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
Risk of tipping into a major bear/depression is never greater than when the stock market is at historically frothy levels, as the 1929 and 1968/69 years have demonstrated. But a depression is not a foregone conclusion the next time around, because of the major role governments have played in national economies since the 1930s.
In 1929, not only did the industrialized world run on hard currency, which would lead to absolute price declines from time to time, but depressions were a regular and expected occurrence, and governments were not expected to bail business out of these cyclic rough spots. With the surprising severity of the Great Depression of the 1930s, those expectations changed; under the New Deal, our government (and others) gradually migrated to the rubber-money standard and adopted policies for "full employment" and recession-avoidance.... leading to persistent monetary inflation (that is, a decline in the purchasing power of the currency) ever since.
In the 1969-74 period, an entire generation.... maybe a generation-and-a-half.... had been raised with these government policies and promises, so the bear market, which was fully as severe as that in 1929-32 after adjusting for the loss in the dollar's purchasing power, did not lead to a depression, although the back-to-back 1970 and 1974 recessions were the severest that had occured (up to that time) in the postwar period. A depression occurs only when there is a severe crisis in confidence, so as long as government is able to deliver to some extent on its implied promise that the economy will be kept humming and a depression is impossible, the crisis in confidence will not be great enough to drive us into a depression.
Now we come to the present situation. When the stock market finally crashes from near current levels, which it is almost certain to do, will the loss of confidence be great enough to bring on another depression? That, I think, depends laregly on peoples' expectations following the crash. The current outpouring of novice money into stocks seems (to me) to be largely an effort by the middle class to save for retirement, and when the coming crash wipes out their retirement dreams, how will they react? Will people look for scapegoats (the government being a choice candidate) and, feeling suddenly poorer, pull in their horns and send the economy into a tailspin? Or will they say to themselves, "Oh well, it was too good to be true, anyway" and settle down to working harder and longer to reach their retirement dreams.... in effect, placing the blame on themselves for being so gullible?
The 1970-74 bear market and 1987 Crash clearly demostrated that a depression is not an automatic outcome of a panicked stock market. Because peoples' expectations for the conditions leading to a depression have changed (and because the world now runs on rubber money), it would take a failure of government to keep its promise to keep the economy rolling along to trigger the next depression. This is more likely to happen around or after the year 2005, when the feds have exhausted their borrowing power. But I think a good argument could be made that we've already had the depression, in a very masked form. Consider:
I first wrote about this in The Contrarian's View as far back as 1986! It's taken a decade for the change to occur, but we are now at a cusp; "inflation" in the traditional sense, as a loss of purchasing power of the currency, is about to return with a vengeance. Good to own are: Real assets (such as precious metals). Bad to own are: Bonds. The rate of return on stocks will probably be poor.
However, a lot is riding on the extent of the panic in the future stock-market crash. Confidence could be eroded enough to impair the government's ability to keep the economy afloat, thus triggering another round of asset deflation and tipping us into a depression after all. Time will tell.
Looking well ahead, my gut tells me that no economy can run or rubber money and ever-increasing debt and taxes forever; eventually it will crash and burn. However, in this age of Keynesian economics (Poor John Maynard.... his name is so maligned these days), the failure of the economy will likely be inextricably tied with the failure of government.
Nick, your updates are getting more and more delayed, and as for your warmline with the weekly updates, well, we can only assume that you are running out of inspiration\excuses\etcetera. Why don't you just admit the fact that you made a totally bad (contrarian) call and get it over with? Even if the Dow drops 30%, I suspect it will still be quite a bit higher than your "sell sell sell" edict. At the end of the day, it's all bullsh*t, and the people who try to profit from this or try to satisfy their low self-esteem by "warning the masses" get burned like everyone else. Didn't you? Give it up.
My reply was:
Gee, I don't get hate mail very often.
I have never denied I made a "bad call" in 1995. I only said I did what is comfortable for me, which is not to be in stocks when they are grossly overvalued. The 1995 market rose in spite of warnings from virtually all "technical indicators" and signs of overvaluation, which proves that those of us who base our investing patterns on historical experience won't always get it right.
