SUMMARY - "PIG" :
The Contrarian's View is published 11 times per year on a mostly-irregular schedule, and the views expressed are those of the author and editor, Nick Chase. Because nobody can predict the future, results of past suggestions or recommendations are no guarantee of future results. Material in this publication may be freely quoted provided proper attribution is given to its source. Subscription rate: Free on the Internet through the World-Wide Web service at Assumption College. Using your favorite Web-browsing program, Open URL http://www.assumption.edu. Mailed paper subscriptions, one year for $39 to The Contrarian's View, 132 Moreland Street, Worcester, Massachusetts 01609. There is a limit of 50 paid subscribers at one time; please check for availability before sending any money. Sorry, Visa and Mastercard are not available. Overseas subscription rate, U.S. $54. Unsolicited material sent to us by UPS or by courier other than the postal service is refused and returned to sender! Phone: (508) 757-2881
I certainly would not deny that the deficit and the national debt have become political issues; nor would I disagree that most economists see the deficit as no problem, no doubt with the same accuracy with which they predict recessions. But I think Mr. Lewis needs a refresher course in basic algebra.
Even using the government's own optimistic assumptions about budget deficits, we are currently at the "low point", and the official budget deficit will likely exceed $200 billion in the next fiscal year. With the budget deficit rising to and stabilizing at, say, 2.5% of gross domestic product from last year's 2.2%, in only ten years the official national debt will have risen to 85% of GDP from the current two-thirds. (This does not address the issue of the off-the books debt, or of debt guarantees, or of the promises being made to the baby-boomers.)
This is the ratio at which governments start to run into trouble financing their accumulated debt, as experience with banana republics and other industrialized nations such as Italy and Canada has shown. And these optimistic assumptions have left no margin for error.... like, say, a recession? Or a rise in interest rates (which certainly would occur as the national debt increased and bankruptcy became more likely)? For example, a mere 2% rise in interest rates... not outside the realm of possibilities... and in the cost of carrying the accumulated debt, would increase the current official budget deficit by two-thirds.
Contrary to Mr. Lewis' assertions, no entity, not even a money-printing national government, is able to live beyound its means forever. Eventually the accumulated debt is too great a burden to bear, and the question is not whether the entity will be bankrupt, but when, and whether the bankruptcy will be accomplished through default or hyperinflation. Perhaps, as the economists claim,the deficit is not a critical problem, but what are we supposed to do? Wait until it becomes one? Then it is too late to adopt corrective measures without triggering a depression or a revolution (or both). Just ask the Russians or the Japanese.
Mr. Lewis then goes on to quote The Economist saying "By international standards, America remains a lightly-taxed country". Can you see any politician running a campaign on that platform.... You're not taxed enough... the government should take away more of your money to bring us in line with other industrialized nations? Sure.
But I do agree with Mr. Lewis when he focuses on the problems of slower economic growth.... 2.4% per year for the last twenty years, compared with a historic rate of 3.4%.... and with the gradual squeezing of the middle class in relation to the poor (whom the government keeps afloat) and the "rich". Sadly, he fails to make the connection between the increase in income disparity and the growth of debt. Of course the middle class is losing ground, because it has taken on debt to maintain its standard of living; the "rich" hold that debt, so they benefit disproportionately.
So the "myth" is not the federal deficit, which remains a real problem; the myth is that we can continue to ignore the accumulating deficits and the drag they place on economic growth and on the middle class.... and that New York Times columnists should ignore the debt problem to advance their own political agendas.
Wow, 500 points in about a month! It seems like the Dow is about even for the morning and then it shoots up just before closing like clockwork. What is going on here? Not many analysts have explanations any more except that mutual fund money is being put to work. Bah! I can't believe the relatively small flows could push up the S&P500 almost 10%. How much of a gain in market capitalization is that? I read somewhere that IBM alone has sucked up over 8 billion dollars. I don't even hear about earnings, lower interest rates, or a balanced budget pushing up the averages. Heck, if anything, interest rates have been trending upwards along with the price of gold.
At this point, I am throughly confused. The current P/E on the S&P 500 is 18.66. A S&P 500 close above 667 (it was 656 today) would put the P/E above 19. Is it possible that US stocks will do what the Japanese stocks did back in the eighties with P/Es in the 40s? It is hard for me to believe that with the slowing economy that stocks can command a P/E of almost 19...it goes against everything that I have read.
