Hi DJ, this is a find for today:
sbichinaprovident.com
In the ruin of all Collapsed Booms
Is to be found the work of men
Who bought property at prices
they knew perfectly well
were fictitious,
But were willing to pay such prices
Simply because they knew that
Some greater fool could be depended
On to take the property off their hands
And leave them with a profit.
Chicago Tribune, editorial
April 1890
July - August 2002 Manager's Commentary
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The Last of the Magicians
a.k.a (what's Doctor Greenspan Really up to?)
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It was once told to me by an old friend that Prince Philip ruined the Monarchy in the 1960's, when under pressure to modernize, he let the "light in" so to speak. Monarchy and Magic are very similar in that there is great aura and mystique but once you open the curtains and let the light in, it's all over. After all, would you Die for King and Country if you knew he burped, picked his nose and told his rather dilapidated mistress over the 1G airwaves that he would like to morph into a tampon and be, (to get round the editorial constraints of my compliance department), parachuted into a particular region where the sun don't shine (much)[1]. No, Not me Neither!
Which explains why my Grandfather's friends laid down their lives for George V and my Dad and his mates gave their best for Bertie. - coz I would bet you a pretty penny (or a Hamburger next Tuesday) not one "Tommy" could in their wildest dreams think That about their Monarch.
THE ELEPHANT IN THE MAGIC SHOW
The job of a central banker, though much removed from the splendor and majesty of Monarchy, carries the same degree of risk: Greenspan is elevated to demi-god status because his elongated sentences, brim full with difficult words delivered almost in an incantation creates the Magic of a Magician. But if one can see how the Magician hides the metaphorical "elephant", he promptly returns to earth, as the mere performer, in a Magic Show.
So what's the Elephant in Chairman Greenspan's Magic Show?
In a Word: Real Estate.
In a Sentence: Real Estate, not Stock Markets, cause Depression when they crash.
In an Action: Prevent it, at all costs.
You see, when the stock market collapses, shareholders particularly those on margin, get into trouble and their day-to-day broker loans are closed out. He goes home licking his wounds, but the broker is ordinarily unscathed as the Margin buffers his loss. The man in Real Estate however, holds a long-term advance backed by Real Assets, not the "foolish" paper claims of his unfortunate stock market cousin. So he waits it out for the recovery to unfold.
But the downturn takes away the demand for Real Estate. Taxes and interest expense on his loan, however, go on and on as it is a long-term advance. Moreover, unlike his cousin with "foolish" paper claim's, he is on the wrong side of the "margin" buffer. Leveraged upwards to 20 times (unlike 1 time for his paper cousin) he suddenly realizes the real spelling of Real Estate: Immobiliare. His banker suddenly learns Latin also. As he is ground down so too is his Bank. And then abracadabra, we have a Banking System Crisis and credit crunches to a halt: In Chicago in 1933, 163 out of 200 Banks suspended payment. Real Estate loans were the largest single element in the failure of 4,800 Banks in the years 1930 to 1933,[2]and the resultant complete and utter breakdown of the entire US banking system.
"Bah Humbug!" I hear you say?
"It was too long ago, stop reciting, irrelevant ancient history" I hear you say?
Well, wind forward 60 years and the evidence from the next two examples are spine chilling:
1. Black Monday, 19 October 1987.
On that day, markets did it again: the Dow lost 508 points or 22.6% of its value in one day. More than 1929. But the Fed poured money into the banking system to forestall trouble from broker margin calls. Banks did not so much as shudder. 50% margin requirements did the stock boys in, but the system stood firm. I should know, as I was a fresh faced accountant with Peat Marwick Mitchell at the time working on the Wells Fargo audit. Just as it would happen, I was performing my SEADOC and Compliance audit [3] in the trading room, when the ticker went straight line down. Alas, the "window-jumping" watchers were badly disappointed. No speculators or Tycoons had to have their faces removed from the pavement with a spatchula. [4] The Magician had worked Magic, and Equity markets resumed their climb. However, the agony in Real Estate became Real. And it was drawn out. Construction slowed down to the rate of buildings finished. New Starts stopped. Vacancy rates in office buildings hit "the Roof" and California's and Texas' Bankrupted S&L's sent the Nation's Banking System into shock. All the Magicians Horses and All the Magicians Men couldn't put this Humpty Dumpty back together again. The FSLIC rescue cost the Nation hundred's of Billions of dollars, 2 recessions and 10 lost years. I should know as PM&M were one of the Biggest S&L accountants in the late 80's and early 90's and my overtime check showed for it, Big.
