OT, Jon and thread, re: "the market", interesting interview in today's Barron's w/Dennis Gartman (shown below). He seems quite bearish. In particular, he is looking to an inexorable rise in wages (he says basic nonskilled jobs could require $15/hr or more) due to a tight labor market to push inflation upward--this seems to be in contrast to what Jon expects. OTOH, Gartman is calling for sub-par GDP growth out of China, perhaps pressuring them to devalue the renminbi--I fail to see how that will further global inflation, but it is apparently a BAD THING. Another BAD THING is that monetary base growth is outpacing GDP growth. These two factors--wage inflation and monetary base growth--are not exogenous and will lead to persistent inflation--sees long bond at 6.75% to 7.25% a year from now. Any comments? Would be interested in your take, Jon.
Thanks, MM
The View From Virginia Beach
Says a respected letter editor: "I think we have entered a bear market"
An Interview With Dennis Gartman ~ An eagerly awaited publication on Wall Street each morning is the Gartman Letter, an erudite compilation of insights and reporting about news events around the world. Editor Dennis Gartman wakes up in the wee hours and, from his Virginia Beach, Virginia, perch, gleans and synthesizes information from sources as diverse as the China Daily, Itar-Tass and the White House Bulletin. One fan is Merrill Lynch's chief investment strategist, Chuck Clough, who calls Gartman "savvy and knowledgeable: Dennis knows the politicians, the personalities, and he has a wonderful knack of pointing out, when there's a consensual view about an event, the opposite is often true." Another Gartman buff is chief economist A. Gary Shilling, who calls Gartman "the only conservative in the world who reads the Chinese dailies on a regular basis." For Gartman's views on the world today, keep reading.
-Leslie P. Norton
Barron's: It's a dangerous world for investors just now: Inflation is rising, central bankers are poised to raise rates, and politically, as you've amply illustrated in your newsletter, the globe is in turmoil. Are things about to get worse?
Gartman: First, understand that as far as the economies of the world are concerned, things are doing quite well. Actually, you have the strange phenomenon where they are even getting better. That is a major problem. Money first flows into capital markets before it flows into industry, inventory, labor forces. Only after economic activity begins to move higher is capital demanded by business conditions. That's what you are seeing right now: that period of time when the world economy-not just the U.S., but Canada, Europe, Australia and especially Asia-are all doing quite well. They need money, and that is detrimental to the capital markets, particularly here in the U.S.
Q: So we should worry?
A: We should always worry. The most important place to be concerned about may be China. It has a distinct problem in that it truly does need 9% GDP growth, which is the government's own figure, and for lack of a better one, let's accept it, just to keep unemployment at a steady level. You have a large number of Chinese moving from the much poorer Western provinces toward the Eastern provinces and coastal regions, where economic activity is strong. It may take much stronger economic activity there to assimilate those people. And it's not happening. GDP growth may be 5%-6% (or even lower); the government says it's 7%. That could be a very serious problem politically for the Chinese. Once we get past the turn of the year, now that we've passed the celebration of the 50th anniversary of the Chinese revolution, the Chinese may well look at the problems of Y2K and use that as a reason to devalue the renminbi.
Q: Yet recently it's been suggested that the pressures to devalue are lifting.
A: That is wishful thinking, honestly. Since the Chinese numbers are never wholly trustworthy, I am suspicious when China reports that exports picked back up! The pressures to devalue are increasing. It is abundantly clear that exports are slowing, even though export growth was rising rather substantively in 1997-98. Reserves are actually falling slightly. This is when global demand is strengthening. That means China's neighbors-Thailand, Vietnam, South Korea, Japan and so on-are more competitive. You may not see export growth next year.
Also, the political circumstances in Russia just continue to deteriorate. Of course, the economy is about the size of Bolivia.
Q: Why should we pay attention?
A: The reason one has to pay attention is that this is a Bolivia with nuclear weapons. From a military standpoint, that is something to be fearful of. If you don't understand the political circumstances of a nation, or if you understand them and find them frightening, there are so many other areas of the world in which one can invest. Russia remains in disarray. The corruption levels are absolutely mind numbing. Nobody paid attention until Yeltsin's son-in-law and his daughters were implicated. Wealth has simply disappeared and has been stolen. Russia has the ability to break into a large number of smaller political entities that eventually will be more economically viable. It is politically an impossible country to govern. After all, it covers 11 time zones! Yet I'm less worried about Russia than China because economically, it has made itself small, and it will remain that way for a long time.