I pulled out last year when the Dow was around 4200. Needless to say, the effects have been devastating compared to if the money was left working. Now I am totally stuck. If I put my retirement money in now, it could get wiped out by a stock market that seems to have no limits going up. If I leave it out, the 6% that I am earning is not going to be enough. With a Dow close of 5600 in sight and with no resistance in sight, where did the bears go wrong?
And my reply was:
Derivatives at work. With money continuing to pour into mutual funds, that's enough to exert a slight upward bias on the market, although more and more people are "cashing out". But the derivatives/arbitrage are directing the money into the stocks making up the popular averages, while other areas of the market are flat or have actually started to decline. The near-parabolic rise in the averages attracts even more novice money, and the cycle repeats for awhile longer.
This market long ago violated nearly every technical rule and rule of overvaluation. It is a true mania, for which there are no rules, except one: It will end, and end badly. As with all manias, because there are no rules, one cannot predict when it will end, but I assure you, you do not want to be caught on the downside of this one. (If you want a picture of what I mean, take a look at a chart of the Nikkei Dow in 1989-90.)
Like you, I would have liked to have captured that 45% move from the November 1994 lows. But with my retirement funds, safety is of paramount concern, and I simply was not going to jump into an already overvalued market on the slim chance that a mania would take hold. I'm sure that during the prior mania of the century, in 1928-29, that those folks wanting to preserve their capital who bailed out during 1928, before stocks ignored all the dark clouds accumulating on the economic horizon and soared to ridiculous levels, were feeling very stupid and frustrated by Labor Day 1929. Four years later, their caution had been fully vindicated.
You are not losing money, you are making a safe 6%. As for jumping in now, go back and read the history of the Dutch tulipmania, or of the South Seas and Mississippi bubbles. You see those shares going up, up, up.... but exactly where are you on the curve? Are you somewhere in the middle, with the opportunity to double your money before the ultimate top is reached? Or will you be buying in right at the top? Only hindsight will tell. You should not stake your fortune on the greater fool theory, that there will always be a greater fool to relieve you of your shares at a much higher price. Choose value and safety, not momentum; leave the bubbles alone.
In those eighteenth-century bubbles, nearly everybody lost, including the promoters. Being able to bail out at the top is a myth; in reality, nobody can do it. Well, maybe there will be a few lucky souls.... you can be sure the entertainment media which call themselves "the press" will find those few and tell their stories, making everybody else who got caught in the puncturing of the bubble feel even more depressed.
The tulipmania cost the Dutch the expansion of their colonial empire. The Mississippi débâcle sowed the seeds for the French revolution and the overthrow of the monarchy. The South Seas bubble triggered a depression in England, stifled the raising of capital for the next fifty years, and led to oppressive taxation of the colonies which triggered the American revolution. The 1928-29 bubble and crash in the U.S. stock market preceded the Great Depression. This is not a cheerful history to guide us in what will follow the great mutual-fund mania of 1994-9?.
Thanks to advances in computer technology and communication, it is possible for this bubble to be punctured overnight. Literally.... while you are still asleep, a crash begins in London, or Frankfurt, or Hong Kong, or Singapore. When you wake up, capital has fled those markets to the safety of short-term instruments, and the major players have already sharply marked down the shares of U.S. companies which trade internationally (the same companies which make up our market averages). If the Dow were to open, it would be down 1200 points; it doesn't. You poor slob.... unlike 1987, you didn't even get a chance to enter your sell order. Now, I'm not saying this is how the current mania will end, but it a risk you take when you try to play follow-the- leader in a historically-overvalued market where money can move at the speed of light.
One of life's cruel twists is that when times are good, and you have surplus funds to invest, you invest them at high prices, because you are in competition with everybody else doing the same. But when times are tough, and you need to draw on your investments to get by, their prices have dropped precipitously because everybody else needs to cash in to survive, too. If I were you, I would not worry about the money I "didn't make" in the stock market; I would concentrate on making sure I have enough money to survive the tough times ahead, after the bubble finally bursts.
Now, a follow-up:
In the June 1995 issue of The Contrarian's View, I wrote: Will the 1990s demonstrate that the economy could pass through a depression ("contained", if you will) with no bear market at all?.... stocks, thanks to derivatives, act as a bond-market surrogate and continue to probe new highs as interest rates decline? Well, anything is possible, I suppose, but if I were you, I wouldn't stake my fortune on this premise.
