It's gone into...houses
I don't normally post paid sites' stuff, but for the second time in two weeks I'm going to make an exception. Fleck's missive tonight is so on target it should be read by everyone on the planet.
Reality vs. Fantasy: The Debate Continues
By Bill Fleckenstein
Special to RealMoney.com
07/11/2003 05:39 PM EDT
Buckle up, folks, and head for the "print" button. This is a long one. The overnight markets were kind of a nonevent, with the exception of Japan, which got clocked for 3%, its first serious decline since the little run that began a couple of months ago. In last night's big earnings news, GE (GE:NYSE) reported results that were -- surprise, surprise -- right in line, though it did lower guidance. The early going saw that stock up modestly before closing kind of unchanged.
'Ex' Marks the Blind Spot: Over in the stats-du-jour department, the trade deficit printed at $41.8 billion, approaching world-record territory. The producer price index showed a rise of about 0.5%. That's if you don't ex out the offensive items. (Of course, ex the offensive items, we have deflation.) So on the surface of it, the Fed is winning its battle against "no inflation." It is still remarkable, though perfectly in keeping with the environment, that folks choose to look at the inflation rate, ex offensive matters; and earnings, ex bad stuff. The refusal to deal with reality, and the embrace of denial are amazingly alive and well thus far in the aftermath of the world's biggest mania, which sets the stage for a gigantic dislocation somewhere along the way.
In any case, the early action was slightly firmer, with nothing worthwhile to report. Over the course of the day, the market basically ground higher until about midday, and then spent the rest of the afternoon surrendering some of those gains. However, we still finished nicely positive, as can be seen from the box scores. I did not notice anything too remarkable to report, other than the fact that tech was kind of weak on an up day.
Debases Loaded: Away from stocks, fixed income was a touch firmer (as was fixed income in Japan, where yields are back now slightly under 1%, at 99 basis points). The euro was smoked in overnight trading, on the back of German Chancellor Schroeder's front-page comments in the FT calling for a weakening of the euro. That, plus a little spat between him and the Italians over name-calling, can't make folks feel too warm and fuzzy over the euro. At the end of the day, the euro is just another piece of confetti. It's just a little less offensive than the dollar. That said, the euro did stabilize, down about 0.75%.
That brings me to a point about gold, which is the real currency in all of this. Recently, gold has tended to trade along with the euro, but it has now begun to shake off the shackles of trading "with" other currencies, and started to trade on its own. We are definitely witnessing the race to debase (thank you, Joanie), as the Japanese finance minister also made comments last night about his currency being too strong. So basically, nobody wants a currency that's worth a damned thing. That's why gold will rally against all of them.
Sharpening Acumen in Metals Accumulation: Meanwhile, though gold has been the metal to do better first, silver will do the best percentage-wise over time, in my opinion. I have stated the bullish case for silver at length in the past, but rather than reprise it here today, I would like to share a story by Jim Puplava that a reader forwarded to me. Though I don't necessarily agree with some of its contentions of manipulation, the facts are by and large accurate.
One further word on accumulating precious metals and precious-metals stocks: As mentioned lately, I have been adding to my position in gold. We may have one more drop in gold ahead of us, or we may not. Folks who intend to put a position on should have some decent chunk of their position on already. My investment position has been fully set for some time. Now my trading position is nearly full, though I do have room to add, should we get one more decline. But I think we're getting closer to the end of the decline in the gold market.
Amplifying the Insanity, Via Email: Stepping up to the soapbox, I hope readers will bear with me as I share some emails that help to illuminate two themes discussed here over the week: the bubble in real estate, as described so vividly by John Templeton; and the disconnect between what's actually happening in technology and folks' insistence on arm-waving that reality away (witness, for example, an umpteenth dead-fish recommendation of Intel (INTC:Nasdaq) this morning).
State of the Real Estate Bubble: First we'll hear from a professional investor in the real estate market:
I am a partner in a private real estate equity fund that targets opportunistic investments. I have been doing this for about 15 years, and I witnessed the meltdown in real estate during the early 1990s. What I have seen in the last few months in the real estate capital markets is the most terrifying misallocation of capital that I have seen in my career. Our firm is avoiding new investments right now and trying to liquidate the investments we currently have in our portfolio as quickly as possible. There is literally an unprecedented flood of capital, most of it completely ignorant and uninterested in real estate fundamentals, coming into the market right now.
