvil through rice paper. The box scores show that it was a pretty ugly day, with only the Dow holding up, for the aforementioned reasons. Even so, there does not yet seem to be any real fear on the tape, if one measures fear by option premiums, which have hardly budged. Though this has been a nasty decline, it has still been orderly, with the non-linear dislocations still in front of us.
Dogs Of The Dow Days Of August Today, the Jello pushers chased themselves into some financial stocks as Bank America was able to announce a massive write-off and the stock didn't go down. So, the flavors du jour are the Dow and bank stocks, at least for the time being, as buyers dodge tech daggers. I'm sure all those people who listened to the dead-fish upgrades of chip stocks are glad they did. All in all, it was another ugly day for stock bulls and just another harbinger of the extreme weakness I expect to see as we get deeper into the year.
Euros, Eureka! Away from stocks, the euro was at it again, up three quarters of a percent to now over $0.91. The yen was up just under 2%, back under 120. The metals were unable to get going on the back of this. Both silver and gold took it on the chin. The fixed income market was down fractionally, I suspect, on the back of a weaker currency.
Will The Real Money Honey Please Stand Up It does seem quite clear now that the dollar has made an epic top. That does not mean we will not see counter-trend rallies. But I feel strongly that the dollar has peaked. This will have massive repercussions down the road. As a droll side note, I am told that today, the Queen Binger Caller interviewed none other than Yankee rightfielder, I mean Treasury Secretary Paul O'Neill. The mere thought of this interview had me laughing out loud. Talk about the blind leading the blind. It just goes to show how silly things have become when the Treasury Secretary wants to discuss dollar policy on Bubblevision.
Bill On What May Fit The Bill For those of you who are looking for a safe haven to protect yourselves against the dollar's decline, you might want to take a look at the Safe Harbor Fund run by the good people at the Prudent Bear Fund. It's structured to benefit from a falling dollar without taking up a substantial amount of interest rate or credit risk. The fund is primarily invested in non-U.S. government securities and some gold shares. This is not a recommendation to actually go and invest. It's a recommendation to go investigate. It may fit the bill for some people out there.
Keep Wall Street Beautiful, Polygraph A Dead Pisces Returning to AMAT, one dead fish waxed on about the company's glories, maintaining his stock rating though he cut his earnings estimates in half. His comments are a perfect example of what's wrong with the dead fish community. The problem with AMAT, as with most stocks, is the price. What do I mean by that? Well, in AMAT's most recent quarter, it did about $1.3 billion in revenues and it made a nickel. That's a nickel of course not counting for charges deemed to be one-time charges. This is a whole other subject of chicanery, but we'll leave that for the moment.
If one looks back to the fourth quarter of 1997 or 1998, AMAT was also doing about $1.3 billion in revenues, except then, it was making about $0.25, not a nickel, and at that moment in time, the stock was about $14. Now you have a stock three times higher whose earnings are down 75% to almost nothing. Part of the reason is that AMAT's cost structure is too high. Management wants to believe that things will get better, so it hasn't taken a real meat axe to its payroll. I'm certainly not advocating firing people en masse just to take some action. But at the same time, being somewhat delusional about the state of one's business prevents one from taking the necessary steps to help it improve.
Pledging Allegiance To Inflated Stock Prices AMAT in particular but, more importantly, corporate America in general doesn't want to do the right thing for business because the business it's really in is one of keeping up its stock price and promoting a higher stock price for its own sake. It used to be that before the mania, stock prices tended to go up when they reflected favorable fundamentals of the underlying business (even though, naturally, sometimes they were overdone). During the mania, concepts drove stock prices higher. Any phony "metric" was deemed to be a legitimate measure of a company's financial integrity, witness the bastardization of earnings via portfolio gains and calling them recurring items, etc.
