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Contributed by Bill Bonner
Publisher of: The Fleet Street Letter

PARIS, FRANCE 
MONDAY, 15 OCTOBER 2001 

 

Today:  The Wild, Dark Night

*** Debt, defaults, bankruptcies...

*** Profits and sales collapsing - well, looks like 
things are back to normal...

*** "Your president seems to be doing a good job..." 
Terrorists...the division of labor...and more...

Debt could be paid down. Or it could be inflated 
away. 

Deflation, though, makes it tough to pay down. 
Often, debtors default and creditors are forced to write 
off the debts.

Providian, the nation's 5th largest credit card 
issuer, announced last week that more and more people 
are defaulting. The company said its earnings were off 
as a result.

Polaroid couldn't pay its debts either. The 
company went Chapter 11 on Friday. "U.S. corporations 
are quickly burning through cash," says a USA Today 
article, pushing some towards bankruptcy and making it 
more expensive for others to borrow money.

"Nervous lenders have already cut back sharply on 
lending to upstart companies and those with heavy debt 
loads. But cash worries are spreading to well-known 
companies as earnings fall so fast there is less left to 
pay.

"Companies are going to sink in their own debt," 
says Mitch Zacks. Consumers, too.

Eric...what's happening in N.Y.C?

*****

- "Overvaluation? What overvaluation?" Mr. Market seems 
to be asking. "Terrorism? What terrorism?" The Dow 
gained 2.5% percent last week - bringing its gains from 
the post-attack lows on September 21st to an impressive 
13.5%.

- Psychologists might call this denial. Abby Joseph 
Cohen, on the other hand, might call it merely "a new 
bull market."

- Is the bear market over already? Might there not be a 
little unfinished business? "Following Thursday's mini-
rally, the P/E of the S&P 500 reached its highest level 
EVER - at 35.99," Addison reported in the DR Weekend 
Edition.

- For perspective, the average long-term P/E ratio of 
the S&P 500 is about 15. And a few notable bear markets 
in the past did not call it quits and yield to a new 
bull market until the S&P 500 Index was selling for less 
than 10 times earnings.

- Bear markets are supposed to correct the excesses of 
the prior boom - restore value to the marketplace and 
therefore, create opportunity for investors.

- But falling prices do not necessarily create value.
Like a week-old salmon filet, some things lose value so 
quickly and completely that not even lower prices can 
make them a bargain.

- U.S. stocks, while not exactly week-old fish, are 
losing value even faster than they are falling in price. 
In other words, earnings are collapsing more rapidly 
than share prices. The result is that PE ratios remain 
stubbornly close to all-time highs.

- Happily, the S&P 500, unlike week-old fish, will offer 
value once again. Earnings will resume growing and 
growth prospects will improve. But we're not there yet.
Genuine bear markets end in gloom and despair. "In this 
bear market, however," Albert D. Friedburg, of 
Friedburg's Commodity and Currency Comments points out, 
"strategists of the major investment houses have 
progressively upped the percentage allocated to stocks, 
now running, on the average, at well over 70%."

- Individuals also are keeping the faith. "So ingrained 
has the equity cult become that mutual funds have only 
recently begun to experience net outflows on a sustained 
basis," Friedburg says. "It is only a matter of time 
before we witness a massive exodus. It is not the 
severity of the decline that will cause the outflows. 
Rather, it is the persistence, endurance and obvious 
hopelessness of the bear market that will flush out even 
the most committed."

- "The stock market recently made a comeback, leading 
some market technicians to call a bottom," says Fred 
Hickey, editor of the High Tech Strategist. "[Because] 
stock market valuations are still too high by a factor 
of approximately two times. I am on public record with 
predictions of the Dow Jones Industrial Average below 
5,000 and the Nasdaq Composite below 1,000 before this 
bear market ends. I see no reason to change these 
forecasts now."

- To back up his predictions, Hickey rattles off a few 
eye-opening statistics. The total valuation of U.S. 
stocks (approximately $11 trillion currently) is nearly 
120% of the value of this nation's GDP, with the 
historical average being just 54%. Prior to the late-
1990s' mania prices, the all-time high in this indicator 
(81%) occurred in August 1929, just prior to the 
crash...every historical yardstick used over the decades 
to value stocks provides the same answer. 
Price/earnings, price/sales and price/book ratios all 
show that stocks are at least two times overvalued."

