Hi Maurice, an excerpt from www.apogeeresearch.com (James Grant):
The View From Andrew Kashdan
Morgan Stanley's Richard Berner borrows Stephen Roach's worry beads, while James Bianco calculates how much 'house money' investors have left (not much). We discover that the aftermath of Nasdaq 2000 looks a lot like Dow 1929 (at least so far), and wonder if legislative fixer-uppers are spooking the markets.
-- Embracing The Inner Bear
The previously optimistic Richard Berner is sounding more like his Morgan Stanley colleague Stephen "Double-Dip" Roach. Berner hasn't completely embraced the Roach viewpoint -- Roach now puts the probability of negative GDP growth by year-end at more than 50% -- but he's coming close. A sign of the much talked about "capitulation"? Perhaps. But more to the point, Berner is finally acknowledging the magnitude of economic and financial risk.
One thing that has altered Berner's outlook is the recent plunge in the markets and the crisis of confidence it creates. Comparing the current climate to 1987, Berner thinks the risks today are more significant. First, instead of consumers increasing their level of savings at a gradual pace, as he once expected, Berner now fears a more abrupt change. (Egads! Americans might start saving again!) Second is the damage to business confidence, which could cause companies to postpone hiring and investment despite the anticipated rebound in profits and margins early this year. Third is the potential for systemic risk (one of Roach's favorite topics). In particular, Berner worries that lenders could become more hesitant to lend overall, while investors of all stripes -- individual, institutional and foreign -- could become more hesitant to invest. He concedes that the WorldCom incident could be a tipping point of greater import than he anticipated. Finally, although the Fed will obviously keep rates low for as long as it can, it has done little to restore investor confidence.
As Roach says, "Dip buyers beware!"
-- Breaking Even
Investors may have lost a bundle in the recent carnage, but they still have all those gains from the great bull market, right? Well, not quite. James Bianco has tracked the break-even level, i.e., the average purchase price, of the public's mutual fund holdings. To calculate it, Bianco took the average of the Dow Jones and Russell 2,000 indexes, weighted by mutual fund inflows. (Even though equity mutual funds own only about one-fifth of the market, Bianco thinks they are a good proxy for the other 80%.) What he found, as of last week, is that the public's level of unrealized profits (capital gains) since 1990 is about $73 billion. That may sound pretty good, but it's less than one-tenth of the $750 billion in paper profits public investors could boast back in the good old days of December 1999. Furthermore, if investors had purchased three-month T-bills instead of these mutual funds, their profits would be more than $400 billion.
Apart from providing an interesting and sobering analysis, Bianco postulates that the break-even level will influence investor behavior going forward. He compares the public to gamblers in a Vegas casino. As long as they're still playing with "house money," they will, says Bianco, hold on to their stocks in a down market. When the house money disappears, selling will gain momentum. We've had a taste of this phenomenon already as investors have yanked a net $29 billion out of mutual funds over the last nine weeks, according to AMG Data. The near-term future of the markets may depend on whether investors decide to cash in their remaining chips.
-- Deja Vu All Over Again
The aftermaths of the two major stock-market bubbles of the 20th century share an eerie similarity in terms of the path traced by the plunge, as indicated in the graph below. There are surely many differences between Dow 1929 and Nasdaq 2000, but we think there are enough similarities to justify a comparison. For instance, both were once-in-a-lifetime events -- a trading lifetime, that is. (We can only hope that all the 90-something investors out there were short at the top the second time around, at least.) The Dow was the Nasdaq of the '20s; that's where the action was. Both downturns followed boom periods of easy money that dwarfed other expansions.
The bad news is that a strict replay of the '30s scenario would leave the Nasdaq well below 1,000 in the next several months. Furthermore, it took about 25 years after the 1930 collapse for the Dow to return to its previous highs, something that might send the buy-and-hold crowd into cardiac arrest. The good news is that, eventually, the Nasdaq will find a bottom. Mathematically, of course, it's closer to the bottom now than it is to the top. Chronological proximity to the final bear market low is another matter entirely. But it’s nice to know that there were some significant rallies between the collapse and the eventual recovery in the '50s.
For all of that, there's always the possibility that this time will be different -- i.e., better than 1929-1954. In which case, investors might find consolation in knowing that things could be a lot worse.
-- Legislative Overkill?
The outrage over corporate scandals is understandable. But while some have interpreted the market's plunge as a cry for more regulation (op-ed columnists in The New York Times, for example), it could also be a response to fears of an overzealous Congress. As some observers have commented, when Senators pass a major bill unanimously, it's usually because they don't much care what's in it. Texas Sen. Phil Gramm remarked that, "in the environment we are in, virtually anything can pass."
The House and Senate ironed out details on Wednesday, but news coverage has been pretty skimpy. Keeping in mind that we are as ignorant of the specifics as are the politicians responsible for them, what follows are a few of the potential, perhaps unintended, consequences of the legislative maneuvers to date (even Rep. Tom DeLay says this week's agreement is "only the first package"):
Even though the provision forcing CEOs to certify financial results was watered down slightly, such a requirement would be "a good candidate for having unintended consequences," in the words of ISI Group. In other words, the bill may hinder companies' ability to attract quality CEOs who are willing to risk making an honest mistake. (On the other hand, that might be a small price to pay for hindering companies from hiring CEOs who are only too eager to make dishonest "mistakes.")
Lengthening the period in which shareholders can bring legal actions and increasing the potential liability for accounting mistakes may prompt a wave of lawsuits, which will affect even innocent CEOs (surely, there are at least a few) and companies.
Companies would pay a tax, based on their market cap, to support the proposed accounting oversight commission -- a commission whose budget would be virtually open-ended, The Wall Street Journal indicated.
Wednesday's agreement, according to the Times, would require "companies to disclose as quickly as possible 'material' changes in their financial condition." What does this mean exactly? We don't know.
More businesses may choose to remain private rather than deal with increased regulation.
Other proposals making their way through Congress include one that would prohibit executives from selling stock until after they leave their companies, which would encourage turnover and discourage long-term commitment. (This one probably won't pass, however.) Congress is also finding this a convenient time to crack down on legal tax avoidance, which would raise costs for business. And who knows what other surprises might lurk in the current legislation or in the next round? President Bush has announced his eagerness to sign a bill before the congressional recess. He, too, seems little concerned about the details.
Given the mounting losses in most portfolios, investors don't need too many other reasons to put in their sell orders. But shortsighted legislation won't help matters any.
Charles Peabody says the credit chickens are coming home to roost
The consumer has been at the heart of the credit binge, reminds Charles Peabody, bank analyst extraordinaire at Portales Partners. His (or her) free-spending ways spearheaded the past decade's economic expansion. But now that these revelers are nursing hangovers, their festive mood has fizzled. Yet the credit card tempters continue to flood households with new offers, and the most troubled borrowers are the ones most likely to give in to temptation. Bankruptcies are soaring, and charge-off rates are sure to follow. Click here to read Peabody's complete report.
Paul Kasriel has good news and bad news about the economy
Our favorite Northern Trust economist polishes up his crystal ball and extends his economic prognostications into 2003. What Kasriel sees in the early days of the new year is the first installment of the long-awaited Fed tightening. Why the delay? Well, Dr. Greenspan, wishing to provide relief for his heavily indebted land, has decided that a little inflation might be just the ticket. The economy hums along quite nicely for the rest of this year. But, next thing you know, that "little" bit of inflation builds up a head of steam and someone's got to tighten the credit screws very quickly. What happens next? Click here to read Kasriel's complete report. |
