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://nick.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
September 1998:
If you wanted to know the meaning of the word "unpopular", you had only to look at Bill Clinton, for his Teflon coating had completely worn off. "Windbag" was perhaps the most complimentary thing anybody had to say about him, even in the establishment press; "crook" and "total jerk" is what you'd find posted to the Internet. For Bill had become so preoccupied with Hillary's trial, with the Paula Jones lawsuit which was about to go to trial, with the impeachment bill making its way through Congress, and with the almost-daily new revelations in the press about his various Arkansas scams, as those intrepid sleuths of the fourth estate tracked down the clues given in Kenneth Starr's report to Congress, that he was incapable of making any decisions to help pull the country out of its downward spiral.... if indeed, he had any clue as to what decisions would help. The government was running on autopilot (just as it had when Richard Nixon was obsessed with Watergate), but in a crisis autopilot isn't good enough.
What's more to the point, over the decades since the establishment of the New Deal, people had become conditioned to turning to government for alleviating whatever distress was at hand, and they were now shocked - shocked! - to find that the government didn't have any answers that worked. It appeared that by the end of the year, about half the nation's households would be in bankruptcy; the official unemployment rate had soared to 23%, but unofficially most of the remaining people were underemployed.... working part-time at part-pay in their jobs, or working at jobs that paid one-third to one-half of what they formerly made.... because of the drastic slowdown in economic activity.
In the last week of September, facing almost certain impeachment by a hostile Congress, Bill Clinton issued blanket pardons for Hillary, about three dozen staffers and cronies including Webb Hubbell, and himself, then resigned the office of the Presidency, paving the way for Al Gore to be sworn in as president. (Guess he didn't trust Al to give him a pardon.) This caused a lift in people's spirits; the stock market rallied from 1365 to 1970 for the Dow.
October 1998:
Recent figures confirmed what had been suspected since the spring: The money supply was shrinking drastically, and at an accelerating rate, and in spite of the Fed's keeping the "too big to fail" banks afloat with what amounted to outright gifts of money manufactured out of thin air. This certainly contradicted the conventional wisdom that the Federal Reserve had the power to keep the money supply from shrinking in a depression.... and everybody now acknowledged the country was in a depression.... but for the reason, one needed to look no further than the plight of half of America's families.
These families had hit the brick wall of credit limits, and had fallen back, flattened and gasping for air. Furthermore, the wall was threatening to collapse on them and finish them off for good. Once in bankruptcy, a family had its sources of credit totally cut off. No credit cards, no store cards, no gas card, no debit card to be used at the grocery store, no ATM card, in all probability no bank account at all. Just bills on hold, bills (like utilities and taxes owed) that had to be paid anyway, while the families survived week to week on meager cashed paychecks, or bartered their labor in exchange for food and necessities.
The country's system of credit had, in effect, collapsed. "Securitized" debt.... credit-card receivables, car loans, college loans and the like.... traded as low as 6 cents on the dollar, for with half the population bankrupt there was little assurance that any of this debt would be repaid. Even securitized home mortgages traded at about half face. The remaining Americans, who had managed their debt loads wisely, still found their style cramped in the new, austere environment, for banks were being very careful to whom they extended credit, to avoid being stuck with more bad debts. Banks were canceling credit cards even where repayments were flawless, and withdrawing "overdraft protection" on checking accounts. Even stores were calling in their check-cashing cards to reduce their exposure, forcing their customers to pay with cash. So even prudent citizens found they had to deal mainly in cash, or with merchants who knew their checks were good.
This change in the way business was transacted shrank the money supply because of the way the fractional-reserve banking system works. Each dollar deposited in a bank "creates" $9 of funds to be lent.... but the dollar has to be deposited first. With people bartering or dealing in cash, the money wasn't getting into the banking system in the first place; half the people were using a "no-fractional-reserve" exchange system of cash and barter, while the other half were, thanks to the newfound conservatism of banks, forced to gravitate to the same mode of operation.
The derivatives markets.... essentially, 10% or less margin loans on 10%-fractional-reserve loans of real assets.... had virtually disappeared, shrinking to $350 billion from $55 trillion face value before the downward spiral began. Naturally, this took the gas out of stocks; by the end of the month, the market was down again, to 1170 for the Dow.