However, I have no problem with people who disagree with me; I am comfortable with my position. On the other hand, you seem to be severely distraught that I won't "jump on board" with you and everybody else in your bullish stance. Are you so unsure of your own view that you must have everybody agreeing with you? Or are you just ticked off because the March issue is late being posted to the Internet? (Considering the price you pay for your subscription, I wouldn't complain.)
Paid subscribers to the paper version got theirs at the end of March, but I got sick before I was able to put up the Internet version, then a technical problem delayed me. Your missive has inspired me to delay a few more days, so I can really get your goat.
"Computer warmlines" are not updated weekly, but when I feel like it.
/Nick Chase
This brought a further response from the Internet reader:
Nick, I was rather sozzled when I wrote that email (these are the dangers of being real-time-online 24 hours a day), and I apologise for venting spleen on you. I am certainly no bull in these equity markets, but the strategy which I pursued to protect myself certainly has been pretty disappointing by any standards (those damned metals). I guess I am really a frustrated contrarian, too. I agree a great deal with the points you make in your column. I just wonder how long it will be before they come to fruition.
Please don't delay your column on my part. Suppose the NYSE shuts down in the meantime.... be cool.
And I replied:
What was it Bill Clinton said, "I feel your pain"? Well, I feel your frustration, as 1995 certainly did not unfold according to the "script" of historical precedents. It would seem that to our inventory of historical events we must now add a stock market that is so derivativized that its behavior is adjunct to that of the bond and commodities markets.
But the bond-market rally is now over, and commodity prices are heating up again (especially energy), so stocks are skating on thin ice even as fodder for derivatives. Precious metals stocks have been delivering modest profits for the past year and a half, but they are really likely to shine in the second half of 1996, after the increasing energy prices (which you can see today at the gas pump) have worked their way through the manufacturing pipeline and into the CPI.
While you wait patiently for the crash, just remember that for every greenhorn investor or money manager out there playing momentum-chasing games, some clever soul is cashing in at very rich prices.... because for every buyer there is a seller. The sellers are not trying to guess where the market will eventually top out, or when the crash will come. They are merely building their cash reserves to take advantage of the next buying opportunity in stocks, whenever it does arrive. That's how the real money is made.
/Nick
Does this reflect an intolerance to bearishness, even among believers? You bet.
Just a few nights ago, we had a friend over to the house, and I mentioned my expectation for a stock-market crash. I thought she was going to have heart failure. Like many other novices, she has bought the bullish story of a 15% annual return from stocks ad infinitum, and is fully invested in the market in her 401(k) retirement plan.
Look, I told her, the stock market simply cannot continue to rise 15% per year forever when the economy is growing at only 2-1/2% (inflation at under 3%). It's a mathematical impossibility for (real) stock prices to outpace the economy for long periods of time, otherwise the stock market would become worth more than the economy itself.
What happens is that, from time to time, bear markets strike to bring stock-price growth back in line with economic growth. For example, take the previous numbers; a 5600 Dow, 15% stock-price growth, 2-1/2% economic growth and 2.8% inflation, and project them: With the current 2.2% dividend yield, stocks would then be appreciating at a real rate of 10% per year. By the year 2020 (24 years), the Dow would be at 55,000 in 1996 dollars! (100,500 in 2020 dollars.) Of course, that's not going to happen.
For another view, take a look at the 1966 Dow, when it touched 1000, with a 2.6% dividend yield and inflation running under 2%. In that year I bought and read a book called The Save-By-Borrowing Technique (which I stlll have), which projected a 12% total return from stocks (the experience of the 50s and early 60s) into the indefinite future. Using the 7.4% real rate of capital appreciation hypothesized by the book, in thirty years, 1996, now, the Dow should have been at 8500 in 1966 dollars (around 53,000 in today's money). Sadly for the clairvoyants, the 1970s intervened.
So what can we really expect for the next, say, decade? Would you believe a negative rate of capital appreciation? If, in the year 2006, the Dow is trading at a "fair" (rather than the current extremely overvalued) value with a dividend yield of about 4%, and dividends grow in line with the economy at the rate of about 2-1/2% per year, then the 2006 Dow will be at 3940 in 1996 dollars.... an annual appreciation rate of-3.45% from the current 5600 level. Factoring in 3% inflation, the 2006 Dow would be 5260, still an annual decline of 0.62%. If in 2006, stocks are as overvalued as they are today, the Dow will be at only 7170 (in 1996 dollars), an expected 2.5% real increase. T-bills should do as well, with much less risk.