- Despite the market's extreme overvaluation, Hickey 
acknowledges, "The U.S. government is desperately trying 
to reinvigorate the economy with the steepest interest 
rate cuts in history, tens of billions of dollars of tax 
rebates and tax cuts, and promises of huge fiscal 
spending on infrastructure and other projects...with all 
this cash sloshing around, some of it can find its way 
into the stock market."

- But just the same, he would be a seller of any 
rallies. "As the stock market comes down, more buying 
opportunities will become available," he says. We're 
guessing Hickey doesn't expect this buying opportunity 
to present itself anytime soon.

- Without genuine value creation, it is difficult for 
the bulls to plant their flag and to claim the stock 
market as their own.

*****

Back in Paris...

*** The Dow has recovered what it lost following the 
Sept. 11 attacks. "Conditions are almost back to 
normal," observed a commentator on CNBC.

*** Yes, normal for this stage of a bear market...

*** Profits have fallen faster than stock prices - 
leading to the highest p/e levels ever, currently nearly 
36 for the S&P 500. 

*** Eddie Bauer says sales fell 21% last month. Overall 
figures show a 10% drop-off in the retail sector.
All over the world, economies deflate. "French inflation 
rate slips below 2%," says the Financial Times. "Worse 
to come for UK economy," says the BBC.

*** "I was very impressed with your president," said a 
Frenchman at a dinner party Friday night. "I stayed up 
until 3 am to watch his speech. That just goes to show 
how nervous I was. I mean...he comes across as a 
cowboy...I didn't know what he might do...

*** "But he seemed very reasonable, calm...yet 
determined."

*** "The problem is that he doesn't know what he's 
gotten himself into. No one does..."

*** Europeans are more accustomed to terrorism than 
Americans. For years, Paris lived with bomb blasts 
delivered by North African terrorists. The British have 
lived with violence from IRA bombers. And Spain has 
suffered the attacks of Basque separatists. Once 
unleashed, the dogs of guerilla war can be very hard to 
get back in their kennels. 

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THE WILD, DARK NIGHT
by Bill Bonner

"The real trouble with this world of ours is not that it 
is an unreasonable world, nor even that it is reasonable 
one. The commonest kind of trouble is that it is nearly 
reasonable, but not quite. Life is not an illogicality; 
yet it is a trap for logicians. It looks just a little 
more mathematical and regular than it is; its exactitude 
is obvious, but its inexactitude is hidden; its wildness 
lies in wait."

G.K. Chesterton


The days grow shorter. The world, you will recall, is 
not a straight up and down thing. Instead, it is tilted 
on its axis, causing a seasonal oscillation as the earth 
makes it way around the sun. At this latitude, it is 
already darkening when Maria comes to the office at 7 
p.m. Only a few weeks ago, it was still broad daylight. 

All of life lists a little...as if it had too much to 
drink or one leg shorter than the other. Nothing is pure 
and simple. Nothing is quite as straight as we might 
like it to be. Everything turns out to be a little more 
complicated and cock-eyed than we might have first 
thought. And at times...things seem to go mad.

"I read that this economic slump could last as long as 
10 years," said Mario, an executive with the Danone 
company, at dinner on Saturday night. "It seems like 
madness...but I guess anything is possible."

Few people want to stack firewood in the summertime. And 
at the end of an 18-year bull market, most people have 
come to believe that stock prices "always go up in the 
long run" and that the world economy will shamble along 
as though it were always headed for another 20-year 
period of growth. 

But with each spurt of growth and bullishness a curious 
thing happens. New and better ways are found to do 
things. People specialize...the division of labor is 
extended. The days of progress grow longer, stretched 
on one end by new technology...with its electric lights, 
alarm clocks, and particle accelerators...and on the 
other end by people who tug themselves up into new 
economic niches...elaborating the division of labor to 
produce more and better things for less and less money.

Progress does not come without cost. As the economy 
expands, each part of it becomes more dependent on the 
others. The computer software salesman cannot live 
without the efforts of the bakers, the automakers, the 
miners, the central bankers...and so on. He counts on 
thousands of others to keep his lights on and his table 
set...

Thus does the whole system become at once more 
sophisticated...and more vulnerable. Before the 
development of commercial aircraft, a man armed with a 
knife was little danger to society. All men had knives. 
One was no more dangerous than any other, and much less 
of a threat than, say, the average city alderman or 
patent medicine monger.