November 1998:
I had expected the elections would lead the country toward bigger government, more centralized gov-ernment, and more direct governmental control over individuals' lives and choices. In the past this had been the trend, as in the birth of the New Deal out of the Depression of the 1930s and, in other countries during that era, the rise of fascist states. So I was really surprised when most of the winners in the Congressional elections were those who had run on platforms of vastly shrinking the Federal government. They were not divided into Democrats or Republicans, particularly .... the issue of the size and role of government seemed to cut across party lines.
But then, maybe I shouldn't have been so surprised.... there were subtle signs of the new trend. Auto inspections, for example. These had been designed to "reject" aging cars and to force people to buy new cars, meeting new pollution and presumed "safety" standards, before they really wanted to. But with people just struggling to get by, nobody was going to pay $15, or $20, or whatever, just to be forced to buy a new car or spend a fortune to "repair" a supposed "defect" in the existing vehicle. So, people just didn't bother to get their cars inspected. Faced with this mass civil disobedience, the states really couldn't enforce the auto-inspection laws; besides, the cops and state employees weren't getting their cars inspected, either.
Apparently, people had concluded that the biggest failure of all was broken government promises. Full employment, mandated by law?.... government couldn't deliver in time of crisis. Welfare payments, loan programs and other transfer payments? These were continuing, at reduced levels, but only because of a budget deficit of $700 billion and rising, which was driving interest rates so high that (the remaining) middle-class homeowners faced defaults on their mortgages because they couldn't make the interest payments. Social Security?.... now being paid only to those people who had no other retirement income. Screw you to those people who had the foresight to supplement Social Security with other retirement plans. Well, let's see, that's about half the population offended, so a candidate who proposed, say, pros-ecuting people who failed to report barter transactions eminently succeeded in offending the other half. No wonder they weren't elected. In fact, many of the election winners favored abolishing the income tax and the IRS and replacing them with a national sales (or similar) tax.
The election results boosted spirits and gave a lift to the stock market, but it was short-lived.
December 1998:
The Christmas selling season started out looking like the economy had bottomed out, but it ran out of gas in mid-month, and it then appeared the economy was just a pool of quicksand with no apparent bottom. Spirits really took a nosedive when the Feds placed Citicorp into receivership (along with hundreds of smaller banks). Apparently that bank had become too strung-out on consumer loans and on loans to retailers for the selling season that went bust.
On December 27, the Federal Reserve placed monthly withdrawal limits on bank certificates of deposit and savings accounts, effectively denying people the use of their money.... if it was in a bank. It also suspended cash interest payments on intermediate- and long-term Treasury securities, replacing them with "scrip" (certificates) representing fractions of those securities. This was supposed to prevent runs on banks and a cash drain on the Treasury.... and while it did help prevent cash draining away from Federal coffers, its effect on the banks was not what was intended.
Unaffected by the restrictions were Treasury bills and commercial paper, and money-market funds which held these types of securities. So while checks drawn on a bank were suspect, businesses would universally honor money-market-fund checks as good. The funds issued new blank checks to holders on request, which clearly identified the names of the funds, rather than disguising themselves under bank names, to solidify their creditworthiness. The gov-ernment could float only T-bills for the now-rapidly-expanding national debt; nobody would touch the long-term stuff except at effective interest rates of 22% or more, which the Feds did not want to offer with T-bill rates under 7%.... so they didn't.
Thus the effect of the new regulations was to drain cash away from banks as quickly as people were allowed to withdraw it, and into money-market funds. Also popping up were "depositories" where people could park their cash for safekeeping (and where it was invested in only the shortest-term and highest-grade paper, if it was invested at all). In this way the country's banking system went bust..... lots of bad loans, no cash, no fractional-reserve-system funds. The whole country would literally have shut down, financially, if the depositories and money-market funds had not provided an alternative.
Restricting people's access to cash had killed off whatever buying power was left for stocks. At the end of the year, the Dow closed at 442, off almost 95% from its high of not quite two years before. A bitter, soulless winter descended on a dispirited nation.
And this was the very bottom of the Great Depression of 1997-99.
On average, stock market capitalization is 48% of GDP, but the stock market rarely trades at the "average" level. Each of the sharp declines in the table began at overvaluation (at least 64% of GDP), and each break tended to bring capitalization near the average (sometimes a little more, during depression or recessions, less).
From the table, it would appear that declines in capitalization in the neighborhood of 20% or less are not severe enough to bring on economic malaise; they are just interruptions in a big bull market. But declines of about 30% or more cause enough damage to start a downward spiral and are the beginnings of bear markets.
