This edition of Musings finds us weighing the possibility that March 9 demarked the Bottom for the Generational Bear Market of 2007-09. The Market’s stunning 20%+ advance off of that day’s nadir has been made up of a very impressive combination of panic-stricken advances interspersed with pauses and pullbacks of decidedly mild temperament. As compared with previous rallies, it is eerily strong. I strongly suspect that we are now in the beginning of a recovery. Not as in, a few months from now we will look around and it will be like nothing ever happened, but a coming in off the ledge from which it was all too easy to imagine an interminable slip-slide into post-Postmodern squalor. In this edition, I will attempt to unpack a few thoughts as to what has caused this seeming sea change, why perhaps the moment we have just experienced might be called the Panic of March 2009, albeit a panic of a different sort.
The first item on the agenda is to remind you of the truism that whatever caused the Market to turn all but certainly wasn’t what the “accountability journalists” at AP, Reuters and DJ are serving up as explanations. I am not sure the editorial impulse to use the modifiers which inflame rather than enlighten is really any more so than twenty years ago. I am pretty sure, though, that the Market isn’t suddenly on steroids because this week’s Plan-From-On- High is somehow more credible than all the other plans that preceded it. However, as we shall see, there is a huge clue as to what Mr. Market has most likely figured out being carried along on all that hot air.
The starting point in understanding why the Market suddenly went up is found in the simple fact that it was ready to go up and waiting for a plausible excuse. This sounds almost inanely simple, but having watched it open and close many thousands of times, I know that this bespeaks the dynamic that matters most when one is considering short term fluctuations. On March 9, the Market was roughly 55% off of its late 2007 peak and down nearly 30% from a peak it realized on January 6. (Feel free to go look up how many of the preceding 20 or 30 trading days had been down.) It was, to be sure, an extreme condition, awaiting just a glimmer of warmth for the seeds of its opposite to burst into life.
The other, price reality related factor that you need to keep in mind is that every trend has its followers, and followers end up being patsies. During the bull market of ten years ago, there was the “buy the dips” crowd. It worked great, until one day it didn’t work at all, and many if not most gave back all they had made and then some. When the trend is broadly and gut wrenchingly down, the trend followers are short sellers. Not every short seller is an idiot, but we are certainly into that well-remarked process whereby innovators give way to imitators and then to idiots. What seemed like found money, maybe even the exception to the “no place to hide” lament that defined 2008, has suddenly turned into a nightmare. All those stocks up double digits on March 23, do you think that’s a sudden improvement in the commercial prospects of the entity represented by the stock? Of course not, its speculators suddenly becoming aware that risk cuts both ways, and other speculators who are aware of how eagerly they would like to cover their shorts. Short sellers are every bit as susceptible as the rest of us to misplaced trust in the fruits of their analyses, and equally if not more inclined to let herd-think take over. It is quite likely that during the prior week some of them were doing the mirror image of “buy the dips”. The education of some of these erstwhile geniuses, not to mention the cold hand of Darwinian career counseling (a.k.a., thinning the herd of the slow, the obdurately stubborn and the just plain unlucky) will be providing much of the fuel for the rally that I suspect will be the defining feature of the rest of 2009.
So what provided the glimmer of light that gave license to such wanton bouts of “bid ‘em up!”? Those possessed of that creeping form of cynicism that comes with years of having to tune into the seamier side of the Great Game will quickly gravitate toward that wink and nod given by the Chairman of the House Financial Services Committee at roughly the exact moment the Bear turned tail. (Cynicism is an occupational hazard to be resisted as well as one can. While I seem to keep it under control most of the time, recent developments have been sorely tempting.) There just might be something to the idea that politicians who take money from the likes of Fannie & Freddie and then act like it was no big deal might not be above taking money from other deep pockets for whom an inkling of a clue to a pending change in policy would be extremely valuable. I choose not to go there, not so much because it is an unprofitable exercise but because there are more compelling explanations.