If you don't think these ugly numbers can apply to you, just ask the Japanese.
Today, people have been sold a bill of goods by the mutual funds, not just in the projections of the returns of the past five years into the indefinite future, but also by the promise of instant liquidity. You can't spend stocks, either now or in retirement; you have to convert them to cash first. This is no problem as long as the redemptions are orderly and offset by the purchases of others. But what happens if, say, only 5% of the 37 million Americans into mutual funds decide, within a short period of time, that they would rather be liquid than taking on market risk? Go back and re-read your May 1995 issue of The Contrarian's View for how the stock market will shut down in the next crash under this onslaught of mutual-fund redemptions.
The pressure of 1.5 million or more Americans calling their fund companies to get out of stocks and into cash could easily generate coast-to-coast 800-number busy signals for days on end; it could even drag down the Internet for a few days. With the phones busy, the hapless fund shareholders may try to redeem (or switch) their shares by mail. Do you believe the funds are equipped to handle an onslaught of a half-million or more paper sell orders? I think not.
It is not the bogus 15%-forever projections that will do in the mutual funds; it will be their failure to deliver on their most important promise, that of "instant liquidity", that will cause them to fall from grace. It will be a long time before mutual-fund owners forget that they were unable to get out of stocks at any price.
We are now entering May, which I felt would be the first month in 1996 where a crash would be likely to occur. While a correction is likely during the month, with mutual-fund net sales still running at a rate of about $20 billion per month, stocks are unlikely to correct more than a few percent. It's as if this market wants to suck in that last $100 billion from the idiots, without really going anywhere, before it finally tanks. More likely is a crash in the fall, after inflation "officially" heats up and bond yields (the competition) rise.
However, I caution you, at these absurd levels an untoward event could trigger a crash at any time. My funds remain primarily in cash or in short positions, for though I do not know when the crash will occur, I can patiently wait for the time it does occur.
A. "Phoenix" -real portfolio, begun on October 1, 1995.
Original cost: $ 8,090.45
Present value: $ 8,705.39
Increase: $ 614.94 [7.60%]
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 +22.01%, for a compound annual rate of return of 2.15%.
B. "Professors' Investment Group (PIG)" - investment club portfolio.
SUMMARY - "PIG" :
Portfolio cost: $ 5,120.00
Present value: $ 5,847.69
Increase (decrease): $ 727.69 [14.21%]
COMMENT on "PIG": There is no change from the last issue, other than to the cash balance. I am still under orders to buy 50 shares of Pharmacopoeia (PCOP/otc) under $25 (now $26.875), and Alexion (ALXN/otc) around 8-1/2 (now $8.875).
C. Fidelity IRA - real portfolio, includes commissions:
SUMMARY - IRA:
Original (1983-86) cost: $ 8,326.19
Present value: $19,445.81
Increase: $11,119.62 [133.55%]
Current yield: $ 886.95 [4.49%]
The performance of this portfolio (including its predecessors) from January 1, 1987 to the present is +77.31%, for a compound annual rate of return of 6.34%.
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, 30Apr96: stock, 98.12; MM, 15.93
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" : It's "whipsaw city" for "Timer's Trend", which last turned bullish on April 16. The raw data behind the signal still show it remains incredibly weak.... the market trend continues as dead neutral (a top?), and continued whipsaws of this signal are highly likely.
