Monday, January 19, 1998 What Next?Our panel grapples with the outlook
for '98, the Asian equationRoundtable DiscussionPart 2 of 5 | Part 3 of
5Part 4 of 5 | Part 5 of 5Not precisely reeling, but definitely lacking
in complacency. Maybe it was simply that we moved the location of our
annual daylong market-forecasting and stockpicking session a few blocks
north, to Soho from Wall Street. More likely, it was the Asian Contagion
-- and the going over it lately has been giving to markets closer to
home -- that was mostly to blame for putting the 11 members of Barron's
1998 Roundtable perceptibly on edge as we gathered last Monday. Not
jittery. Certainly not hyperventilating, like the TV commentators, over
that morning's nearly 9% plunge in the Hang Seng on top of the previous
Friday's 222-point retreat in the Dow. But the markets were (and are)
sufficiently akilter that the panel's mega-investors and super-seers
entered the meeting room just a mite chastened and willing to admit to a
bit of uncertainty clouding their crystal balls.Schafer Picks | Neff
Picks | Rogers Picks and PansThe panel was united in evincing a certain
wary edginess about the outlook for global economies and markets in the
coming year: "Asia is major." But they were in decided disagreement --
if not about what is happening -- about what it portends for
investments, in their own portfolios and in the world at large. Indeed,
even the most basic question -- is this still a bull, or is it a bear
market? -- elicited sharp disagreement. There was (happily) no
consensus. The group's couple of snarling bears faced off against
several determined bulls; a weak majority sought comfort in holding out
for some sort of middling -- and restorative -- correction. One that, to
be sure, would shave value only from other people's portfolios. Perhaps
most telling: the popularity of hedging. The hedging of bets, the
hedging of portfolio positions -- by putative bulls and plaintive bears
alike.As the roster above attests, we snared a highly esteemed new
participant, Scott Black, the small-cap and value-investing maven who
founded Boston's Delphi Management. This year's session was also graced
by a couple of old friends who returned Monday after several years'
absence: Barton Biggs, Morgan Stanley's global guru, and Art Samberg,
whose $2.5 billion hedge-fund group, Dawson-Samberg, regularly leaves
rival tech investors feeling as though they're in an old VW trying to
catch up with one of Art's 12-cylinder toys. Long-time readers will
note, too, that one Roundtable member of old didn't make this year's
meeting. (Something about an invitation from a judge that he couldn't
refuse.) But Mutual Shares' (and now Franklin Resources') Mike Price
promises to show up for a solo Q&A turn in the next few weeks.What
follows, in this first of three weekly installments of the Roundtable,
is the panel's wide-ranging discussion of the macro events that have put
them on edge, as well as the the stockpicking turns of three of their
number: Jim Rogers, Oscar Schafer and John Neff.Jim, it will be
immediately obvious, was deeply offended by this editor's suggestion
that our guests limit their picks to a handful of their best ideas, but
considerately limited himself to about 10 concepts -- and 40 or 50
iterations on those themes, ranging from going long an Asian chicken
company, to shorting Citicorp. But what the heck, after scouring the
globe to track the numbers, it can be reported that his even longer list
of '97 picks darn near gained triple-digits. And the longs did better
than the shorts -- something Jim is convinced won't happen this year.
Oscar, as is his wont, offered up a more limited list of investment
ideas. Most of which, no surprise, are stocks that his hedge fund,
Cumberland Associates, has taken substantial positions in -- either
because this ultra-painstaking analyst spies underworked and undervalued
assets or unrecognized growth potential. More often than not, it works.