Nor even was a man with a gun much of a menace. Yes, he 
might pick off a Lincoln or a Ferdinand. But what would 
it matter? There are always plenty more to take their 
places. In last week's news, by contrast, was the story 
of a drunk with a rifle who shot a hole in a pipeline in 
Alaska and crippled a fifth of the nation's oil 
supplies. 

Imagine what a man with a pair of wire cutters might do 
to the power lines. Or what a man with a kamikaze 
complex and a bad, communicable disease might do. He 
would not have to smuggle a pocket knife onto an 
airplane. He would just have to board himself!

"The grim paradox is that terrorism, a particularly 
primitive act," wrote George Will recently, "has a 
symbiotic relationship with the sophistication of its 
targets. And opportunities for macro-terrorism directed 
against urban populations and their water, food-handling 
and information systems multiply as societies become 
more sophisticated."

The terrorists' attack - primitive and economical as it 
was - will cost the world economy billions of dollars. 
An IMF economist estimated that as many as 40,000 
children under the age of 5 will die...from starvation 
or lack of medicines...as a consequence of the economic 
damage. 

But this could be just the beginning of a long, wild 
night. Sophisticated, prosperous economies require high 
levels of mutual trust. You can work in a skyscraper 
only so long as you can be pretty sure someone is not 
going to blow it up. And you can walk around, relying on 
credit cards for your spending power, only so long as 
you are fairly sure that no one will sabotage the ATMs 
and electronic clearing systems. And every time you get 
on an airplane, go into a restaurant, drive down the 
road, or sit down to dinner, you trust in the good faith 
and common courtesy of people all over the world - the 
engineers who designed the elevators and jet engines, 
the farmers who grew the wheat and the baker who cooked 
the buns, the guy at the next desk or next table...the 
vintner who made the wine...and so on. Any one of them 
could do you damage...( and yet, almost miraculously, 
they almost never do.)

In a different season - that is, in a period at the 
bottom of the economic cycle - a war might trigger a 
boom. But at the top, it is likely to have the opposite 
effect. People become less trusting. They are a bit less 
eager to buy...less eager to trade...less eager to open 
factories in Pakistan or take a vacation in Israel. 

And what baby boomer, whose portfolio is now down about 
40% from the peak, is not on the edge of panic? The 
"savings" he counted on for retirement suddenly looks 
vulnerable. He still believes that the market will 
bounce back before he needs the money. But what if it 
doesn't? Will he not soon have a wild look on his 
face...as he desperately tries to replace the phoney 
savings of a bull market with the real money? Each 1% 
increase in the savings rate takes $75 billion out of 
the economy. Returning to the savings rate of the early 
'80s would cost the economy more than half a trillion 
dollars a year. Other things remaining the same, this 
would mean a GDP loss of about 5% - the biggest since 
the Great Depression.

In a more straight up and down world, other things might 
remain the same. But in our world, it's a rare act of 
Congress, act of war, or act of economy that doesn't 
produce some misbegotten offspring. Who knows what will 
happen when the din and bustle of progress quiets, and - 
in the long, wild night ahead - war, fear, and frugality 
finally come together?

Your faithful correspondent,
Just wondering...

Bill Bonner

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About The Daily Reckoning:

Daily Reckoning author Bill Bonner

Bill Bonner is, in spite of himself, a natural born contrarian. Early each morning, Bill writes The Daily Reckoning—his take on the financial markets and what’s going on in the world—and sends it off by e-mail before most Americans’ alarm clocks have buzzed. Many readers say it's the first thing they want to read when they get up—not only because it's informative and thought provoking, but also it's inspiring, in its own quirky and provocative way.

Of course, there's much more to Bill than his daily market commentary. He's also the founder and president of Agora Publishing, one of the world's most successful consumer newsletter publishing companies. Bill's passion for international travel and big ideas are reflected in the company he's successfully built. In 1979, he began publishing International Living and Hulbert's Financial Digest . Since then, the company has grown to include dozens of newsletters focusing on health, travel, and finance. Bill has vigorously expanded from Agora's home base in Baltimore, Maryland since the early ’90s—opening offices in Florida, London, Paris, Ireland, and Germany.

Agora's publication subsidiaries include Pickering & Chatto, a prestigious academic press in London and Les Belles Lettres in Paris, best known as a publisher of classical literature in bilingual editions.

 

 
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Last modified: October 16, 2001

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