He continues:
Commercial banks are fighting to finance speculative construction projects in markets that are already overbuilt and where rents are declining. The same commercial banks are now making mezzanine and equity investments themselves. Fee-driven syndicators have raised literally billions of dollars, much of it from retail investors in small increments, and they are using it to bid cash-flowing properties up to unbelievable prices. Pension funds are actually the relatively conservative players in the market, although they are being forced to buy properties on ever-lower-cap rates in order to invest their dollars. Even opportunity funds such as our competitors are making speculative bets on condo conversions, condo development, even industrial and office condos, anything to justify the high prices people are paying for the real estate.
He concludes:
All of it is driven by these artificially low interest rates engineered by Alan Greenspan. My expectation is that Greenspan's reckless experiment will destroy the real estate market, just as his previous experiment destroyed the stock market. Why is this imbecile allowed to keep acting like God and playing with people's lives like this? Will he ever be stopped? What has to happen for this monster to finally be driven from office?
I wish I knew the answers, but my suspicion is, after the next leg of the bear market, Greenspan will be thoroughly discredited, ridiculed and probably be forced to resign.
A Reader Reflects on Tech's Disconnect: Turning to the disconnect in technology land, I'd like to share the view of a knowledgeable IT insider:
I thought I'd chime in with my thoughts on tech spending and the likelihood of a 'tech recovery' anytime soon. I am IT manager for a midmarket company in Los Angeles. In this position, I am involved in all facets of our IT spending decisions, covering computers, telecom, software, services and some peripheral items. In the past, I've worked for large tech suppliers including Hewlett-Packard, Intel and SAP, as well as for a couple of the larger SIs, and maintain a long list of contacts throughout the business, on both the "buy" and "sell" sides of the tech world.
The first thing I usually ask when people talk about a "tech recovery" is: "recovery from what?" In my region and in the businesses I follow, we have seen some degree of bounceback from the lows of 2002, and may see some more increases going into 2004. However, I view this as nothing more than a bounce-back from an untenable low in spending. To use a poor metaphor, we have done nothing more than refill the gas tank after running it down to fumes. But we aren't really driving more than we were a year ago, and we're certainly not buying a new car.
A contributor to RealMoney suggests that when profitability returns, companies will spend more on technology. He seems to believe that there is a de facto causal relationship between the two. I wonder when he last spoke to anybody who purchases technology. While profitability has always been a key criterion for large purchases, in my experience it has only been a gating criterion. Even in the best of times, other things need to fall into place, and the big one is a demonstrated (or at least perceived) business need for the new stuff. That, to my mind, is the biggest difference between this period and all previous ones.
The PC business is a perfect example of what's going on today and how it differs from past cycles. In the 20 years since the introduction of the PC, we have seen cycle after cycle of upgrades. Every single one of these has been driven by new and compelling capabilities that made new hardware a necessity. Not only that, but most of these cycles also introduced new capabilities that made PCs more compelling to more people. In each of these cycles, we had to replace everything we had and also to buy more. Virtually all these cycles were driven by new software.
During my tenure there, Intel's upper management recognized and openly spoke of this 'software spiral' as being the driving force behind PC upgrades and the addition of new PCs to the installed base. So long as Microsoft (MSFT:Nasdaq) (and others) continued to write hungrier and hungrier applications, with more and more compelling uses, people would continue to buy more and more capable PCs.
Today the software spiral is not driving anything. I am running current office suites and other applications on PCs that are four years old. I see no new applications that would require me to upgrade my company's hardware, and certainly there is no reason to deploy more PCs, as everybody in the organization has one. The only reason for me to replace PCs right now is that some of the oldest ones -- at my company, these are mostly four- to five-year-old boxes -- have gotten cheaper to replace than to keep repairing.
But even these replacements have a very different character than previous cycles. All the PCs I'm replacing are quite capable of doing the job, and anything on the market today is more than capable of replacing them. So we are replacing old broken boxes with new, inexpensive, bottom-of-the-line ones. If I could save money by buying even less capable ones, I would. Eventually, some new application will come along to require more resources, and at that point we will need to think about a real upgrade, rather than a replacement program. But in the meantime, we replace things on the cheap and will hold off on any major upgrade programs until there is some compelling reason and a clear idea of what we need to upgrade to.
The impact of all this on our suppliers and their suppliers is clear: Hardware makers, semiconductor makers, disk drive makers and everybody else will need to get used to selling more of those low-end, lower-margin products. That's anathema to companies like my former employers, which have always made the bulk of their profits at the high end of their product lines.