Last year was pretty typical. Oscar's picks were up better than 70% at
their highs, and closed the year nicely ahead of the S&P, despite the
market's late-year swoon.John, the Windsor Fund's once and legendary
manager, was kind enough to interrupt his very busy retirement to join
us again. By nature bullish, John was a bit restrained Monday. Could
have been the train ride up from Philly. Or maybe mild chagrin at
watching his '97 picks fade in the second half into the "merely"
respectable mid-teens. More likely, though, it was the strain of all
that looking over the valley he was doing to generate a little
enthusiasm for his beaten-down cyclical picks. Now, read the good stuff
for yourself.-- Kathryn M. WellingBarron's: Why don't we start with
Southeast Asia. Felix?Gabelli: [Plays recording] "Nearer my God to thee
..."Q: Mario, you know, in this hotel, that's sacrilegious!Gabelli: I
want you to know, eight people played that last song on the Titanic and
there are 11 of us here.Zulauf: We have been dancing on a volcano for
quite a while and now it has started to erupt. I look at the Asian
crisis as a part of this deflationary process that has been going on for
years. We had excess capital that went into investments in the real
economy and we ended up with overinvestments, financed by debt. Finally,
the returns were not high enough to service the debt, so Asia has come
tumbling down. It is different from what we saw in Mexico. It's the
worst problem our generation has seen. A major calamity. It will have
enormous impact on the world economy. When one-third of the world
economy sees its currencies devalued by roughly 50%, there will be major
repercussions-and not just on trade flows. We have had major wealth
destruction in what had been the most vibrant part of the world economy.
Growth rates will come downnobody knows how much. But it is very clear
to me that economic growth will slow tremendously this year in America,
as well as in Europe. We could even get to recession-type levels late in
the year and early next year.Gabelli: Why in the U.S., Felix?Zulauf:
Because you are now triggering one effect after the other. The major
growth generators in this country are capital spending and the consumer.
The consumer will suffer in the stock market and has started to retrench
already. Credit delinquency rates in the consumer area already are very
high. So at the margin, the turn in the stock market will make the
consumer much more cautious. I expect the savings rate to rise from 4%
to 6%, which will push the economy and interest rates down. The same
thing will happen to some degree in Europe. This is a global affair:
weakening economic growth, maybe leading to a recession. It will hurt
profits tremendously. U.S. profits will be down this year relative to
last year, negative. And in equities markets -- where you have
tremendous overvaluation -- there is a lot of room on the downside. All
the equities markets will suffer.Q: That's an upbeat beginning. Jim,
you're always optimistic.Rogers: Sell! Nearly everything that Felix said
is right. But you do have to differentiate between deflation in
financial assets and deflation in the real world. All those Asian banks
are printing money like crazy right now, so there is inflation in all
the Asian countries.Zulauf: Basically, we have a deflationary process in
the world economy.Rogers: There's certainly a deflationary process in
real estate and financial assets, which will continue. We've had a
17-year bull market. The greatest any of us have ever seen. In fact,
maybe the biggest in world history. It's overdue for a setback. I don't
think it's the end of the world, but it is going to be the end of the
world for a lot of investors. For Peregrine Investment Holdings, it's
already the end of the world. It's not over yet. It's going to get a
whole lot worse. The problem is that all the markets are intertwined
now. In the old days, Hong Kong didn't have to follow the U.S. and the
U.S. market didn't have to follow England and England didn't have to
follow Australia. Unfortunately, now there is so much money sloshing
around, mainly in American mutual funds, that problems in one market
cause them in others. I cannot imagine my mother calling me up and
saying, "Jim, I'm losing money in IBM," or "I'm losing money in
Vanguard, take my money out and put it in Ethiopia or Argentina."Q:
What's wrong with your mother?Rogers: She's a delightful lady. But she
doesn't really understand. Many people are saying, "Just take your money
out of the U.S. and put it in other countries now." But quite the
opposite will happen. People will take their money out of everywhere,
especially when they start losing money abroad. They are going to sell
their IBM, and their Fidelity, and their Argentina. I'm desperately
looking for things to buy -- and I'm very hard-pressed to find anything
in the financial markets.Q: Art, are you with us?Samberg: I'm here.
After four years!Q: Because of the last time, that's why.Samberg: I have
the record. I'll stand by it. My reaction to Asia is that I, personally,
always have been a growth-stock investor. As such, I invest in
industries where deflation takes place all the time. There is a big
problem in Asia, but I don't think it'll affect the way I invest.