{, } = "Timer's Trend" (4% and 10% exponential) SELL ({) or BUY (}) signal
=============================TIMER'S TREND===========================
Mon 18 Mar 96 . | . # }| 5683.60 |~.+~~~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Tue 19 Mar 96 . | .# | 5669.51 | . + *
Wed 20 Mar 96 . | .# | 5655.42 | . + *
Thu 21 Mar 96 . | # | 5626.88 | . + *
Fri 22 Mar 96 . | .# | 5636.64 | . + *
Mon 25 Mar 96 . | .# | 5643.86 | .+ *
Tue 26 Mar 96 . | .# | 5670.60 | .+ *
Wed 27 Mar 96 . | .# | 5626.88 | .+ *
Thu 28 Mar 96 . | # | 5630.85 | .+ *
Fri 29 Mar 95 . | # | 5587.14 |~.*~~~~~~~~~~~~~~~~~~~~~~~~~~
Mon 1 Apr 96 . | . # | 5637.72 | . + *
Tue 2 Apr 96 . | .# | 5671.68 | . + *
Wed 3 Apr 96 . | .# | 5689.74 | . + *
Thu 4 Apr 96 . | . # | 5682.88 | . + *
Mon 8 Apr 96 # . I . {| 5594.37 | + *
Tue 9 Apr 96 . I .# | 5560.41 |~+*~~~~~~~~~~~~~~~~~~~~~~~~~~
Wed 10 Apr 96 . I# . | 5485.98 |+.~~~~~~~~~~~~~~~~~~~~~~~~~~~
Thu 11 Apr 96 . & . | 5487.07 + . *
Fri 12 Apr 96 . I . # | 5532.59 + . *
Mon 15 Apr 96 . I . # ]| 5592.92 | .+ *
Tue 16 Apr 96 . | . # }| 5620.02 |~.+~~~~~~~~~~~~~~~~~~~~~~~~~~~~~*
Wed 17 Apr 96 . I # | 5549.93 | . + *
Thu 18 Apr 96 . | . # | 5551.74 | . + *
Fri 19 Apr 96 . | . # | 5535.48 |~.~~*~~~~~~~~~~~~~~~~~~~~~~~~
Mon 22 Apr 96 . | . # | 5564.74 | . + *
Tue 23 Apr 96 . | . # | 5588.59 | . + *
Wed 24 Apr 96 . | . # | 5553.90 | . + *
Thu 25 Apr 96 . | . # | 5566.91 | . + *
Fri 26 Apr 96 . | . # | 5567.99 | . + *
Mon 29 Apr 96 . | .# | 5573.41 | . + *
Tue 30 Apr 96 . | .# | 5569.08 | . + *
=====================================================================
[, ] = 4% exponential change unconfirmed by 10% exponential (not a signal).
@ = market overbought or oversold. I or & (on baseline) = 10% exponential SELL.
So, with this knowledge in hand, let us take a hypothetical trip into the future. For the sake of tradition, let us assume that a 1995 crash will occur in October, placing the market peak in August (this is not a prediction!):
August 25, 1995: Today the Dow closed at 4636, after having climbed steadily since March, with only a brief June correction of a few percent to mar its extraordinary performance. The bearish analysts who had been warning of the extremely high risk of the stock market and were occasionally found muttering words like "tulipmania", have been completely discredited because none of their dire predictions have come to pass. Rather, prominent analysts (which is to say, those connected to brokerage firms dedicated to sucking your money out of you at high prices) aver that stocks have been climbing a "wall of worry", and that with so much "worry" about, stocks have nowhere to go but up.... 5000 by year-end, or certainly in early 1995.
As in past market feeding frenzies, there really was no lack of experienced advisors warning of the danger ahead; it's just that few chose to listen. And this is the top.
September 5, 1995: "Timer's Trend" gave a sell signal, during a weak trading day (unusual for the day after Labor Day); by tomorrow, subscribers to The Contrarian's View who have been following the indicator (mostly young folk) will have safely bailed out.
September 7, 1995: A downdraft hit, more severe than the 80-pointer of last May. Stocks tumbled all day, with the Dow down 163.49 points for the day, and with the "circuit breakers" unplugging the computers three times during the day's volatile trading. The pundits advised that a "healthy and much-needed" correction had set in, but the bull market was still intact.
September 21, 1995: After two weeks of steady erosion in stock prices.... during which the Dow treaded water, but most stocks drifted lower.... the Dow took another plunge, dropping 221.06 points to 3905.15. (During the day, it had been as much as 265 points lower.) The decline to date has essentially wiped out all of 1995's gain, except for the meager 2.6% dividend yield. More analysts have joined the bearish camp; skepticism about the "bull" market abounds.
September 22, 1995: Surprise!.... a rally. The Dow soared 195 points, recovering almost all of the prior day's decline. "See, we told you so," the pundits declared; "we're still in a bull market.... occasional corrections are normal and healthy and should be expected".