Thus, in the current situation, if the stock market were to decline about 20%, followed by a massive and successful reliquefication effort by the Federal Reserve, that would probably signal yet another round of "irrational exuberance" to levels we would never, in our wildest dreams, have imagined possible.... as in 1987, or in the style of the Japanese circa 1987-89. But if, as I expect, the market "melts down", the psychological damage would be too great, and the loss of assets too severe, to avoid a bigger bear market and (at a minimum) recession. One thing we have learned from the 1987 Crash is that, once the gas escapes from the bubble, computerized trading will quickly pull the averages down to "fair value" (based on competing short-term yields), currently at around 3200 for the Dow. That would be about a 59% decline from recent highs, and would bring capitalization to 50% of GDP, near the average and similar to the stopping points of prior years' breaks.
In the latter case, the minimum damage we could expect would be a period similar to the 1970s or in Japan today; a long period of stagnant stock prices, inflation (1970s) or "price destruction" (Japan), and frequent recessions. The maximum could be a decline in our standard of living worse than that of the Great Depression, and a collapse of economic output.
As to which kind of damage is more likely, we need to look beyond the table. The 1970s were a period of world inflation; the money multiplier (ratio of M-2 to the monetary base) continued upward through the 1970s and 1980s, peaking at 12 just before the 1987 Crash. But the current bull market follows a period of disinflation, as was the case in the 1920s. The money multiplier topped out in 1929 with that bull market; currently, we are still on the downward slope (from 1987) with a recent reading of 8.2. So, the odds currently favor an asset deflation and sharp worldwide recession or depression following the meltdown.
The current mania has gone far beyond the previous peaks of overvaluation set in 1929, and looks like it's going to rival the Tulipmania and South Seas and Mississippi bubbles of two and a half centuries ago in its madness. Now we're talking ancient history here.... the Tulipmania cost the Dutch their New World colonies, because in the ensuing depression they could no longer afford to defend them. A 64-year-long worldwide depression followed the South Seas/Mississippi collapses in 1720; the cost to France was the loss of New France to the English and the collapse of the monarchy, and to the English was the loss of the American colonies.
At any rate, you are witnessing history being made, a case study that will be scrutinized for generations to come. Your grandchildren will ask you, "Were there really more mutual funds than stocks traded on the New York and American stock exchanges?" "Were stocks really worth more than a year's worth of economic production?" "Did everybody really think they were going to get rich just by buying stocks?" And your answers will be: Yes, yes and yes.
If the market goes up while you are holding interest-bearing cash equivalents in safe currencies, you might make a little less money. So what? On the other hand, forecasting a boom.... carries with it a great responsibility, an understanding of how much damage you can do if you are wrong. The most dangerous statements are made by the permanent optimists..... the ones who today say, "the stock market always goes up long term," "secondary stocks will explode on the upside any day," "junk bonds are a bargain," "real estate is a guaranteed safe long term investment," ....and "there will be no recession" .... These are the truly hazardous forecasts, the ones that, if they are wrong, can ruin your life. - Robert Prechter
It is a simple fact that never in history was a good financial idea created that allowed the world to live happily ever after.... Good financial ideas come and go. They work for awhile, and then they are tossed aside. When one financial idea fails, another one is found to replace it. Sometimes those replacement ideas are new. Most times, however, they are old ones that are revived -- sometimes in a renamed and revised form, sometimes in their original pure forms -- after memories have dimmed about the reasons for their having been thrown on the rubbish pile by an earlier generation.... ....the most significant consideration for our time is this: Historically, whenever everybody pins hope to a single idea, the ending is always some degree of collapse. - Donald Christensen
The signs of a looming deflation are there to see. We are heading into it, and loose money, far from preventing it, can only make it worse in the long run by stoking ever greater excesses now. Admittedly, over-indebtedness is difficult to define and measure.... The best gauge is what has been labeled the 'debt trap.' A debtor sinks into the debt trap whenever the interest payments on his existing debt begin to exceed his new borrowings. After the public borrowing orgies of the past twenty years, virtually all governments in the industrial countries now are caught in this trap, and are being driven deeper into it by the monster of compound interest. - Kurt Richebacher