For weeks on end up until the Market’s first upward surge, we were being treated to volumes of scary-making talk of transforming our experiment in ordered liberty into an amalgamation of Chicago and Berkeley, with a sprinkling of Havana thrown in. Control of both Houses suggested that “get it all in a hurry” was going to be unstoppable. The thing is, it only seemed that way. What occurred to me as that buying stampede wore on was echoed a few days later in the WSJ by Mr. Karl Rove. He noted that every Administration starts with political capital, which they inevitably spend. It’s just a matter of time, and some spend it much more quickly than others. I can remember when Reagan had basically spent his c. 1986. It occurred to me that this time, the collective efforts of this crew had thus far been so amateurish, so evocative of Commencement Day at Clown College and so presumptuous of success as to perhaps set a land speed record for blowing one’s political wad. One of the reasons the Market didn’t seem to mind that which was objectionable about the Clinton Administration was that it, too, rapidly squandered its ability to render things like “health care reform” and had to spend the rest of its years triangulating and otherwise playing it safe. The Market doesn’t seem to mind nickel-dime changes that actually happen so much as the prospect of Big Change with even bigger and grossly unknowable unintended consequences. One also senses enormous tensions building up among the acolytes and variously sordid hustlers who are impatiently awaiting a payback for helping bring all this into being, the sort of tensions that invariably corrode the efficacy of the endeavor. The wheels might not have come completely off of the Hope-N-Change Express, but I think we have heard at least a few lug nuts clattering down the highway. The Market has breathed a sigh of relief that all that talk of radical change looks to be just that, a lot of talk. Damage will be done, to be sure, but nothing like what was in mind as pundits were setting their sights on DJIA 5000.
But if the Administration is proving to be less than the paragons of pragmatic omni-competence that their media enablers made them out to be, how will the economy ever get better? This gets us closer to the heart of what has been going on: the “outrage” over the AIG bonuses. However, a digression is in order. If familiarity breeds contempt, “outrage” has been so overused as to become an exceedingly contemptuous word. It is almost as bad as “toxic”. Toxic means poisonous, something that will harm you if you touch or ingest it. Assets cannot do harm unless they are somehow inseparably tied to liabilities that might balloon in size beyond the value of the assets. So-called “toxic assets” are not at all toxic, they are simply of momentarily indeterminate value. To the extent they are mortgage backed, most of the mortgages are paying something, and virtually all of the underlying properties are worth something. Innumerable deep pockets are going to get very much deeper to the degree they can buy these so-called toxic assets at prices set by those who have succumbed to the hysterical chorus of “toxicity”.
Now back to the “outrage” over the AIG bonuses. One conversation I have no use for is with respect to the “fairness” of who gets paid what, both within Wall Street and with respect to Wall Street versus the rest of the world. That some people get what they do for what they do can be rationalized, but it is not worth attacking or defending. Children, this is one of those areas where life simply is not fair; never has been, never will be. So why the “outrage”? Is a bunch of sharpies receiving what amount to retainer fees for doing damage control on a mess they might have had a hand in creating any more ethically challenged than, say, the wife of a Senator being paid $350K to be a “diversity coordinator” in an inner city hospital (What does a diversity coordinator do, recruit persons of pallor to come work there?) How about an ex-President racking up nine digits in less than a decade to fatten his personal vanity fund, making the going rate for a night in the Lincoln bedroom look like chump change? Am I the only one who has a problem with this? The so-called “outrage” over the AIG bonuses has been so contrived, so predictable that it is obviously a smoke screen for something else. Perhaps it is something obvious, like similarly distasteful greasing of palms at more politically protected venues like Fannie, but maybe its something a lot less obvious than that.
What’s really going on here can probably be found by thinking through the question of “Where did the money go?” Not the bonus money, the taxpayer money that went into AIG. We read breathlessly indignant reports that it went to other entities that got bail-out money. What does this mean? It means that the financial crisis is well along in being whittled down to where the prospect of its failure will no longer impede the deep pocketed speculators who want to profit by panic on the part of nearly everyone else. AIG exchanged the cash they got from the government for some of their liabilities. Those liabilities were all some counterparties’ shaky assets. In doing so, AIG winds down toward being a collection of some not bad assets, no longer worth more than the sum of the parts, but profitable nonetheless. The counterparties end up with an upgraded mix of assets. They take the cash they received and clean up some of their liabilities (which have already been written down) that are someone else’s shaky assets. Rinse and repeat cycle until what was once a filthy mess is a stain that is just discernable enough to remind you to steer clear of similar messes.