Companies in industries where prices go down have been the growth
engines for a lot of what has gone on in the U.S. Somehow, we'll muddle
through, I suspect. But I'll defer to the experts.Q: We didn't invite
any.Samberg: Not me, certainly. Maybe Barton will have something to say
about Asia when he gets here. But I'm not intimidated by the
environment. There are more important changes going on in the companies
I follow than what's going on in Asiawhich obviously will be a demand
suppressant. But hey, I've been investing in these kinds of crazy
markets forever.Q: Oscar?Schafer: Art reminds me of what [Goldman
Sachs'] Abby Cohen said, that the U.S. is a supertanker and probably
wouldn't be hurt much. But frankly, this is the year of the Titanic. A
lot of companies will feel an Asian impact and it will be like hitting
the Asian iceberg. I agree with everything Felix said and would like to
expand on a few things. One is the reason that Southeast Asia is
different from Mexico, besides the fact that it is much larger: Mexico
had the U.S. to bail it out. In the Far East, Korea depended a great
deal on Japan. We haven't talked about Japan yet, but Japan is in a
recession. Then, too, in the 1980s, we basically let the Brazilian and
Argentine banks fail, take huge hits. Now, the IMF is basically trying
to bail out the banks as "too large to fail." It seems to me that this
presents a moral hazard -- as in, if you have seat belts, you may drive
a lot faster. Likewise, the banks have been much too free in their
spending -- and that is going to come to a grinding halt. So, I disagree
strongly with Art. Especially since he has a technological bent.Samberg:
A growth bent.Schafer: All right. But I assume technology is the
biggest part of Art's growth component. A large part of growth has come
from Southeast Asia. What's going to happen, going back to Felix's
point, is that Asian companies that borrowed a lot of dollars and now
see their currency down 50%-80% (and therefore have to repay those loans
in a depreciated currency) will try to produce a lot more goods. They
are much more competitive here.Q: They still import oil and other raw
materials priced in dollars.Schafer: When they have to import raw
materials, that part of their cost index is not going to go down. But
labor and indigenous-materials costs are way down. When the problems
started in the fourth quarter, Korean manufacturers didn't have time to
export cheaper goods to the U.S. or Europe. Instead, they exported to
China and Japan. This year, though, those exports will flood the U.S.
and Europe. A lot of companies, which haven't seen it yet, will have
real price competition, real profit problems -- while the labor market
is pretty strong -- that they'll have a tough time offsetting with
productivity. We have to differentiate in 1998 between companies that
are affected by what's happening in Asia and those that aren't. As
[Merrill Lynch's] Bob Farrell said, "There is no place like home." We'll
find out how insulated Art's companies are.Samberg: I'm egging you guys
on.Schafer: I agree with Felix, with a third of GDP having real
problems, this is different from Mexico. We are going to have a very
tough time in the economy and the stock market.Rogers: I would just
point out that the financial markets and the economies are different
things. Both are being affected, needless to say. But the financial
markets more so, because now these countries are starting to practice
protectionism and controlling their currencies -- which will make the
financial situation even worse than the economic.Zulauf: We haven't seen
it yet.Rogers: Oh, yes. We are starting to see protectionism. In
Malaysia, Thailand. They are all starting -- even Japan -- to put
restrictions on moving your currency. The Japanese have put on
restrictions against selling short. They blame the financiers when
things go wrong.Zulauf: The real risk is that the U.S. drifts into
protectionism.Rogers: I'm coming to that.Zulauf: The U.S. should
function as the importer of last resort. If it doesn't, we are in real
trouble.Rogers: I agree; we are in trouble anyway, Felix. Protectionist
sentiment is rising. It will be easy for congressmen to say, "Asians are
putting on protectionist measures, so we've got to do it, too."Q: The
Japanese are already selling cheaper cars here. It won't be long before
we again have "voluntary quotas" -- except this time Japan really can't
afford to go along.Schafer: I agree. What happens politically will be
key. In the late 'Eighties and early 'Nineties, the bond-market
vigilantes really had an impact on what governments did. If governments
had too-high deficits, if inflation was too high, interest rates went up
and essentially choked off the economies. Now, in the Asian countries,
we're seeing equities-market vigilantes. The key is, whether places like
Indonesia eliminate, reduce or deal with their political corruption and
do what the IMF wants. If so, the problems won't be so bad. If they
don't, the problems will be exasperating.Rogers: It's much worse.
Indonesia is not going to survive as a country. Who cares whether
Indonesia goes along with the IMF? This will tear Indonesia apart; it
won't be a country in five years.Zulauf: Politics will become very
important this year, no question. You have to have the U.S. politically
agreeing to help bail out Asia by letting the trade deficit widen in a
major way -- and the Chinese agreeing not to continue the spiral.