Well, so far, this appears to be just what's happening, as the figures for the 1995 rise in the stock and bond markets tell the story:
Dow Jones Industrials..... 36.9% return
S&P 500..................... 37.5% return
"Long" Treasury bond..... 35.7% return
In other words, derivatives have kept stocks rising in tandem with the bond-market rally. But the rally in bonds is due primarily to two factors: (1) a temporary flattening in supply due to the Federal budget impasse, to the tune of about $100 billion for the past six months, and (2) foreign buying of our additional government debt, at $170 billion for the year more than equal to the entire 1995 (official) budget deficit. Now, foreign buying of our debt is predicated on high real interest rates and a stable or strengthening dollar. But if the dollar should weaken, effectively erasing foreigners' gains from holding our debt, then the "hot money" will flow elsewhere, leaving us to finance our own deficits, in competition with the return on stocks, and interest rates will take a sharp jump upward, most certainly deflating the stock-market bubble.
The impetus for the flight of capital from U.S. markets could be political, such as the eruption of the Whitewater mess or the nomination of an anti-world-trade presidential candidate such as Pat Buchanan; or it could be economic, such as the sudden infusion of $100 billion or more of new government debt with the settlement of the budget impasse. Regardless of the source of the future stock-market shock, do be aware that keeping the bubble inflated is completely dependent on the delicate balancing act of the Federal Reserve, which is trying to maintain a stable dollar in the face of a Federal government that is still fiscally out of control.
Though the timing of the next stock-market crash is still uncertain.... I still think May 1996 is the earliest it would be likely to appear, and it could hold off until after the 1996 elections.... the outline of its form is becoming clearer. First, it is virtually certain to occur, even more certain than the 1987 Crash. Second, as I previously intimated, you may not get the chance to bail out at any price.... the market may simply be shut down until equilibrium is reached. Third, it will not be a rerun of 1987... when people who bought at the market close the day of the Crash (ostensibly) bought at the bottom. (Actually, not true; the majority of stocks bottomed on December 4, 1987.) Sure, the novices will sincerely believe they are in stocks for the long haul and will cause a dead-cat bounce; but I think the 1996(?) Crash is more likely to lead into a bear market resembling the Japanese stock market since 1989.... that is, a freefall followed by several years of somnambulance, as our Keynesian money-printing government fights the "natural" tendency of the economy to deflate.
Refer back to the "money multiplier" graph in your June 1995 issue of The Contrarian's View. The 1987 Crash marked the end of the expansion of the multiplier (at 13:1); since then, we've been going through an "asset deflation" in virtually every area of the economy except the stock market (have you checked the value of your home or the security of your job lately?). The stock market is kept afloat by derivatives, and is fueled by baby-boomers who (correctly) perceive that our government's promises to help support them in their retirement will be broken.
The current money multiplier is about 8:1, and the next crash is likely to accelerate its decline. When stock fail to bounce back after the next crash, the baby-boomers will realize that saving for retirement is, maybe, a little more difficult than they had previously believed, and that diversifying into different classes of assets perhaps is not such a bad thing after all. Those fools who carried credit-card balances or home-equity loans while pouring cash into high-priced stocks will find that the promised stock profits have vanished, while their debts did not; they will really be hurting.
For the first time since 1929, there is a real risk that the coming crash could tip us into a major depression, as the stock market "catches up" with the deflation in other assets and as the public's cautious optimism turns to widespread disillusionment. I was not being flippant in my warning to the Internet reader. You should not be looking back at the money you "lost" by not being sucked into this stock-market bubble. You should be looking ahead, to make sure you are financially prepared to survive the incredible hangover that will follow its demise. Remember, not everybody was trading tulips in seventeenth-century Holland, but everybody felt the pain when the tulip market finally collapsed.
A. "Phoenix" -real portfolio, begun on October 1, 1995.
Original cost: $ 8,090.45
Present value: $ 8,586.144
Increase: $ 495.69 [6.13%]
Yield: $ 311.53 [3.87%]
The performance of this portfolio and its predecessors ("Hedger's Delight", "Present and Future Income", "Crapshooter's Folly") from January 1987 to the present is +20.34%, for a compound annual rate of return of 2.05%.