I think what the political class has signaled by their use of this smokescreen is their panic over the prospect that “fixing the economy”, one of the things we have seemingly been programmed to count on for “them” to do for “us”, has started to happen and that they might not be able to take credit for it. As with all those recessions that happened before there was even a Federal Reserve, panics eventually get better on their own. This one is starting do so as well. Politicians might not be too smart in some respects, but they do tend to have a genius for recognizing when to jump on a bandwagon. Heaven forbid that this crisis melts away and no one takes credit for saving the rest of us. So we get a lot of noise, a lot of “restoring confidence” that will be obligingly recounted by the acolytes in the media a couple of Novembers from now. All because in fact an actual restoration of confidence is happening by quiet dribs and drabs in the arcane reaches of the credit markets anyway. It is as if by waving arms, mumbling incantations and sacrificing a virgin or two we can make the moon come back after the eclipse. I’ve heard it referred to as orchestrating the sunrise.
As I have noted before, we had a fitting climax to a nearly decade long Bear Market late last year. That was without reckoning with a resurgent political class feeling the need to put it’s imprint on the outcome in ways that could serve to extend its hold on power. Nothing I have seen makes me think that we are in for a return a “normal” reminiscent of 2005 any time soon. Expect instead a dreary but nonetheless upward sloping slog, and a Market that climbs a wall of worry. The problems have not all gone away, but the ones that threatened to undo the financial system have spent their fury and are on the mend. The Omni-competent Ones have shown their feet of clay, as well as their willingness to trip each other up. They will do damage, but nothing like investors had been dreading, and mostly to themselves and their future prospects. Stay tuned.
Wednesday, March 25, 2009
Wednesday, March 11, 2009
Watching A Seventies Re-Run
(What a difference a day, or a wink and a nod from a well placed Congressman, can make! Time will tell if the buyers’ panic on March 10 was just a badly overdue bounce, or the nightmare finally ending. Having started this the day before that, I considered rewriting the opening but thought better of it. As impressive a start as whatever it is has made, it would be presumptuous, one day into it, to do so.)
This edition of Market Musings finds many of us wondering if this time, Chicken Little ends up being right. As the New Year dawned, it was not implausible to suppose, even hope, that 11/21/08 had marked the bottom of generational Bear Market. It had already proven to be a grizzly in the same class as those in the 1930s (when there were three) and 1970s, but nonetheless a beast that quite possibly had already expired. Credit markets were thawing, and market indices had formed that encouraging trend of “higher highs and higher lows” since the November nadir. These embers of optimism turned to ashes on January 6, and whatever stirrings of investor confidence might have been afoot as we greeted the New Year disappeared. With each passing day, it is as if prospective buyers are more dispirited, not to mention tapped-out, such that whatever selling hits the market weighs on price with unprecedented gravity. It matters little whether it is short selling or client-directed or simply “throwing in the towel”, whether stocks, bonds or scrap metal, in this kind of buyers’ strike, if someone wants to sell it, it goes to a heretofore unthinkable new low and stays stuck there (or at least until someone in a seat of power drops a hint that the rules might change.)
Throughout this dispiriting season, which has gone on now for over a year and a half, I have been intrigued by profit opportunities that followed these similarly destructive Bear Markets. The Thirties read like ancient history, and it is reasonable to assume that no more than a few hundred “players” showed up with any regularity to ride those wild waves. The Seventies were quite a bit more like the present and not nearly so inscrutable. Of particular interest is how despite what we know to be the objective dreadfulness of those eras, with hindsight informing us that substantive improvement was still well over the horizon, at least a few investor reaped some very impressive gains. You can look it up: in the DJIA in say, 1933 or 1935 (+67% and +38%), but better still in the documented track records of certain value investors during the latter half of the 1970s. From 1975 to 1980 was a great time to be a value investor, and per the S&P 500, the only down year was 1977 (-7.4%). As someone who lived through that time and has spent no inconsiderable amount of effort trying to reconnect with its zeitgeist, I can assert that there was nothing at hand in 1975 to “make stocks go up”. Yet somehow, the Market saw through the gloom. What might have been discernable by the “wisdom of the crowd”, at a point in time more like the present than any we have experienced, is the subject of this week’s Musings.