If Americans sixty-five and over today who aren't working but would be if their labor force participation rate were what it was in 1890 were counted as being unemployed instead of retired, the U.S. jobless rate would be higher by 13 points. When unemployment drops to a reported 5.5 percent -- about as close as we ever come to "full employment" -- it's actually more like 18.5 percent. By comparison, in the year Social Security was passed, the official unemployment rate was 20.1 percent. So from the standpoint of the true percentage of Americans employed in a productive capacity, the Great Depression has never ended -- it was simply defined out of existence. America's squandering of human resources is as profligate today as it was in the dark days of the 1930s. - Craig S. Karpel
The richest 1 percent of the population owns 42 percent of the wealth, more than the bottom 90 percent. In 1976, the wealthiest 1 percent owned 19 percent of the wealth. So we've seen the upper 1 percent more than double the percentage of the wealth in this country that they own.... Between 1983 and 1989, 62 percent of the increased wealth in this country went to the richest 1 percent.... the middle class continues to shrink.... during the past twenty years, we have seen a decline in wages or stagnation for 80 percent of all American families, while the people on top have never had it so good. Twenty years ago, American workers were the best-compensated in the world. Today, we rank thirteenth in the world. - Congressman Bernard Sanders (VT)
In all bureaucracies there are three implacable spirits -- self-perpetuation, expansion and incessant demand for more power. - Herbert Hoover
The 1920s consumers had reached the limits of credit that the then-existing system could support, as the ensuing downward spiral demonstrated. A characteristic that goes hand-in-hand with the maxing-out of a credit cycle, in my opinion, is a stock market that soars to ridiculous extremes. (That is, not all market blowoffs warn that credit is maxed out, but all periods when the limits of credit expansion are reached include a stock [or some other market] blowoff.)
At the worst of the Great Depression, with GDP halved, total debt was an intolerable three times GDP.... or would have been, if much of it had not already defaulted.
Today, total debt in the U.S., excluding unfunded Social Security obligations and Federal debt guarantees, is about $20 trillion, or almost three times GDP. Doesn't it give you a warm feeling to know that our nation is as much in hock as it was at the depths of the Great Depression? That this could have been done with nary a hint of strain (that anybody will admit to) is testimony to the extent that modern technology, manufactured money, the many creative new ways of lending, and the change in attitude toward debt by Americans to one of "no fear" have permitted the credit bubble to reach.
The key question is, are we at or near the limit? Well, we have our corollary evidence.... a stock market that's trading at absurd prices in relation to historical valuations. But maybe we're not there yet.... if the stock market can become overvalued in the same ratio that debt-to-GDP reaches (not necessarily true), then perhaps stock market capitalization could reach 170% of GDP (84% at 150% of GDP in 1929, 170% at 300% of GDP in 1997 or later); that would give us a Dow of about 10,880 at the peak after, one presumes, a series of successful Fed interventions with each threatening downdraft.
But it is really the consumer that drives our economy (2/3 of GDP), just as happened in the 1920s, so the key question perhaps should be rephrased as, Is the consumer willing and able to take on more debt? Well, personal bankruptcies are running at a high level (more like that of a recession) during what is supposed to be a period of great prosperity, and willingness to take on more debt is declining quickly to zero (that is, no additional debt), characteristic of periods that just precede recessions. So the evidence would seem to say the consumer is, at least temporarily, tapped out.
Well, let's see, how can we get the hapless consumer to go further into hock? Perhaps the politicians will change the law to allow people to borrow against their retirement accounts. Perhaps we'll adopt two- and three-generation mortgages, as the Japanese did. Perhaps somebody will invent an inverse annuity.... you're born a half-million dollars in debt, which is used to pay for your growing-up, schooling and first-home expenses, and you spend your working life paying it off. Perhaps some bank will create an inflation-adjusted home equity loan, where the bank mails you a monthly check for the increase in the value of your house beyond the interest owed. Perhaps.... oh, well, you get the idea. Perhaps there are no more tricks.
My greatest concern about this stock-market bubble is that its inevitable collapse could be severe enough to trigger a general credit collapse, as happened in 1929. We have three of the elements needed.... an expansion of credit which has (very likely) gone as far as it can; an economy that's peaking and will likely be in recession by the summer of 1998; and a stock market blowoff. The missing element, yet to come, is the inevitable collapse of stock prices (possibly in July, now more likely to happen in the fall). The severity of the collapse will determine the outcome.... recession, or credit collapse and depression, or do we go another round with the ever-expanding credit monster?
My thought is, if top government officials are worried about another crash occurring, shouldn't you be? And I wonder just what it is these folks have cooked up to do to us when the market melts down? Almost certainly, it involves a gush of liquidity, a suspension of computer-directed trades and "direct intervention in market events" to keep any panic from spreading to the banking system.... the kind of failure the central bankers call "systemic risk".