B. "Professors' Investment Group (PIG)" - investment club portfolio.
SUMMARY - "PIG" :
Portfolio cost: $ 4,225.00
Present value: $ 4,824.36
Increase (decrease): $ 599.36 [14.19%]
COMMENT on "PIG": There is no change from the last issue (cash balance does not include February's contributions). The professors have directed me to buy 50 shares of Pharmacopoeia (PCOP/otc) around $25, and to try to get into the initial public offering for Alexion (ALXN).... which I doubt I can do..
C. Fidelity IRA - real portfolio, includes commissions:
SUMMARY - IRA:
Original (1983-86) cost: $ 8,326.19
Present value: $19,725.81
Increase: $11,399.62 [136.91%]
Current yield: $ 886.19 [4.49%]
The performance of this portfolio (including its predecessors) from January 1, 1987 to the present is +79.86%, for a compound annual rate of return of 6.62%.
F. CREF Pension plan; I switch between indexed stock/bond/money funds:
Date Sold Bought
13Mar92 stock @ 56.65 MM @ 13.41
29Apr92 MM @ 13.48 bond @ 31.19
19Jun92 bond @ 32.14 MM @ 13.55
29Jun92 MM @ 13.57 stock @ 56.74
24Jul92 stock @ 56.76 MM @ 13.61
29Oct92 MM @ 13.72 stock @ 58.61
23Dec92 stock @ 61.48 MM @ 13.78
16Jan95 MM @ 14.83 equity-index @ 26.44
20Jan95 eq-index @ 26.19 MM @ 14.84
Values, 28Feb96: stock, 95.75; MM, 15.80
Gain, 1988: 18.91%; 1989: 14.48%; 1990: 8.28%; 1991: 27.93%; 1992: 10.20%; 1993: 3.08%; 1994: 4.07%
Gain, January 1 through September 30, 1995: 3.34%
Total gain since January 1, 1988 (7.75 years): 127.93%
Compound annual rate of return: 11.21% (My long-term target: in excess of 15%)
Gain shown excludes the impact of additional monthly cash contributions.
Buying CREF stock on January 1, 1988 and holding it gained 179.14%, for a compound annual rate of return of 14.17%.
COMMENT on "Timer's Trend" : The Dow is still near its highs, and "Timer's Trend" is still bullish, but not as solidly bullish as the new highs would indicate (note the more sensitive 10% exponential is negative). Ride it with a watchful eye toward the exit.
{, } = "Timer's Trend" (4% and 10% exponential) SELL ({) or BUY (}) signal
=============================TIMER'S TREND===========================
Mon 13 Nov 95 . I #. {| 4872.90 |~+~~~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Tue 14 Nov 95 . I# . | 4871.81 | + *
Wed 15 Nov 95 . I .# | 4922.75 |~+~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Thu 16 Nov 95 . | . # }| 4969.36 |~+~~~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Fri 17 Nov 95 . | . # | 4989.95 | .+ *
Mon 20 Nov 95 . | #. | 4983.09 | .+ *
Tue 21 Nov 95 . | .# | 5023.55 |~.~+~~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Wed 22 Nov 95 . | .# | 5041.61 | . + *
Fri 24 Nov 95 . | . # | 5048.84 | . + *
Mon 27 Nov 95 . | . # | 5070.88 |~.~+~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Tue 28 Nov 95 . | . # | 5078.10 | . + *
Wed 29 Nov 95 . | . # | 5105.56 | . + *
Thu 30 Nov 95 . | . # | 5074.49 | . + *
Fri 1 Dec 95 . | .# | 5087.13 | . + *
Mon 4 Dec 95 . | . # | 5139.52 |~.~~+~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Tue 5 Dec 95 . | . # | 5177.45 | . + *