The easy, obvious but not quite complete answer to what drove these outsized returns can be found in the Tao. This ancient Chinese wisdom observed that every extreme condition contains the seeds of its opposite. Look up a list of the Best and Worst Years ever for the DJIA. You will see how regression toward a mean has worked. This probably explains how 1933 and 1975 rank so high among the Best Years (they followed some markedly Worst Years), but hardly explains a more protracted season in the face of so much despair. The answer, I suppose, revolves around the anthropomorphic way in which the Market supposedly “thinks” or “knows” about the future and so discounts it. This is a tricky matter indeed, because while there is a sense a collective understanding embodied in the Market that might surpass what any individual might arrive at, we are more familiar with the sense in which Mr. Market tends to be a slobbering nincompoop. If some of the people we live and work with can be thusly complex, why not the Market? (The relative importance of Mr. Market’s intemperate nature is hinted at in how common it is for the markets caps of some companies to vary more in a typical day than their intrinsic value might change in an entire month or even year.) I am inclined to believe that at the end of 1974, Mr. Market was about as despondent and impulsive as he has been in recent weeks, but I also think that he had the first inklings of how and why the squalor and hopelessness of the moment was not going to stay that way. I will describe what I see as four glimmers of hope that in 1974 were still a decade away from being obvious, yet were somehow recognizable, if only by the wisdom of crowds. But first, let’s tune in to that Seventies show.
My understanding of that era is not surprisingly colored by it having experienced it as a newly formed adult attempting, in fits and starts, to secure a then indeterminate skill set that might lead to some semblance of financial viability. It was no Great Depression, but it wasn’t pretty, especially there in the upper left hand corner of the country. It is not that hard in this Internet Age to read up on what was going down and come up with a heap of trouble. I have even tried to set the mood with a little help from Netflix. What better way to connect with that bygone era than a few evenings watching one of the great shows of all time, The Rockford Files (a bonus being glimpses of “guests” who would go on to bigger things, such as Ms. Erin Gray playing a former fashion model just as she began her transition from model to actress) My efforts to separate subjective experience from objective observation were also helped along by the serendipitous “discovery” (as a house guest looking for diversion from incessant discussion of a newly arrived heir) of a very helpful history text. Paul Johnson’s Modern Times (The World from the Twenties to the Nineties). The two chapters that addressed this era were America’s Suicide Attempt and The Collectivist Seventies.
So what do we know about this time? We know that it was the terminus of another era wherein the political class had had no choice but to recognize that it needed what only capital could provide to be able to win a world war. Consequently, it left well enough alone long enough to allow a season of unprecedented prosperity (7.3% economic growth from 1948 to 1971. Johnson’s look at the Eisenhower administration, a peek behind the mythology of naps, golf, delegation and not much else, is highly illuminating.) The first indication that this was about to change was in 1962, when the Kennedys decided to jump ugly with the steel companies. The Market sent a signal in the form of the worst sell-off in a very long time, and the brothers had the good sense to back off. This judicious posture ended a couple of years later with the Great Society programs, and the Market effectively peaked in 1966. Coincidentally, the US share of global economic output peaked in 1968 at 34%. For a season, what Johnson called “omni-competent” professional politicians (his study of history seems to have given him a dim view of those who for their whole lives have been politicians and nothing else) would be in ascendancy. We ended up with ruinous inflation, wage & price controls, gas lines (on “odd” and “even” days, no less) following a one-year quadrupling in energy prices and, apparently, the Arabs holding half the world’s bank balances. The economic situation, as measured by interest, inflation and unemployment rates, grew worse as the decade wore on. Totalitarianism in the form of Soviet communism was visibly on the rise, with Cuban proxies running amok in Africa and the KGB apparently more lethal that today’s Taliban. According to Johnson, KGB assassinations rose from 17 in 1971 to 1169 in 1980. 1975 seemed to mark the end of American hegemony, as the fall of Saigon brought to a close what has been called the worst commanded war in American history. Humiliation at the hands of a gang of Iranian “students”, inept attempts to revitalize a military capability that had fallen far below what the Soviet bloc seemed to have (e.g., four times as many ships as the U.S.) and tedious lectures about “malaise” were still out there in the future.
Yet somehow, after capitulating in a funk not unlike today’s, the Market commenced an upturn that would take it up 54% in the twelve months following its December 1974 low. This rally would run well into 1976, then falter for several months before resuming an unsteady ascent. Looking at the decade as a whole, it was a terrible time to invest, especially after the ravages of inflation are taken into account, and that is how the mythology of our time seems to want to leave it. For most investors, it inarguably was. In 1979, former Treasury Secretary William Simon stated that, “I wouldn’t buy stocks right now if my life depended on it.” But if you look past the headlines and the mythology, at the track records of value investors (e.g., students of Graham at Columbia), you can find performances that were considerably better than indices which, from 1975 forward, were not too shabby themselves. The world was a mess, in some ways more so than today, but somehow, the Market started seeing through it and discounting something less dreadful.