Q: Given that many of us are concerned about the Dow, let's move closer to home.
A: The most important thing going on economically in the United States, and the most misunderstood, is how tight, how amazingly tight, the labor force is. It will give rise to very strange nonfarm payroll numbers that won't be understood by the markets for a long time. I believe that all economics derives from anecdotal evidence first, which then becomes hard evidence.
Anecdotally, one can wander from one mall in Tidewater, Virginia, to another in Chicago, in Cleveland, in New York City. The numbers of help-wanted signs posted in store after store is extraordinary. The other day, I noticed that 22 consecutive stores had "Help Wanted" signs in the window.
Employers are now being required to pay bonuses just to find $10-a-hour laborers. Here's the problem. If we have not exhausted the labor pool, those left to go to work are probably the least productive citizens. So you can see a time where non-farm payrolls are actually declining, such as we had this past month, and the market believes the economy is weakening. To that, I would say no, it's simply a matter of the economy being so strong that the labor pool has been depleted.
The Gartman Letter, eagerly awaited on the Street.
Q: What are the implications?
A: The U.S. suffers. Three things can happen. First, the economy slows down, which is probably at least six to 12 months into the future, because it has a life of its own that's as tough to turn around as an aircraft carrier at sea. Two, you have to raise wage rates so high to attract people who have totally removed themselves from the labor pool back to the pool. That number is probably in excess of $15 per hour. Three, you have to change immigration laws dramatically to allow much larger immigration into the U.S. That would be the proper thing. The U.S. became the great country that it is because we opened our borders to anybody.
Q: True, but it doesn't sound politically feasible.
A: In an election year, it isn't feasible at all. The Buchanans, Perots and their ilk still carry enough political sway that they can raise the spector of immigration and make it sound onerous. So rational people will back away from that notion. So the only logical thing left is that wage rates will be ratcheted materially higher. You have to do something to clear the market. Another minimum-wage bill is a foregone conclusion. The decision to raise the minimum wage-whether by 50 cents or $1-is inconsequential. It won't be nearly enough to get the labor force that we need. Wage rates around here, which were once near the minimum wage for that sort of labor, have topped it.
Q: What will the Fed do?
A: It will continue to tighten. I honestly think it should raise margin requirements instead, but they haven't done that since 1973. I think they'll tighten by at least 50-100 basis points [a half to a full percentage point] in the next year, and certainly by 25 basis points [a quarter of a percentage point] at the next meeting, despite worries about the Y2K bug.
Q: The year-long bond bear market suggests people already anticipate an increase in inflation.
A: As a monetarist at heart, I tend to look at monetary base growth, which has begun to move upward. It is now materially above prospective GDP growth. You are going to see inflationary numbers a year from now-CPI or whatever-that will probably be closer to 4%-4.5% than to the present numbers. I am afraid the bond market hasn't yet anticipated rising rates of inflation that will be sustained for more than a short interval of time. During the 'Nineties, we got used to the fact that almost every inflationary bout was exogenous and very quickly erased. This wage inflation and growth in the monetary base is not one-off. It is multiyear. That's a change in psychology. The bond market is now bearish, but I don't think it has panicked yet. It is very easy to put the long bond a year from now at 6.75% to 7.25%.
Q: With the commensurate effect on stocks?
A: It is not bullish, is it? I think we have entered a bear market, and we haven't recognized that fact. Neither should we. Nobody should be able to anticipate a bear market, or a bull market. All one should be able to do is say within two or three months of a turn, that it appears to be taking place. I went from bullish to neutral nine months ago, and three weeks ago, from neutral to bearish. The trigger was the sharp rise in the price of gold, rising yields, rising Asian demand-all those things suggest the balance has changed. U.S. equities are likely to head materially lower. I love to say that the market has experienced bad breadth for a very long time. In '73-'74, the broad market began going down for months in anticipation of the decline of the Nifty Fifty. Now, you're seeing the Microsofts and Intels of the world beginning to break trendlines. The definition of a bear market being a market where each high is lower and each low is lower. This market is acting that way. My friend Gary Shilling detailed historical bear markets in his last monthly article. Going back to the middle of the 18th century, the average market decline was 31%. And the worst were so much worse than that, you don't even want to think about it. It is reasonable to think this is an average bear market. Before it's done, I can envision the Dow trading closer to 7500 than 10,000, the S&P 500 to 1100 or below. Will it happen quickly? No. There is still so much money demographically being moved by Baby Boomers into the market, that there will be buyers as the market grinds down. The normal bear market move might be completed in 1 1/2 years, and then you'll see the sun shine and the bull market reinventing itself and moving to new highs several years from now.
