Saturday February 16 11:23 PM ET
Investor Profile: Kaufman Says Stocks Pricey
By Brendan Intindola
NEW YORK (Reuters) - He made one of the most famous bullish calls in Wall Street history in the early 1980s, but Wall Street legend Henry Kaufman isn't so enthusiastic about stocks these days.
Stocks are expensive by historical measures and the Federal Reserve (news - web sites) can do little more to fire up the U.S. economy, Kaufman told Reuters.
Add the thunderbolt from Enron Corp. (ENRNQ.PK)(NYSE:ENE - news), the largest corporate bankruptcy in American history, and it means a cautious climate for the stock market -- with banks thinking twice about extending credit and investors wary of accounting land mines -- Kaufman noted.
SLOWER GROWTH, HIGHER P/E RATIOS
``The profit recovery is going to be moderate ... and we go into this next recovery with very high P/E ratios,'' Kaufman said, referring to price-earnings ratios -- an elemental measure of stock price.
``In some instances, the S&P 500 (P/E ratio) is twice the historical average. And for many of the high-tech stocks, we are not far away from the P/E's that prevailed during the heady days of a couple years ago,'' he said.
Indeed, the current price-earnings ratio for the S&P 500, based on 12-month forward estimates is 28.6, not far from a peak of almost 31 in 1999, according to StockVal. When the broad market measure closed at an all-time high of 1,527.5 in late March 2000 -- the ratio stood at 28.2.
Now the S&P 500 at nearly 1,100 is 28 percent below the March 2000 high, while today's P/E ratio is slightly higher.
``Maybe slow growth, or moderate growth, is about all we deserve, considering the excesses that were committed here in the last five, six years,'' said Kaufman.
Kaufman declined to offer more specific investment advice, sticking to his macro expertise.
A DATE TO REMEMBER: 8/17/82
His name was etched in history when on Aug. 17, 1982, his ''Memorandum to Portfolio Managers'' foretold an end to the Fed's painful, inflation-fighting rate hikes under Paul Volcker. Kaufman's words ignited the market, stoking what at that point had been the biggest one-day equities rally in history.
A week later, he earned one of popular culture's most urbane recognitions -- a cartoon in the New Yorker magazine.
In the Manhattan quarters of Henry Kaufman & Co. Inc., his economic consulting firm on Madison Avenue, a block east of Central Park and upstairs from landmark clothier Barneys New York, Kaufman held forth for an hour recently.
Successful by many measures, Kaufman said if the economist thing does not work out, he could always sell suits at Barneys, a short trip down the elevator. But a career in haberdashery does not appear to be in the cards. Kaufman, after all, has a thriving business, and serves on numerous boards -- corporate, academic and cultural.
On the corporate side, he is a director of Lehman Bros Holdings Inc. (NYSE:LEH - news) and Freddie Mac (NYSE:FRE - news).
GERMAN CHILD, NEW YORK YOUTH
Kaufman grasped early notions about markets and interest rates at his grandfather's knee, he said. Living in Germany between world wars, Kaufman recalled, he learned the tales of hyperinflation and economic instability -- often fertile ground for political extremes.
In 1937, Kaufman was only 10 years old when he arrived in New York City. He attended public schools in the city, and went on to attend New York and Columbia universities.
Kaufman, a mover of markets and architect of Salomon Brothers research department, used to wield wide influence that extended his reputation to Main Street from Wall Street.
When he resigned from Salomon as vice chairman in 1988, Kaufman had assembled a department of nearly 500, up from less than 10 researchers when he first walked through the doors at 60 Wall Street in January 1962.
During his tenure, he hired and trained many who are now top economists at Morgan Stanley (NYSE:MWD - news), J.P. Morgan (NYSE:JPM - news) and other firms.
``To this day,'' said John Lipsky, J.P. Morgan's chief economist, who worked with Kaufman at Salomon in the 1980s, ''I suppose there are a lot of former employees who will not make a career move without seeking Henry's advice.
``They will get his best judgement, full attention and he will be totally discreet about it. I am sure he does the same for senior public officials as well,'' he added.
``He always seemed to be at the epicenter of events,'' said Lipsky. ``His advice and counsel was sought out by the great and the good. Yet he was always personable and was always concerned about his staff.''
ENRON: RISK 1, OVERSIGHT 0
In analyzing the Enron debacle, Kaufman said the larger failure is a breakdown of risk management and oversight amid the creation of increasingly complex financial instruments.
Managing these complex tools has remained with the middle-management staff responsible for their creation, barring top executives from gauging and managing the related risks.
Financial institutions, he said, will always push the ''efficient frontier'' with new ways to raise and invest money, which alone posed no problems.
``This has meant that the management power ... has moved to middle management -- those who are creating the models, doing the deals,'' Kaufman said. ``The management techniques to oversee these activities have not improved enough and official oversight (by regulators) has been way behind the innovations.''
Kaufman predicts Enron will spur reforms -- including tighter regulation of accounting firms, more conservative earnings reports and corporate boards that will ask more questions. But for the near-term, the largest bankruptcy ever will in some ways handcuff any recovery.
``You can never tell how many Enrons there are. The situation suggests that lenders for the time being are going to be conservative and it is going to make for hesitant investors,'' he said.
These conditions will reverberate into the economy, slowing down the climb out of the current recession, he noted. But down the road, investors will benefit from more solid earnings, clearer financials, and fewer conflicts of interest, he said.
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