As I see it, there were four things that were not popularly understood but in a sense “knowable” at that point of maximum pessimism in 1974 and immediately thereafter, things that pointed to better times ahead. Perhaps in studying them, we might better equip ourselves to better surmise the seeds of an eventual recovery of our own, if there is indeed to be one. The easiest to grasp, I suppose, was that for all its bluster and impressive statistics, the Soviet Union was a tottering wreck, morally, economically and spiritually bankrupt. Lenin’s imminent eschatology might have won a few tactical victories, but he also correctly predicted that his successors would not be up to the task as he saw it. A competent moral philosopher, armed with the facts as they were as opposed to what a politicized CIA or Walter Duranty-emulating (that would be Stalin’s foremost Pulitzer Prize winning apologist) NY Times might have reported, would have recognized the inevitability of their demise. (In 1970, Soviet dissident Andrei Amalrik wrote Will the Soviet Union Survive until 1984?, which nailed the factors that would tear it asunder only a few years after the evocative date suggested in the title.)
It is also likely that while no one person could have imagined any more than a smattering of the details of the technology transformation wrought by microprocessor power, the precursors to Moore’s Law as Fact of Life were solidly in place. The ability to scale enterprises way up or way down, to command and control, or to challenge the control of corrupt incumbencies might have been imagined, but it was only imagined. Perhaps you had to know someone who worked at Bell Labs to be aware of it, but new technologies that would eventually make possible collaborative innovation on a scale previously unimaginable had been advancing for a couple of decades. Who knew, when they saw a graphical user interface for the first time (and probably yawned) how the power of information, for better or for worse, was about to be redistributed? The military was using a lot of the technology that made today’s connectedness (which includes exurb-dwelling commentators published via wireless Internet connections) possible, but with equipment that was so bulky and expensive that devices like today’s cell phones seemed solidly in the realm of the Jetsons. (How much of hte drama in shows like The Rockford Files could have been sustained if all they had to do to save the day was pull out their cell phones?) With more imagination than any one person might have had, it was possible to surmise that the elements were in place for an economic transition of unspeakable magnitude.
A third factor was that we had a great leader hiding in plain sight. Who knew, in 1975, that Ronald Reagan would be elected president, and what a difference it would make? It was nothing I would have predicted (as late as 1979, I opined that he seemed to be a good man, but too far removed from the mainstream to be electable), but as we shall see, by 1980, the time was right. My point here is that he was not some savior hiding in a cave. His character was fully formed. He had written, spoken on TV and radio, and governed one of the largest and most diverse economies in the world. He had also earned the disdain of what a student of Paul Johnson would recognize as “the usual suspects” (intellectuals, journalists and others who viscerally recognize a threat to their present and wholly undeserved place in the food chain), which is always a good sign. His ascendancy would have seemed like a long shot, but with a bit of help from the next factor, it was able eventually defy those seeming odds. All that was needed was a failed exemplar of inept progressivism for him to run against.
Perhaps what mattered most in 1975 is that it had become painfully obvious that the experiment that had been Progressivism had foundered to such a grotesque extent that its apologists and its perpetrators had lost confidence. Everywhere one looked there was abundant evidence that empowering the State at the expense of the dignity and worth of the individual was a very bad idea. Nothing the idealogues and their omnicompetent administrators had promised was turning out as planned. Wherever you looked you saw, the poison fruits of meddlesome government and disregard for rule of law. How ironic that just as this ideology gained a seemingly intractable foothold in governance (the 1974 midterm elections), the sort of disillusionment that would set the voter at the margin looking for an alternative was becoming too intense to pretend it wasn’t there.