Got AMAT? To understand how maintaining high stock prices, rather than achieving fundamentals, is the raison d'etre behind business, just take a look at AMAT's $30 million advertising campaign. This makes no sense, because consumers are not going to say they want to buy chips made on Applied Materials' equipment. To my mind, the ad campaign is just a thinly veiled way of trying to promote the stock. This, ladies and gentlemen, is what most corporate chieftains spend most of their time doing. Of course, once the stock implodes, then they get religion and go back to running their business. I've witnessed a lot of these fallen angels, Lucent and Nortel, to name a couple, whose managements don't talk quite the same way they used to. This is not solely to single out AMAT, because I make these same points about many, many companies in technology.
The Real Measure of Risk: Losing Money To reiterate, what's wrong with the stock market is price. Price is a big determinant of how one ultimately does with one's investments. If one can get a low enough price in relation to the fundamentals of a business, one reduces risk, i.e., one creates a margin of safety. Managing risk and reward have been totally forgotten about in the mania, but this is an important component to long-term success for any investor. Focusing on fundamentals is something that will return to popularity, somewhere down the road. On that subject, in today's Wall Street Journal there was an interesting article by Ken Brown called "Analysts' Top Stock Picks Get Failing Grade on Risk Meter." (Registration required for a two-week trial.) The writer says, "The returns for the analysts' top picks find that investors got no benefit for taking on that additional risk . . . and investors who bought the holds got slightly better performance with less risk." While I think it's great to see an article about risk (ask yourself when was the last time you read anything about risk in the popular press), the measure of risk used in this article is volatility. Volatility is not really a measure of risk but of volatility. Academics like to use it, but it's not the real deal. Risk in an investment is the chance that you might be forced to sell the stock for less than you paid for it, for whatever reason. That's the real measure of risk: the potential for losing money. Going forward, I would expect we will see more articles about how to control one's risk.
Up The Creek Without An AremiSoft Option Also in today's news, there is an interesting New York Times story by Floyd Norris called "More Setbacks for Investors of AremisSoft." (Registration required.) People might remember that I took great umbrage at Irwin Jacobs' letter, in which he accused short sellers in both Conseco and in AremiSoft (AREM) of misbehaving and was trying to orchestrate a squeeze. While I was away, AremiSoft's stock was halted. The New York Times article discusses the tricky maneuvers that will be required to exercise options, which expire on Friday, given that the stock is still halted. Congratulations to Herb Greenberg, who was on this story like a dog on a bone.
Requiem For Sleaze One of the things passing for a sound investment strategy has been any old, silly theme as long as enough people would repeat it, i.e., buying stocks because they split, or squeezing the shorts. Much scorn was heaped upon the short sellers and Herb Greenberg for talking about the facts. I did not see any scorn heaped upon what appears to be fraudulent management. So, rather than being scornful of the short sellers, it seems to me Irwin Jacobs owes them an apology. And this also gets back to the point I was making before I left. There's nothing un-American about short selling. What I find outrageous is the ease with which people make accusations against short sellers while, through their silence, seemingly condoning shenanigans like outright fraud and promotion, etc. The good news is that outrage is not dead. Now we are seeing investigations into the sleazy practices that polluted Wall Street during the mania. To quote the last line from the aforementioned Wall Street Journal article: "The system broke down broadly, not just here. People got greedy, that's the bottom line." Yes, everyone got greedy and took leave of their senses. The public included.
Let It Go Finally, I think that people need to examine one of the central tenets of their bullishness. For the last few years, they have operated as though stocks were the single game in town. Stocks could only rise because that's where all the money would eventually go. Obviously, for a long time that worked. But at the end of the day, most money is now run by mutual funds, and the money can be taken away with a phone call. Somewhere down the road, the public is going to dial 1-800-Get-Me-Out, and that is going to completely alter the landscape going forward.
In the past, prudent investors, unlike so many of these funds, did not run huge, concentrated positions because once you started having your assets pulled away from you, you've got a "who-to" problem. There's no way to get out, and of course that will be the scandal going forward: People will start to ask why these mutual funds were allowed to amass enormous positions of some 10% to 15% of certain companies. They will ask, wasn't this a violation of the prudent man rule (even though that's supposed to apply just to employee benefit funds)? There will be no shortage of scandals as people seek out scapegoats for all the money they will have lost before this is all through.
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