October 17, 1995: After a two-week mild rally followed by a week of stock prices drifting lower, stocks tumbled again. The Dow dropped 172.89 points for the day, closing at its daily low. Another "healthy correction", the pundits decared; but the public was beginning to wonder if maybe too much "health" was a bad thing.
October 18 and 19, 1995: Both days the market dropped lower, 15 and 85 points per day; the Dow was now at 3895.94, and the year 1995 was looking more and more like a washout.
October 20, 1995: Persistent selling, punctuated by volatile trading as the "circuit breakers" cut the computers in and out, marked this trading day. At day's end, the Dow had dropped 341.03 points, closing at 3644.91, its low for the day; and in after-hours electronic trading, prices went lower.
The similarity to the situation in 1987 could not be ignored.... you will recall, in 1987 "Black Monday" was preceded by a dismal Friday, during which the wholesale dumping of stocks had actually begun, and investors had all weekend to decide whether or not to bail out of stocks on Monday.
"But this time is different," the experts assured us, because the "circuit breakers" made a crash impossible. Frank Cappiello will be remembered for his 1987 appearance on Wall $treet Week in 1987, when he clearly stated (contrary to the conventional wisdom) that stocks would crash on Monday. So naturally, Wall $treet Week invited him for a return visit after this awful market day, and Cappiello opined that indeed this time was different, and that while we were certainly now in a bear market, the "circuit breakers" would cause the decline to be gradual and orderly.
Investors also remembered that those who bailed out of mutual funds on "Black Monday" 1987 actually bailed out at the bottom of the Crash, and nobody wanted to repeat that mistake. (Actually, not true; the ultimate bottom for the unweighted averages was on December 4, 1987.)
Ultimately, mutual-fund investors decided to take advantage of the "protection" the "circuit breakers" provided. If this indeed was a bear market, and if the decline were indeed programmed to be orderly, then it made sense to sell on Monday, wait for the bear-market bottom, then buy in again at low prices. Furthermore, more than half the money thrown at stocks, and probably more than half the investors buying in, had arrived when the Dow was above 3200, and even if Monday were a bad day, at least many of them would break even or escape with a small profit.
So all weekend long, the automated-telephone and computerized redemption (switch to money-market fund) orders piled up in the computers of the mutual-fund companies.
October 23, 1995: The Dow opened 153 points lower, and sank like a stone at the rate of about 100 points per hour.... even with the program-trading computers "unplugged".... until, at 2:17 P.M. the "magic 500" number was hit, and the markets were closed. With redemption orders continuing to pile up at the mutual-fund houses, it did not reopen that day, and Dow 3140.39 was the day's closing price. Stocks had crashed after all.... and, with trading suspended at day's end, mutual-fund redemptions were also suspended, and investors could not get out of stocks.
October 24, 1995: After frenzied meetings at which the midnight oil was burned, the presidents of the various exchanges, in conjunction with the Federal Reserve (and, no doubt, with a nudge from the White House) decided to keep the exchanges closed for the day as a "cooling-off" period. In addition, nearly all of the mutual-fund companies announced that all fund redemptions (including money-market funds) would be suspended until calm returned to the markets. But mutual-fund owners were not pleased that, not only could they not bail out of stocks, but that checks written on their money-market funds might bounce; and the telephone redemption orders continued to pile up.... if you could get past the busy signals.... along with redemption orders sent by snail mail.
October 25, 1995: The stock markets finally reopened, with the opening Dow at 2815. With mutual-fund investors still unable to redeem their holdings, the selling pressure abated somewhat, but it was still an off day; the Dow closed at 2772.67.
October 26 and 27, 1995: An uneventful two days; the Dow rallied 20.82 points for the period.... but mutual-fund investors still could not get out of their damn stocks. The mutual-fund companies promised to restore redemption privileges the following Monday.
October 30, 1995: You can bet that every official financial organization had prepared the whole weekend for the onslaught of sell orders from the hapless owners of mutual funds. The Dow opened 225 points lower, and continued to sink until 1:33 P.M when it touched 2431.74, which was the ultimate (short-term) bottom; thereafter, stocks rallied sharply, closing for the day at 2803.33, and allowing most of the panicked mutual-fund owners to escape without further losses. But once again, the small investor had been taken to the cleaners; and mutual funds began to wither away...