El: I keep hearing that, especially from you, and sometimes I have to ask myself if I'm mad. But to be perfectly honest, I am amazed at the lack of methodological rigour displayed on some of these boards.
What I try to do is examine the actual words and the actual figures, and ask "how do they know that?". At the end of the day I am as vulnerable as the next person if a company sets out to deceive, or if there is a major change in market conditions. I am less concerned about deceit from a company, which is accountable to the SEC and the shareholders under the law, than from third parties who are accountable to nobody and may only lose their job if they author false or misleading or badly researched opinions.
I am not swayed by the position a person holds or their title or their organisation. Indeed, journalists, celebrities and their ilk are to be trusted far less than the Company. They try to fill a demand for words about the fear and greed that prevails in the market.
Many times the rather formidable print title of Chief Investment Strategist at Worlds-most-Knowlegable Brokerage House turns out to be a 27-35 year old nerd who has never run a company or even worked in a company other than financial services. So often their analysis is predicated on re-cycled second and third-hand stuff. Look what happened in the CPQ case: 6 or 7 analysts made major calls on the basis of what they read about CSFB report of an alleged warning received from CPQ. They are stuck with their calls now until earnings gives them an out.
One of my former American students, has become a leading financial journalist for a major newpaper in your country. I can tell you I know him very well and I can also tell you he knows nothing about business or investment except what he reads in the papers or what he gets told by companies and analysts. He makes no bones about it. He got into it when he failed as a regualr journalist, took a job in the IR of a major mining company, and then returned to journalsim on the basis that he had been IR for that comapny. He was given his leadign postion as fianncial writer on that basis alone. BTW he follows my stock picks even to this day.
I know many of his colleagues from the wire services and other publications, and I have long years of workign relationships with the press on other topics. Financial journalists are mainly the products of schools of journalism (or are self-taught) they have no other business or financial training.
Of course I think COMPAQ is a fine comapny. Of course I will not grab at every piece of "news" about it as though it were gospel.
March 15, 1999
Interview, Part 2
Interview, Part 1
Q: Aren't you the least concerned about oil's rise?
A: Of course, you are going to see cyclical noise. Just don't overreact. You will see blips. Sure, oil could create a problem. Is it likely to? No. Two factors mitigate against it. One, there's the muting of the business cycle. The good news to us is we don't have busts, we don't have frequent recessions. But that's bad news to the commodity sectors, which whether they be oils or steels or papers, need two or three quarters of excess demand from a booming economy that happens every five-to-seven years. The absence of strong demand really kills their pricing power.
Second, and this is a related concept, there has been a remarkable global rotation of growth. I've broken the world down to six regions: the U.S., Latin America, Europe, Japan, China and the rest of Southeast Asia. Since 1980, you have never had more than half the world booming at once. I define a boom as high growth of more than 5%. And you've never had more than half the world busting on low or negative growth. Though the Asian and Latin troubles seemed negative last year, they also eliminated any need for tightening by the European or the U.S. central banks. There isn't enough demand out there to see a pricing environment to support the energy, basic-industry, capital-goods stocks.
Q: So no uptick in inflation, and a hospitable environment for the markets.
A: It's unlikely that inflation will ever come back. I know you should never say never. You have to appreciate that inflation is a discretionary event. We don't have inflation if the powers that be, i.e., the central banks, are willing to stop it. If inflation is 5%, make rates 10%. If it is 50%, make them 100%. If the central bankers are willing to put the cost of money so far above the rate of inflation, you can stop an economy. We have essentially created the post-Volcker Fed to maintain price stability. So unless you think it's about to abrogate that responsibility, I don't think you'll ever see an annual, a one-year, rate above 3% ever again.
Q: Will we see any comeback in small stocks?
A: The reason they did well, previously was that it was a very, very volatile period. Sure, small is more nimble than big, and I'm a big guy -- I know that! But if we have indeed seen a muting of the business cycle, then big is an advantage. You don't need to change your five-year plan every two years. And in this world, and for some other reasons I'll describe later, you'll need a $5 billion R&D budget. You need a $3 billion advertising budget. Big continues to do well. If this cycle is as good as I suggest it is, don't expect small stocks to come back any time soon.