It is pointless to argue whether or not “here and now” is worse than “then and there”. The present always seems “more so” than whatever happened a major fraction of a lifetime ago. It is also difficult if not humanly impossible to imagine what might in the next few years turn things around in ways akin to what only got obvious well into the Eighties (Recall, for example, how fitfully bond yields confirmed the taming of inflation.) It remains distinctly possible that ours is about to join the many other civilizations whose centers finally did not hold. It will depend, in my estimation, on how much damage gets done to rule of law (something that always happens when Progressives take power) and the extent to which alternatives to corrupt and subverted news media continue to function. An even more inscrutable piece of the puzzle is how millions of Americans respond to all this “change” that has been heaped upon them since about the last time a condo flipper got out whole. We should not be surprised to see a great many go into self imposed exile. Some will retreat into Wii, Facebook and various other such diversions. Many will likely respond to what some have termed a war on capital by taking their skills and entrepreneurial zest “underground”, if only by degree. Some, having realized that they have entrusted their security to man-made idols, will seek out, find and devotes themselves to a higher, more reliable Source. If the present disconnect between the seats of power and the rest of us (i.e., most of us living more than a few miles removed from I-95 from MA to VA) persists, no doubt quite a few will hook up with others who are “mad as hell and not going to take it any more” Politicians on both sides of the divide have at times been spectacularly inept at gauging the mood of the heartland. I still have my money on a massive “reversion to mean” rally (hopefully commencing or at least presaged on March 10). Whether there is another generational or even cyclical Bull Market to had, though, remains to be seen.
This edition of Market Musings finds many of us wondering if this time, Chicken Little ends up being right. As the New Year dawned, it was not implausible to suppose, even hope, that 11/21/08 had marked the bottom of generational Bear Market. It had already proven to be a grizzly in the same class as those in the 1930s (when there were three) and 1970s, but nonetheless a beast that quite possibly had already expired. Credit markets were thawing, and market indices had formed that encouraging trend of “higher highs and higher lows” since the November nadir. These embers of optimism turned to ashes on January 6, and whatever stirrings of investor confidence might have been afoot as we greeted the New Year disappeared. With each passing day, it is as if prospective buyers are more dispirited, not to mention tapped-out, such that whatever selling hits the market weighs on price with unprecedented gravity. It matters little whether it is short selling or client-directed or simply “throwing in the towel”, whether stocks, bonds or scrap metal, in this kind of buyers’ strike, if someone wants to sell it, it goes to a heretofore unthinkable new low and stays stuck there (or at least until someone in a seat of power drops a hint that the rules might change.)
Throughout this dispiriting season, which has gone on now for over a year and a half, I have been intrigued by profit opportunities that followed these similarly destructive Bear Markets. The Thirties read like ancient history, and it is reasonable to assume that no more than a few hundred “players” showed up with any regularity to ride those wild waves. The Seventies were quite a bit more like the present and not nearly so inscrutable. Of particular interest is how despite what we know to be the objective dreadfulness of those eras, with hindsight informing us that substantive improvement was still well over the horizon, at least a few investor reaped some very impressive gains. You can look it up: in the DJIA in say, 1933 or 1935 (+67% and +38%), but better still in the documented track records of certain value investors during the latter half of the 1970s. From 1975 to 1980 was a great time to be a value investor, and per the S&P 500, the only down year was 1977 (-7.4%). As someone who lived through that time and has spent no inconsiderable amount of effort trying to reconnect with its zeitgeist, I can assert that there was nothing at hand in 1975 to “make stocks go up”. Yet somehow, the Market saw through the gloom. What might have been discernable by the “wisdom of the crowd”, at a point in time more like the present than any we have experienced, is the subject of this week’s Musings.
The easy, obvious but not quite complete answer to what drove these outsized returns can be found in the Tao. This ancient Chinese wisdom observed that every extreme condition contains the seeds of its opposite. Look up a list of the Best and Worst Years ever for the DJIA. You will see how regression toward a mean has worked. This probably explains how 1933 and 1975 rank so high among the Best Years (they followed some markedly Worst Years), but hardly explains a more protracted season in the face of so much despair. The answer, I suppose, revolves around the anthropomorphic way in which the Market supposedly “thinks” or “knows” about the future and so discounts it. This is a tricky matter indeed, because while there is a sense a collective understanding embodied in the Market that might surpass what any individual might arrive at, we are more familiar with the sense in which Mr. Market tends to be a slobbering nincompoop. If some of the people we live and work with can be thusly complex, why not the Market? (The relative importance of Mr. Market’s intemperate nature is hinted at in how common it is for the markets caps of some companies to vary more in a typical day than their intrinsic value might change in an entire month or even year.) I am inclined to believe that at the end of 1974, Mr. Market was about as despondent and impulsive as he has been in recent weeks, but I also think that he had the first inklings of how and why the squalor and hopelessness of the moment was not going to stay that way. I will describe what I see as four glimmers of hope that in 1974 were still a decade away from being obvious, yet were somehow recognizable, if only by the wisdom of crowds. But first, let’s tune in to that Seventies show.