Q: So many Baby Boomers are heading into retirement that a bear market could be troublesome. As we all know, Chairman Greenspan pays close attention to stock prices.
A: The demographics game isn't really important until about 2007-2011. Say the average Baby Boomer, the 1946 Baby Boomer, wants to retire at 60. What year would that be? 2006. The ultimate Boomer, and I am one, was born in the mid-'50s. I turn 60 in 2010. There is still a long time before the Boomer generation begins in earnest to save money.
I am not sure that it is the Federal Reserve chairman's job to dictate the level of wealth in the country. He has taken that as his job. But I would suspect that if he is a rational man -- and certainly he is -- after a 20% decline or so in share prices, that his rhetoric would probably change. If I were the Fed chairman, and I made the comments he made two weeks ago -- which I am not sure were appropriate, but were nonetheless wise -- that is what I would do.
Q: Let's move on to Japan. You've taken Japan to task numerous times over monetary and fiscal policy. Are you happy now with the steps they've taken?
A: Japan has taken more proper steps in the last year than probably any other G-7 nation. That will be surprising to a number of people. But I think Prime Minister Keizo Obuchi's moves on taxes -- allowing writeoffs of mortgage interest against income, cutting corporate and individual income taxes -- are absolutely to be applauded. They clearly have gone out of their way to try to sponsor economic activity through tax cuts. Obuchi has done yeoman's work in piecing together a very tenuous, three-party coalition that seems to have molded itself together into a cohesive whole. Obuchi has proven a far more adept politician than I or anyone else thought he would be. Finally, a younger, very bright, very capitalistic generation of men and women is rising up through the ranks of the Ministry of Finance and the Bank of Japan. I have no belief in the elders who still maintain the positions of ultimate power. Within another several years we'll see the demise of that last group of Japanese bureaucrats. Japan's big problem is a mind-numbing demographic problem.
Q: Talk about a looming pension crisis.
A: I wouldn't want to be a Japanese authority involved in making the decisions that are required, given that demographic shift. They have no choice but to weaken the yen as much as possible. And that is consistent with the next thing, which is that they are really beginning to expand, as best they can, reserves in the banking system to engender economic growth. The other problem: Japan has to open up immigration and open it up violently, even more than the U.S. Japan's birthrate is declining, and in the next two years, the population is going to fall off the edge of a cliff. This will be the first major power to have fewer people in five years than today, materially fewer in 10 years, and even less in 15. The only country that comes close to doing this is China. The people who will be left in Japan are going to be elderly. That is a very difficult circumstance. The only thing to do is to continue to build export trade, move industrial capacity offshore. Or increase immigration at a violent rate. I'm not sure they're prepared to do it, but the fact that there is some debate is a material change, as far as I'm concerned.
Q: Yet Japanese women are entering the work force in greater numbers.
A: Yes, they are. It's also causing an enormous increase in the average marriage age, which is one of the reasons you're seeing such a decline in the birth rate in Japan. I don't see Japanese women going into the factories, instead of the professions.
Q: Have Japanese stock prices already discounted the good things you described earlier?
A: No. They have just gone through the first rebound, the first tenuous expectations of a change and a very small amount of international capital that has flowed back to Japan. The next test is whether the Japanese themselves, who have been net sellers of their own stock market as the market has rallied, will begin again to be net investors. The poor Japanese salaryman has seen his economic circumstances deteriorate for the past decade. It has been hard for him to get too enthusiastic. In the past, what Japan really needed to do, to turn around swiftly from the post-bubble depression, was allow unemployment to go from 2% to 8%. It didn't. Japanese companies were required by social expectations to keep large numbers of obviously unemployed people employed. In the next move, Japan will look around at how other countries survived 8% unemployment, and in the next cycle allow it to happen. Today, it is reasonable to say that the Japanese economy is growing. Is it vibrant growth? Absolutely not. It is tenuous and still rather suspect.