Q: Let's talk about your investment themes. You rely heavily on your demographic work to choose sectors and stocks.
A: There is so much you can be wrong about -- demographics is not one of them. We are not going to start birthing 21-year-olds. It would probably hurt a lot. It would redefine the word "labor" for sure. When you see a demographic shift, pay attention. In September '95, we wrote our first consumer comeback report. Real wages, adjusted for inflation, had been falling for about a quarter of a century. Meanwhile, U.S. industry had been through a huge restructuring. Then I noticed the demographics of U.S. labor-force growth. And the concept of the slowest growth in postwar history, juxtaposed against this neutered business cycle that suggested we weren't headed into any recession at all, suggested one thing to me. If I don't have a lot of labor growth, and no recession to stop the demand for labor, then wages had to rise. So how would you pay for it? By reflating? By squeezing profit margins? Or through productivity? The answer has been that productivity growth would cover the cost of wage growth. One of the numbers we look at is the growth in the S&P sales per employee. If the average employee sells 4.3% more, then you can pay him 3.5% or 4% more. It doesn't squeeze your profit margins, and it doesn't mean you have to raise prices.
Q: Great. So how do you make money from it?
A: The obvious thing is figure out who spends money where. In U.S. demographics, the dominant growth group is the aging Baby Boomer, whom we dubbed "the new millennium American." Frankly, in 20 years-plus of doing this, I have never done much research before. Let me explain that. Most of us in my business do analysis, which looks at the past and sees if it is happening again. In our entire conversation, that's what we've been talking about. But if there is one thing we know about consumers, it's that past is not prologue. At 45, at 55, and at 60, I am not going to act the way my parents did at those ages. I went to Woodstock and they listened to Sinatra. I served in Vietnam and they fought in World War II. These shared life experiences very much govern your behavior. Last summer at PaineWebber, we hired Gallup and polled 1,200 American households. We worked jointly with Yankelovich Partners, who are experts on consumer market behavior. We began to build a working model of the behavior of this new millennium American.
Q: What do we look like?
A: It might sound like a joke, but I don't mean it to be. The overarching conclusion is that this is the most stressed generation in history. Not only do you have the normal responsibilities of middle age, from child care to parent care, you are also dealing with what sociologists are dubbing "disappointment of expectations." Life hasn't exactly turned out how we hoped it would. The biggest cause of stress is what I would call "information and choice overload." No generation has had to make so many decisions and be given so much information to make those decisions by themselves. Take something as simple as making a telephone call. I remember I used to actually pick up a phone and dial it. Now you need to pick a local carrier, an alternate carrier, an Internet carrier, a cellular carrier, a PCS carrier. Dial between 2 a.m. and 7 a.m. on Saturday and stand on one foot because it costs three cents a minute to talk to your cousin in Nebraska.
Q: Poor you.
A: Anything to save a buck. You used to work 30 years for a company, and at the end of it they gave you a watch and a check a month for life. Now, you work 30 years and do it at 10 different companies, and you buy your own watch and you run your own 401(k) with more mutual funds to choose from, not to mention the stocks on the New York Stock Exchange. We are overwhelmed by choice. So take this concept of stress, and this concept of shared life experiences, and you begin to try to get specific behaviors.
Q: Which are?
A: The first we dubbed "cradle-to-grave entrepreneurialism." We are running our own lives literally from cradle to grave. The bureaucracies that used to take care of us have been dismantled. Union membership is at an all-time low. Now, even if you do have a good job, you aren't guaranteed a job. Over a quarter of the Boomers and more than one in six of the pre-retirement age group have worked for less than two years in their current job. We have pretty much dismantled the Great Society social net. Government spending as a share of GDP has continued to shrink. So we are running our lives and our children's lives from cradle to grave. Fortunately, the grave is a long way off. Now, since we will live longer, we will work longer. Only 25% of us won't work after we retire. The rest won't have to work, they'll want to. Playing golf seven days a week for 30 years, unless you have a single-digit handicap, is no one's idea of happiness. Your sense of self worth is tied up in your skill set.