My understanding of that era is not surprisingly colored by it having experienced it as a newly formed adult attempting, in fits and starts, to secure a then indeterminate skill set that might lead to some semblance of financial viability. It was no Great Depression, but it wasn’t pretty, especially there in the upper left hand corner of the country. It is not that hard in this Internet Age to read up on what was going down and come up with a heap of trouble. I have even tried to set the mood with a little help from Netflix. What better way to connect with that bygone era than a few evenings watching one of the great shows of all time, The Rockford Files (a bonus being glimpses of “guests” who would go on to bigger things, such as Ms. Erin Gray playing a former fashion model just as she began her transition from model to actress) My efforts to separate subjective experience from objective observation were also helped along by the serendipitous “discovery” (as a house guest looking for diversion from incessant discussion of a newly arrived heir) of a very helpful history text. Paul Johnson’s Modern Times (The World from the Twenties to the Nineties). The two chapters that addressed this era were America’s Suicide Attempt and The Collectivist Seventies.
So what do we know about this time? We know that it was the terminus of another era wherein the political class had had no choice but to recognize that it needed what only capital could provide to be able to win a world war. Consequently, it left well enough alone long enough to allow a season of unprecedented prosperity (7.3% economic growth from 1948 to 1971. Johnson’s look at the Eisenhower administration, a peek behind the mythology of naps, golf, delegation and not much else, is highly illuminating.) The first indication that this was about to change was in 1962, when the Kennedys decided to jump ugly with the steel companies. The Market sent a signal in the form of the worst sell-off in a very long time, and the brothers had the good sense to back off. This judicious posture ended a couple of years later with the Great Society programs, and the Market effectively peaked in 1966. Coincidentally, the US share of global economic output peaked in 1968 at 34%. For a season, what Johnson called “omni-competent” professional politicians (his study of history seems to have given him a dim view of those who for their whole lives have been politicians and nothing else) would be in ascendancy. We ended up with ruinous inflation, wage & price controls, gas lines (on “odd” and “even” days, no less) following a one-year quadrupling in energy prices and, apparently, the Arabs holding half the world’s bank balances. The economic situation, as measured by interest, inflation and unemployment rates, grew worse as the decade wore on. Totalitarianism in the form of Soviet communism was visibly on the rise, with Cuban proxies running amok in Africa and the KGB apparently more lethal that today’s Taliban. According to Johnson, KGB assassinations rose from 17 in 1971 to 1169 in 1980. 1975 seemed to mark the end of American hegemony, as the fall of Saigon brought to a close what has been called the worst commanded war in American history. Humiliation at the hands of a gang of Iranian “students”, inept attempts to revitalize a military capability that had fallen far below what the Soviet bloc seemed to have (e.g., four times as many ships as the U.S.) and tedious lectures about “malaise” were still out there in the future.
Yet somehow, after capitulating in a funk not unlike today’s, the Market commenced an upturn that would take it up 54% in the twelve months following its December 1974 low. This rally would run well into 1976, then falter for several months before resuming an unsteady ascent. Looking at the decade as a whole, it was a terrible time to invest, especially after the ravages of inflation are taken into account, and that is how the mythology of our time seems to want to leave it. For most investors, it inarguably was. In 1979, former Treasury Secretary William Simon stated that, “I wouldn’t buy stocks right now if my life depended on it.” But if you look past the headlines and the mythology, at the track records of value investors (e.g., students of Graham at Columbia), you can find performances that were considerably better than indices which, from 1975 forward, were not too shabby themselves. The world was a mess, in some ways more so than today, but somehow, the Market started seeing through it and discounting something less dreadful.
As I see it, there were four things that were not popularly understood but in a sense “knowable” at that point of maximum pessimism in 1974 and immediately thereafter, things that pointed to better times ahead. Perhaps in studying them, we might better equip ourselves to better surmise the seeds of an eventual recovery of our own, if there is indeed to be one. The easiest to grasp, I suppose, was that for all its bluster and impressive statistics, the Soviet Union was a tottering wreck, morally, economically and spiritually bankrupt. Lenin’s imminent eschatology might have won a few tactical victories, but he also correctly predicted that his successors would not be up to the task as he saw it. A competent moral philosopher, armed with the facts as they were as opposed to what a politicized CIA or Walter Duranty-emulating (that would be Stalin’s foremost Pulitzer Prize winning apologist) NY Times might have reported, would have recognized the inevitability of their demise. (In 1970, Soviet dissident Andrei Amalrik wrote Will the Soviet Union Survive until 1984?, which nailed the factors that would tear it asunder only a few years after the evocative date suggested in the title.)