Wed 6 Dec 95 . | . # | 5199.13 |~.~~+~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Thu 7 Dec 95 . | #. | 5159.39 | . + *
Fri 8 Dec 95 . | .# | 5156.86 | . + *
Mon 11 Dec 95 . | #. | 5184.32 | .+ *
Tue 12 Dec 95 . | # | 5174.92 | .+ *
Wed 13 Dec 95 . | .# | 5216.47 | .+ *
Thu 14 Dec 95 . | #. | 5182.15 | .+ *
Fri 15 Dec 95 . | # | 5176.73 | + *
Mon 18 Dec 95 # I . | 5075.21* |+.~~~~~~~~~~~~~~~~~~~~~~~~~~
Tue 19 Dec 95 . I .# | 5109.89 | + *
Wed 20 Dec 95 . | .# | 5059.32 |~+~~*~~~~~~~~~~~~~~~~~~~~~~~~
Thu 21 Dec 95 . | . # | 5096.53 | + *
Fri 22 Dec 95 . | . # | 5097.97 | .+ *
Tue 26 Dec 95 . | . # | 5110.26 | . + *
Wed 27 Dec 95 . | .# | 5105.92 | . + *
Thu 28 Dec 95 . | .# | 5095.80 | . + *
Fri 29 Dec 95 . | . # | 5117.12 | . + *
Tue 2 Jan 96 . | . # | 5177.45 |~.~~+~~~~~~~~~~~~~~~~~~~~~~~~~~*
Wed 3 Jan 96 . | . # | 5194.07 | . + *
Thu 4 Jan 96 . | # | 5173.84 | . + *
Fri 5 Jan 96 . | # | 5181.43 | . + *
Mon 8 Jan 96 . | . # | 5197.68 | . + *
Tue 9 Jan 96 . | #. | 5130.13 | . + *
Wed 10 Jan 96 . #I . | 5032.94 |~+~~~~~~~~~~~~~~~~~~~~~~~~~~
Thu 11 Jan 96 . | .# | 5065.10 | + *
Fri 12 Jan 96 . I #. | 5061.12 | + *
Mon 15 Jan 96 . I #. | 5043.78 |+. *
Tue 16 Jan 96 . | . # | 5088.22 | + *
Wed 17 Jan 96 . | # | 5066.90 | .+ *
Thu 18 Jan 96 . | .# | 5124.35 | .+ *
Fri 19 Jan 96 . | . # | 5184.68 | .+ *
Fri 19 Jan 96 . | . # | 5184.68 |~.+~~~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Mon 22 Jan 96 . | . # | 5219.36 | . + *
Tue 23 Jan 96 . | .# | 5192.27 | . + *
Wed 24 Jan 96 . | . # | 5242.84 |~.~+~~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Thu 25 Jan 96 . | # | 5216.83 | . + *
Fri 26 Jan 96 . | . # | 5271.75 | . + *
Mon 29 Jan 96 . | . # | 5304.98 |~.~+~~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Tue 30 Jan 96 . | . # | 5381.21 |~.~~+~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Wed 31 Jan 96 . | . # | 5395.30 | . + *
Thu 1 Feb 96 . | . # | 5405.06 | . + *
Fri 2 Feb 96 . | .# | 5373.99 | . + *
Mon 5 Feb 96 . | . # | 5407.59 | . + *
Tue 6 Feb 96 . | . # | 5459.61 |~.~~+~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Wed 7 Feb 96 . | . # | 5492.12 | . + *
Thu 8 Feb 96 . | . # | 5539.45 |~.~~+~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Fri 9 Feb 96 . | .# | 5541.62 | . + *
Mon 12 Feb 96 . | . # | 5600.15 |~.~~+~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Tue 13 Feb 96 . | .# | 5601.23 | . + *
Wed 14 Feb 96 . | .# | 5579.55 | . + *
Thu 15 Feb 96 . | .# | 5551.37 | . + *
Fri 16 Feb 96 . | # | 5503.32 |~.*+~~~~~~~~~~~~~~~~~~~~~~~~~
Tue 20 Feb 96 . & . | 5458.53 *~.+~~~~~~~~~~~~~~~~~~~~~~~~~
Wed 21 Feb 96 . | . # | 5515.97 | .+ *
Thu 22 Feb 96 . | . # | 5608.46 |~.~+~~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Fri 23 Feb 96 . | .# | 5630.49 | . + *
Mon 26 Feb 96 . |# . | 5565.10 | . + *
Tue 27 Feb 96 . I# . | 5549.21 | . + *
Wed 28 Feb 96 . I .# | 5506.21 |~*+~~~~~~~~~~~~~~~~~~~~~~~~~~
=====================================================================
[, ] = 4% exponential change unconfirmed by 10% exponential (not a signal).
@ = market overbought or oversold. I or & (on baseline) = 10% exponential SELL.