Over the course of the next several years, Japan has to see something closer to 175 or even 200 yen to the dollar, than to 110. It is the only way they can expand exports. And that will get very egregious at the turn of the year, if China devalues, as I think they will. Bank of Japan governor Masasu Hayami finally gave in, and he has no choice, but to buy shortterm government securities to permanently add reserves to the banking system in order to foster a much more positively sloped yield curve. The need to devalue the yen, as well as inflationary concerns, mean long-term interest rates in Japan have to go much higher, and will perhaps move to parity with 10-year U.S. rates in the next five to six years.
Q: Let's move on. How about Europe?
A: No question, the pan-European economy is getting stronger. The ECB left rates unchanged this week, but I think they're hawkish and will tighten 25 basis points in the next couple of weeks, then add another 25 after the first of the year and another 25 after that. But restructuring efforts suggest European equities will outperform U.S. equities for the next several years.
Despite the idiocy of the French decision to cut the work week from 40 to 35 hours to spur economic growth, following old-line social-welfare programs doesn't work anymore. That's the lesson that Chancellor Gerhard Schroeder in Germany and Prime Minister Tony Blair in the U.K. are trying to get across to the population. Schroeder is a seminal figure, whose first major political act was to force out the far-left-wing finance minister, Oskar Lafontaine. Schroeder is under attack by the left, but doing what he can to push the Social Democrats to the middle. Under any other circumstances, his Finance Ministry would look like a laissez-faire Tory government. That German stores will open Saturday and Sunday is a material shift. Schroeder has only been in power for a year. It is far too early to say whether he will be a great chancellor. But even under Helmut Kohl, Germany always looked like Japan to me-centrally planning all their economic activity. This isn't what Schroeder is after.
Q: Fine. In the world you describe, what should people be owning, apart from European equities?
A: For 20 years, I would end every speech by saying that gold is a worthless, barbaric metal, whose price would continue to decline. So it was very strange for me to write a note, a month and a half ago, saying that I'm not bearish on gold any longer. It was simply that other commodity prices went through sustained increases. It wasn't a mere one-off for crude oil or copper or aluminum or grain.
Q: And now, coffee.
A: Even the softs, which should be the ones, if you look at Latin America, that would have continued supply coming in, have moved violently higher. A very important circumstance occurred when gold didn't fall on the day the Bank of England sold its second tranche of gold. One of the first rules of trading is, when something doesn't go down on bearish news, you probably shouldn't be bearish anymore. Doesn't mean you have to run out and buy it. But you ought to stop being short. Now, here we are after an enormous spike in gold prices, caused by the European Central Bank's decision to limit gold sales. Several weeks later, gold still hasn't retraced. Attention must be paid.
Here is what I think is happening. I believe that at its recent meeting, the G-7 arrived at a decision to allow monetary aggregates to ramp up at the fastest pace, probably as some aid to Japan. I think the ECB agreed, and in the interim decided to stop selling gold. This tells us that gold prices probably are still going higher. Before it is finished, there's a very reasonable possibility that gold will get very close to $400 per ounce.
Q: Where else?
A: My time horizon is from six months to a year and a half. My campaign in the Japanese yen lasted three years. Starting last year, I began to tell people that the age of owning paper is behind us. The age of owning stuff lies ahead. I mean commodities, gold and silver, the producers of stuff. I want to be long currencies of producers of goods and commodities, and short the currencies of consumers. I'd be long the Australian dollar, the South African rand, the New Zealand dollar, the Canadian dollar, short the yen. My propensity to add to my holdings of Japanese shares is less than it was; to own Canadian, New Zealand, Australian shares is greater.
I am looking for relatively pure silver plays like Pan American Silver and Apex Silver Mines, with silver in relatively tight supply.
We spoke earlier about political developments. The world always misunderstands the provincial and separatist politics of Canada. Too many people remember the separatist movement of two years ago and believe it will come back on the front burner very quickly. That isn't true at all. The leader of the Parti Quebecois has said that until he is convinced that a separatist motion will pass readily, he doesn't want to bring a referendum. And the polls suggest that that is simply not going to happen-support for separation is waning quickly. So too many people are factoring in a risk in Canada of separation. They are undervaluing Canadian assets as a result.
Finally, we're in a bear market in debt and we probably have the same phenomenon in the U.S. stock market. Rallies are to be sold, rather than weakness to be bought.
Q: Thanks, Dennis.
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