The same RealMoney contributor I cited above states that the introduction of new wireless notebooks will somehow provide the kind of demand for new PCs that previous software cycles did. I do not doubt that in some businesses, and some sectors, this may be true. Certainly in the highly mobile world of Wall Street analysts, hedge fund managers and investment bankers, the usefulness of such devices is indisputable. But even they need to go no farther than their own trading floors or operations departments to recognize that a large number of workers will never be able to be mobile in the same way.
In my company, less than 5% could probably have a reason to use a PC away from their regular workstations. The vast bulk of them are on the phone taking orders, resolving customer issues, entering data, making payments or shipping product. These are not activities that would tend to make wireless PCs a compelling investment. And in truth, the vast bulk of these low-wage employees would never be trusted with taking home a $2K to $4K piece of equipment in any case. Much the same is going on in all other sectors of technology.
We have all the networking equipment we need. Until we start adding employees and physical locations, we will not need more. Newer equipment may be more capable, but unless we need that extra capability, there is no reason to buy more, and merely increasing our profits will not tax our networks, which are already substantially overbuilt. Our databases and storage handle our information needs quite adequately. In fact, due to recent privacy rules, we're finding that we have to purge information more quickly than we had in the past.
In enterprise software, my organization is using more of the features in our enterprise software suites. Like many other companies, we never learned the full capabilities of our software when we installed it during the Y2K boom. Now we are slowly taking advantage of what's already there, rather than buying more. These packages are so multi-faceted that few people I know claim to be using them to their fullest ability, and many are walking away from huge "upgrade" projects in favor of making better use of what they already have. This process is having a huge impact on large systems integrators who have historically made their money on large implementation projects, and are now bidding for minor "enhancement" projects at cut rates.
To sum up, I see no compelling reason to believe that many companies will start throwing large amounts of extra money at technology, even if profits do recover substantially in the coming months, and no reason to believe there will be any significant increase beyond 2003 spending levels if the economy does not recover.
Sallying Forth Through Bullish Froth: Folks, keep those last words in mind as you now read the comments by Dell (DELL:Nasdaq) President and COO Kevin Rollins in "Dell Turns Red on President's, Analyst's Views," published yesterday on CBS MarketWatch (which I couldn't confirm). All I can do is marvel at the stunning disconnect of folks ignoring the prevalence of data points that show no indications of any improvement -- as they make the case for just the opposite. This is the biggest disconnect I think I've seen in my career, even bigger than during the bubble.
Gott Leverage?: Finally, I would like to share a story forwarded to me (also from CBS MarketWatch) titled "It's Time to Leverage Your House for Long-Term Profits," which helps underscore the current environment. In the story, Kacy Gott, chairman of the Financial Planning Association of San Francisco, makes the claim: "Any time you can borrow money cheaply and invest in something that you expect to earn a better rate of return over a long period, you're going to be better off." So, the story suggests, you should borrow money against your house and put it in the stock market. It says that this approach "holds limited long-term risk compared to late 1999, since investors would be embarking on the strategy after one of the longest bear markets in history, rather than near the close of the longest bull market ever."
Obviously, that presupposes the bear market's over. If it's not over, as I suspect, this is a recipe for disaster. But it does go to show how people all the time these days are willing to disregard risk and argue from a false premise, i.e., argue the notion that this bear market is over. (That's is in keeping with a story in yesterday's Wall Street Journal titled "Can This Portfolio Be Saved," whose advice was almost as maniacal.) In any case, I hope all these data points will be useful as folks try to piece together the mosaic and decide whether they want to bet on lucky number 13, or protect themselves for what happens if lucky 13 turns out to be a bust.
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William Fleckenstein is the president of Fleckenstein Capital, which manages a hedge fund based in Seattle. Outside contributing columnists for TheStreet.com and RealMoney, including Mr. Fleckenstein, may, from time to time, write about securities in which they have a position. In such cases, appropriate disclosure is made. At time of publication, Fleckenstein Capital was short Intel, long Intel puts, although positions can change at any time. Under no circumstances does the information in this column represent a recommendation to buy, sell or hold any security. The views and opinions expressed in Mr. Fleckenstein's columns are his own and not necessarily those of TheStreet.com. While Mr. Fleckenstein cannot provide personalized investment advice or recommendations, he invites you to send comments on his column to bfleckenstein@thestreet.com. |