Q: What's another theme?
A: We call it "time drought." Even though Americans are working shorter hours, we feel short of time. Why? A phenomenon called time deepening. You just don't do one thing at a time anymore. You do two, three or four. My parents used to listen to the radio in the living room. I would listen to the radio with my parents in the car. If my kids listen to the radio in the car, they're also talking on the phone. The American icon of time deepening is the main room in people's houses, apartments and lofts. The one room where the kids do their homework, while you prepare dinner. When they finish their homework, they will go on the PC. You clean up, you go on the PC. They play games, you check your finances, they check E-mail. The whole time you talk on the phone on a wireless headset. Any wonder that 40% of Americans say lack of time is a bigger problem than lack of money?
Q: Give us another.
A: Logically, we seek stressless leisure, with less effort, less physical exertion, less risk. What do Americans desire in a vacation? Our survey said 94% of us want it comfortable, 92% relaxing. Only 20% say slightly dangerous. That's probably falling after the recent stories out of Africa. Another theme is the no-service/full-service economy. Time-starved consumers demand good service. Given a demand for service, but a lack of workers to provide it, you'll see a bifurcation of service. On one end you'll have the highly automated company. On the other, the full-service, premium company. The mediocre middle dies. Any company that defines their mission as the low-cost, full-service provider is a business plan destined to fail. Lastly, we are part of a "new drug culture," but a legal one. Boomers are staying healthy by using drugs to fix things when something goes wrong. We take drugs to change our lifestyle: Propecia for hair loss, Dexatrim for weight loss, Viagra for sexual problems, Prozac and Xanax for anxiety and depression. We will spend the rest of our long lives popping pills.
Q: What stocks will benefit?
A: Our "stressless leisure" theme is bullish for cruise lines, airlines and theme parks. Look, America's dream vacation is a cruise. You can go to the most exotic port in the world and have a cheeseburger for dinner. Carnival and Disney fit into that leisure theme. The "time drought" is simple. Brands save time. You don't need to make a decision. Gap fits. Anything you buy will be cool to wear to casual Friday. For the "new drug culture" theme, we have stocks like Abbott Labs, Medtronic, Pfizer, Schering-Plough, Warner Lambert. Oddly, Avon is another "feel young, look young" stock.
Q: How do you choose? Why Bed Bath & Beyond and not Linens 'n Things?
A: It doesn't actually matter. I'd take either one. Our analyst recommends both. Both offer service and convenience, which is the new paradigm of the no-service/full-service economy. My belief is it's more the sector than the industry, unless the company is doing really poorly.
Will it be Gap or Abercrombie & Fitch? It doesn't matter, as long as you're in the right sector and own one of the dominant players.
Q: Let's have some other picks.
A: One bullish theme we call "Soho." We're not talking about lower Manhattan lofts. It stands for "small office, home office." We'll become virtual commuters. We'll commute on WorldCom phone lines. Microsoft will dominate operating systems. We'll use Sun Microsystems Java languages. We will probably buy things at Staples. We will even use Compaq and Dell computers. Yes, this is a cyclical risk in any industry. Anything addressing this Soho theme -- including financial services -- will be a big growth industry in the millennium. The PC has become a wonderful device. You can access anything in the world that can be digitized through your PC. And the more you push, the more the world becomes digitized. Sure, there's cyclicality. But longer term, the PC is the delivery device, which benefits Compaq and Dell. What will really be unique are the content providers: Time Warner, and again, Disney. Should you buy the Internet stocks? I would say no. Most early new-tech stocks don't thrive, let alone survive. Remember the initial boom in the PC stocks in '82 and '83? By February '84, the 24 leading PC stocks were 50% off their high. Compaq didn't go public until December of '83 and Michael Dell was not in business. The key to technology is not the first and best, but a good business model to marry with the technology. America Online has been very clever, because it created content by creating its own communities of chat rooms. It's a brilliant marketing strategy. So we have AOL on our list, because it's unique. Rather than trying to figure out which browser or e-commerce site will be dominant, go with established companies that can extend their franchise. It's a less risky way of playing a powerful theme.
Q: Thanks, Ed.
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