2. The Japanese Stock Market Crash of 1990.
Again, primarily from Real Estate. When the Value of Land in Tokyo exceeded that of every last square inch in the state of California, which happens to be larger than the entire Japanese Empire, we begin to fathom why 12 years later, Bad debts of the Japanese Banking system exceeds the GDP of the State of California (itself the 5th Largest GDP in the world, if an independent nation) by a few factors. [5]
Naturally losses from portfolio investment, foreign assets, cross-shareholdings and the like pile the numbers even higher, but the case was and still is Immobiliare.
HOW TO HIDE THE ELEPHANT IN THE MAGIC SHOW
Now we know what the "elephant" is in this Magic Show, we can reveal the Magician's trick to hide it:-
The Interest Rate Rally in Long Bonds.
So long as the yields on long Bonds can rally lower, Homes can be refinanced, Equity can be extracted and all cashed up and feeling "loaded", the consumer can pump cash into Durables (Home Sales, Auto Sales at records) and non-Durables alike. With the yield gap between Fed Funds and 10 years treasuries @200 bps the Rally has a Long, Long way to go: We estimate the sustainability of this trick extends to curve flattening levels, but cannot go on once the curve inverts. But of course at that point the Magician still has 175 bps of cuts to go!
But just as when David Copperfield's illusions are revealed, his Magic Shows nonetheless remain fascinating, so it is with Chairman Greenspan. The light has now been let in on his Act, but he is as mesmerizing as ever - he understands clearly what professor John Kenneth Galbraith said so long ago in 1954, that it is "the investment function we still suppose to be less stable than the consumption function." [6] It is Business Sector/Investments that is always the weakest link. The consumer has always been the Rock of Gibraltar. In 2000, Business' heavily pulled back Investment because it had over-invested. The resultant inventory correction was familiar to all recessions that had come before. But the Magnitude of the over investment was unfamiliar - only matched once before in 1929.
It is at this juncture, where 2 roads diverged in the yellow road of economics, that Greenspan chose the other fork in the road, whose leaves no steps had yet trodden black. In fact, the very road Hoover, Strong, Mellon, Churchill, Norman etal did not choose: He remains mesmerizing for he understands the only way to sustain the forward movement of our economy is to keep consumption spending up. This can only be done by sustaining Real Estate - at least until Business has self-corrected its own excesses through Chapter 11's, 7's, M&A's, Privatizations and Re-Sizing's and is ready to Invest again.
And if Greenspan pulls this off he will have truly been the Last of the Magicians for he will have averted the Great Depression that visits the earth every 60 or so years. [7]
And my wager is that he will.
For he has taken us down the path less traveled by.
And that has made all the Difference.
Adrian Churn
3rd September, 2002
Victoria, Hong Kong
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FOOTNOTES
[1] This speculative line of questioning is solely attributable to yours truly….. My pal was always Mum on this one. [Back]
[2] Homer Hoyt, One Hundred Year of Land Values in Chicago: The Relationship of the Growth of Chicago to the Rise in its Land Values 1830-1933. (1933) [Back]
[3] Only a die hard PM&M alum would appreciate the pain and punishment of this particularly excruciating ritual. PFI is all I can say. [Back]
[4] In the weeks following Black Thursday 1929, the Fleet street gutter press "delightedly" told of the scenes in downtown Manhattan. "Speculators were hurling themselves from windows; (whilst) pedestrians picked their way delicately between the bodies of fallen financiers." - John Kenneth Galbraith, 1954. But this "suicide wave" is only the stuff of Legend - in reality there was none. But through the ages we have all grown up around the stories of wall street window jumpers.... [Back]
[5] "The State of California is the largest state economy in the United States. It accounts for 16 percent of the U.S. GDP and produces $1.3 trillion in goods and services annually, making the state the 5th largest economy in the world", State of California, Office of Trade and Investment - September 30, 2002.
"Masajuro Shiokawa, argued with his own ministry about whether Japan might be ready to use public money in cleaning up more than $400 billion in problem bank loan...", The New York Times - September 29, 2002. We at SBI China Provident believe Shiokawa-san is only referring to the tip of the ice-berg. We believe, based on credible evidence to date, using US GAAP accounting, that bad and doubtful advances is on the order of $trillions. [Back]
[6] Professor John Kenneth Galbraith, 1954 [Back]
[7] Counting backwards until it gets a bit tedious we have the Great Depression's of 1929-41, 1873-96, 1810-1919, 1763-72, 1636-37…… you get the picture. For One Helluva Depression try the Depressing Depression of 1338-1448, this was the Depression of the Hundred Years War! [Back] |
