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Strategies & Market Trends : Graham and Doddsville -- Value Investing In The New Era -- Ignore unavailable to you. Want to Upgrade?

To: Freedom Fighter who wrote (803)	9/24/1998 9:57:00 PM
From: Freedom Fighter	Read Replies (2) \| Respond to of 1722

Fleckenstein - The socialization of risk and the end of the bull market in central bankers. Yesterday we reported that long-term Capital Management blew up. Last night there was a big rescue plan whereby banks will own 90 percent of the company. The Fed seems to have been the chief engineer behind this plan. We must not forget that David Mullins is an ex-Fed vice-chairman. Now we have a new moral hazard in this country whereby certain hedge funds are deemed too big to fail. First we had banks too big to fail in the 1980s, then the entire S&L Industry in the early 1990s. Then when Mexico went belly up, we saved them, which gave us the last horrific leg of the bull market (go check a stock chart). Next we tried to bail out Asia and Russia. It didn't work, so now we are reduced to bailing out the first hedge fund (AKA: leveraged investment partnership). This is the complete and total socialization of risk. In the end, we will print money no matter what, to save anything that we deem too big to be disruptive. The Fed has no problem fomenting a gigantic bubble, but when things stop booming the Fed finds itself in the bubble management business. They don't want to let the consequences of the boom assert itself. They will be unsuccessful. I know I have said that this is a stock market bubble, which is a very pejorative term. Let me try to substantiate that claim. What has been going on during the last five years has nothing to do with investing in businesses - this has been about speculating in stock prices. Here are some numbers, courtesy of Net Davis. Since 1990, the S&P Industrial average is up 247 percent, while revenues are just up 34 percent. The S&P Industrial price-to-sales ratio has gone from .66 to 1.72 (compared with the 43-year norm of .8). Stocks are twice as expensive as on average. We have managed to grow sales at 3.8 percent per annum, in what some people consider the "best of all worlds." Yet in that same period stocks have soared on average 17.4 percent. At the end of the day, stocks have gone up because we have had a giant chain letter. As long as the public was sending Wall Street $3-5 billion each week, so they could wake up rich in 20 years, we could have a rip-roaring stock market. It had nothing to do with fundamentals. The battle cry was, where is all the money going to go? - implying stocks must rise forever. Guess what? We didn't have too much money, we had the ILLUSION of too much money caused by MASSIVE leverage. It has been a bubble, which began to unwind last year. We haven't even had great earnings growth, let alone great profit growth. The profit growth that we have seen is a result of creative accounting, like RECURRING non-recurring write-offs and stock options. This has been an exercise in financial engineering and a mania. Yesterday I had some unkind words for Chairman Al and the gang. Don't take my word for it. I would like to quote from one of my favorite stock market pundits, who most of my readers probably have never heard of, a woman named Joanie McCullough at Bear Stearns. (Don't ask me for her web site - this is something that I get as a professional.) She said: "Yesterday, he made the switch to justifying his new attitude by citing 'disruptions abroad' and 'more cautious behavior by investors at home' which has struck a 'balance'. ('Cautious behavior?' You mean the guys who got their socks blown off in August? 'Balance'? Surely he must mean 'between a rock and a hard place'!) All along he knew he had a meeting at the Fed several hours later to frame a bailout for a huge and noteworthy hedge fund. Question: Who else knew?" She continues: "What he should have said was this: 'I have irresponsibly pumped money into the system hand over fist, which has served to make it easier for folks like hedge funds to leverage themselves to the point where they are a threat to the globe. Now I have no choice but to cut rates so that one of the biggest won't go down and make mincemeat out of the banks and financial sector in general. I have no alternative but to continue to foster this stock market bubble.'" I think that says it all about Easy Al. Last fall/winter when Asia started to blow up, I recommended that every one read the book "Fiasco" by Frank Partnoy. He was a derivative salesman at Morgan Stanley. The book illustrated the inter-linkages of all these different derivatives and the Mexico bailout. Anyone who didn't read it should read it now, because U.S. taxpayer money is being wasted and we are just creating a bigger and bigger problem to be addressed down the road. Greenspan keeps getting us into the soup and then tries to fix it by easing, which will make it worse before it is all over. I think that people will soon begin to realize that that the virtuous circle of the Fed's "dis-inflationary policy" has ended. In fact, that policy ended the minute Alan Greenspan took his seat as Fed Chairman. World events conspire in such a way not to give us any consumer price inflation. In the 1990s we had the first post-cold war economic boom, which brought in lots of new capacity. We had NAFTA, which brought in lots of cheap labor. We had tremendous productivity gains (everyone has a PC on their desk, which allows businesses to run more efficiently). This all helped keep CPI inflation down, but instead we had financial asset inflation. Now that we are seeing the fallout from the bubble, the Fed wants to stick their finger in the dyke and stop it from happening. Well, they might be somewhat successful in the short run, but in the long run it is going to be an even bigger mess. Today our last REAL central banker, Paul Volcker, had this to say in a speech in San Francisco. "Why should the weight of the federal government be brought to bear to help out private investor? It is not a bank." This Fed aid "has implications about public policies," he added. Finally, the voice of reason! Humor/Rumor of the day A friend of mine sent me the following e-mail, which I would like to share with you. Rumor that the Fed is putting together a consortium of banks to mastermind a $6 billion bailout for whiz-bang capital management. A Philadelphia-based hedge fund that borrowed five times its net asset value to take a huge punt on just one of last night's lottery numbers. Fed officials are concerned about systemic risk following the draw, in which only one of the numbers was right. The view of the consortium is that the position should be rolled over, at least until the weekend draw. WBCM's statistical models point to near certainty that the ticket combination will eventually hit the jackpot, after which an orderly liquidation of winnings will be undertaken.