It is also likely that while no one person could have imagined any more than a smattering of the details of the technology transformation wrought by microprocessor power, the precursors to Moore’s Law as Fact of Life were solidly in place. The ability to scale enterprises way up or way down, to command and control, or to challenge the control of corrupt incumbencies might have been imagined, but it was only imagined. Perhaps you had to know someone who worked at Bell Labs to be aware of it, but new technologies that would eventually make possible collaborative innovation on a scale previously unimaginable had been advancing for a couple of decades. Who knew, when they saw a graphical user interface for the first time (and probably yawned) how the power of information, for better or for worse, was about to be redistributed? The military was using a lot of the technology that made today’s connectedness (which includes exurb-dwelling commentators published via wireless Internet connections) possible, but with equipment that was so bulky and expensive that devices like today’s cell phones seemed solidly in the realm of the Jetsons. (How much of hte drama in shows like The Rockford Files could have been sustained if all they had to do to save the day was pull out their cell phones?) With more imagination than any one person might have had, it was possible to surmise that the elements were in place for an economic transition of unspeakable magnitude.
A third factor was that we had a great leader hiding in plain sight. Who knew, in 1975, that Ronald Reagan would be elected president, and what a difference it would make? It was nothing I would have predicted (as late as 1979, I opined that he seemed to be a good man, but too far removed from the mainstream to be electable), but as we shall see, by 1980, the time was right. My point here is that he was not some savior hiding in a cave. His character was fully formed. He had written, spoken on TV and radio, and governed one of the largest and most diverse economies in the world. He had also earned the disdain of what a student of Paul Johnson would recognize as “the usual suspects” (intellectuals, journalists and others who viscerally recognize a threat to their present and wholly undeserved place in the food chain), which is always a good sign. His ascendancy would have seemed like a long shot, but with a bit of help from the next factor, it was able eventually defy those seeming odds. All that was needed was a failed exemplar of inept progressivism for him to run against.
Perhaps what mattered most in 1975 is that it had become painfully obvious that the experiment that had been Progressivism had foundered to such a grotesque extent that its apologists and its perpetrators had lost confidence. Everywhere one looked there was abundant evidence that empowering the State at the expense of the dignity and worth of the individual was a very bad idea. Nothing the idealogues and their omnicompetent administrators had promised was turning out as planned. Wherever you looked you saw, the poison fruits of meddlesome government and disregard for rule of law. How ironic that just as this ideology gained a seemingly intractable foothold in governance (the 1974 midterm elections), the sort of disillusionment that would set the voter at the margin looking for an alternative was becoming too intense to pretend it wasn’t there.
It is pointless to argue whether or not “here and now” is worse than “then and there”. The present always seems “more so” than whatever happened a major fraction of a lifetime ago. It is also difficult if not humanly impossible to imagine what might in the next few years turn things around in ways akin to what only got obvious well into the Eighties (Recall, for example, how fitfully bond yields confirmed the taming of inflation.) It remains distinctly possible that ours is about to join the many other civilizations whose centers finally did not hold. It will depend, in my estimation, on how much damage gets done to rule of law (something that always happens when Progressives take power) and the extent to which alternatives to corrupt and subverted news media continue to function. An even more inscrutable piece of the puzzle is how millions of Americans respond to all this “change” that has been heaped upon them since about the last time a condo flipper got out whole. We should not be surprised to see a great many go into self imposed exile. Some will retreat into Wii, Facebook and various other such diversions. Many will likely respond to what some have termed a war on capital by taking their skills and entrepreneurial zest “underground”, if only by degree. Some, having realized that they have entrusted their security to man-made idols, will seek out, find and devotes themselves to a higher, more reliable Source. If the present disconnect between the seats of power and the rest of us (i.e., most of us living more than a few miles removed from I-95 from MA to VA) persists, no doubt quite a few will hook up with others who are “mad as hell and not going to take it any more” Politicians on both sides of the divide have at times been spectacularly inept at gauging the mood of the heartland. I still have my money on a massive “reversion to mean” rally (hopefully commencing or at least presaged on March 10). Whether there is another generational or even cyclical Bull Market to had, though, remains to be seen.
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