Schafer: What spiral?Zulauf: The deflationary spiral in Asia. You also
have to have the central bankers here and in Europe helping by creating
liquidity. The whole thing is too big for the IMF to handle. The IMF is
running out of money -- and that's probably good. We have to have major
failures so that, in the future, commercial banks lend in a different
way. On that, I completely agree with Oscar.For the first time, readers
can share their views on the topics raised by panelists of Barron's
Roundtable. The discussion groups begin Saturday, January 17th, and will
continue for the next three weeks.Q: Certainly this country and Germany
are not going to kick in more money to the IMF. So there will be huge
bankruptcies, you're saying?Zuluaf: Probably a big part of the bad debt
in Asia will not be paid back. Or will be paid back at 70 cents to the
dollar or so. There are going to be huge losses for the banks -- which
have big weightings in the equities market indexes.Q: U.S. banks don't
have the largest exposure there, but it's substantial.Zulauf: It will
take a major central bank effort, combining political will and money, to
turn it around. Rogers: There will either be major bankruptcies or
somebody is going to have to print money. Because the IMF doesn't have
any money, and I hope to goodness nobody gives them any. The Asian
central banks are already printing money at over 20% a year. Last month
the Japanese central bank increased the money supply 1% per day. Not per
week, not per month, per day. They're printing money like crazy.Zulauf:
But it doesn't help. It's a rotten system. The Japanese central bank
has to buy all the bad debt at face value.Rogers: Who's going to pay for
it?Zulauf: That would mean the Bank of Japan would increase its balance
sheet by 100%.Rogers: So then the Japanese yen goes to 250 --Zulauf: Or
to 160 or whatever.Rogers: Then what happens to the balance of trade
around the world?Zulauf: As I said, the politicians and the central
bankers will have to work hand-in-hand. If they don't, the potential for
something going very wrong --Rogers: Let's work that through. If the yen
goes to 160, what are the central banks going to do? Go to American
politicians and say, "Look, guys, the trade deficit has to go to $300
billion. Just accept it." Do you think Congress is going to sit still
for good old loyal Americans being thrown out of work?Zulauf: If they
don't do it this way, it will happen anyway -- at a much bigger cost.
Rogers: I understand that very well. If you don't bite the bullet now,
it gets much worse in the end. And you're saying they won't bite the
bullet now.Zulauf: Well, I think Japan is in for a major policy turn
sometime this year, because they are forced to it. Otherwise, the system
will break down. So they'll have to act -- which has implications for
the dollar/yen. Alan Greenspan is the only central banker who
understands this.Q: Carlene, what say you?Ziegler: The way I see it,
what caused the crisis in the first place was all this cheap money being
given to these countries and spent on capital equipment. Now they have
all this extra capacity. It's a supply/demand issue. There's just more
productive capacity than needed, especially in that part of the world.
At the same time, the currencies were pegged to a strengthening dollar.
They got noncompetitive, had to devalue. But the devaluation doesn't
solve the capacity glut. That's what they have to grapple with. It'll
take a combination of letting the bad investments that don't generate
returns go under and getting the central bankers to take policy steps
that will let demand come back up to supply. I don't know if it's easy
money, tax cuts, or more government spending. But the best way to get
out of the crisis is just spend our way out. Which is not exactly what
the IMF is attempting. They want restrictive policies in that part of
the world, which could prolong the crisis.I also think the protectionist
threat is very big. The only good news out of all this is on the
inflation front here. Our economy was very strong going into this. And
it does put the brakes on. How much, we don't know yet. But on goods, at
least, there is going to be no inflation this year with all the cheap
imports. It also means that the Fed can't raise rates.Q: John?Neff:
Asian contagion is going to take something out of our economy. I would
not be too far from the conventional wisdom, which says a half-percent.
Our percentage growth in GDP last year was in the high threes. Maybe 2%
or something like that is a decent guess this year. The reason it isn't
worse than that is that the three areas where we typically develop
excesses -- capital expenditures, inventories and consumer debt -- all
look okay to me.But I am a little hard-pressed to wiggle my way out of
the Asian challenge, particularly when the granddaddy of them all, |