I've been reading your info for a while. I'm kind of a perpetual bear.
But though Prechter, Davidson & Mogg, Doug Casey, even Nick Guarino, and many others are very cautious, nobody seems to have a prescription for protection during the meltdown you talk about in your May 28, 1997 issue of the "View". I used to get Oxford Club, Strategic Investment, and Nick Guarino's fraud Wall Street Underground. None is very clear about what to do in a worst-case scenario - except for Doug who is suggesting property in Argentina -- like I'm gonna move to Argentina!!
Suppose you "knew" by divine intervention, that there would be that kind of meltdown -- say on July 3 after China takes over Hong Kong.
What would you do now? And let's suppose you had fairly substantial assets -- spread through local banks, and some out of the country -- though almost none of them in the stock market in the USA.
Maybe you would be the ONE PERSON who would go out on a limb and tell what you would do.
Can you?
Sure I can.... assuming I had "fairly substantial assets" and the freedom to act without the concurrence of my wife or our two dogs. I then expect I would be in the same position I suspect you are now, so let me pretend I am you.
The safest place for your money is in nonlevereged sovereign assets.... that is, currencies of countries unlikely to inflate in a crisis, or very-short-term debt of those countries, or in gold and silver coins.... not in any banks. In the worst imaginable situation you can usually buy your way out of almost any difficulty with hard-money coins, as the boat people fleeing Vietnam demonstrated in 1975. Germany and Switzerland are unlikely to inflate their way out of a monetary crisis; the U.S. probably wouldn't, at first (maybe later).
If you fear for your physical safety, save up some vacation time and mentally plan an extended trip to a very quiet part of the U.S. or to Canada (my choice would be rural British Columbia). Pick a spot that is largely self-sufficient in food and fuel. In a crisis, tourism will drop off and you should be able to vacation at bargain rates. Drive - don't depend on public transportation - and take plenty of traveler's checks (in the currency of your choice), they should still be good. From your vacation spot, you can keep tabs on the civil unrest and leisurely plan what your next move will be. (When in doubt, sit it out - good advice for both manias and collapses.)
Personally, I do not suggest being a "permabear". Bank closings and civil unrest usually appear after an economic downturn or depression is well underway, not with the initial financial failure (such as a stock market crash). In tough times, I think that basically good and prudently-living people, who I think are still in the majority in this country, and who have been watching with disgust the moral, financial and political decay of society, will rise up and put a stop to it. (How many years, or decades, have they been waiting for a chance to say "I told you so"?) There will come a time to be bullish again.
Original cost: $ 8,090.45
Present value: $ 7,197.12
Increase: $ -893.33 [-11.04%]
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 +0.87%, for a compound annual rate of return of 0.08%. COMMENT on "Phoenix": There is no change from the last issue.
B. "Professors' Investment Group (PIG)" - investment club portfolio.
SUMMARY - "PIG":
Original cost: $ 7,505.00
Present value: $ 7,205.11
Increase: $ -299.89 [-4.00%]
COMMENT on "PIG": The PIGs' Web page is at
http://www.assumption.edu/HTML/Faculty/Kantar/WPigs.html
C. Fidelity IRA - real portfolio, includes commissions:
SUMMARY - IRA:
Original (1983-86) cost: $ 8,326.19
Present value: $16,192.83
Increase: $ 7,866.84 [94.48%]
The performance of this portfolio (including its predecessors) from January 1, 1987 to the present is +47.65%, for a compound annual rate of return of 3.80%.
D. 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, 27May97: stock, 121.85; MM, 16.85
Gain, 1988: 18.91%; 1989: 14.48%; 1990: 8.28%; 1991: 27.93%; 1992: 10.20%; 1993: 3.08%; 1994: 4.07%; 1995: 4.80%
Gain, January 1 through December 31, 1996: 5.28%
Total gain since January 1, 1988 (9 years): 145.96%
Compound annual rate of return: 10.52% (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 249.17%, for a compound annual rate of return of 14.91%.
E. Current unfilled portfolio good-til-cancelled orders: None.
COMMENT on "Timer's Trend": We're still on a BUY signal given May 2, and it looks like "Timer's Trend" will capture a sizeable gain as long as the market doesn't instantly drop off a precipice. Beware the downside of the current parabolic rise of the Dow, however; as with gold in 1980, it could come suddenly and with virtually no warning. Sorry, no room for the numbers this month; they will reappear in the July issue.
NEXT ISSUE - will appear about July 28.
/Nick Chase