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Enron Mail |
Sunday morning, May 13, 2001
COMMENT: Many economists are surprised by the strength in retail and housing sales. Apparently, they don't have kids. As the father of five, I know that we Baby Boomers will be spending lots of money on our Baby Boomlet for quite some time even if we've lost some of our job security and some of our stock market wealth. Today, there are roughly 76 million Baby Boomers, who were born between 1946 and 1964. They are 37-55 years old. They've been busy with their careers, but not too busy to have some sex along the way: They've had an estimated 75 million kids--currently aged 0 to 25 years old-- since 1976. These kids cost lots of money to house, clothe, feed, transport, entertain, and educate. In poor agrarian societies having kids is often an economic necessity to provide extra labor to tend the livestock and bring in the crops. In modern industrial societies having kids is a sign of optimism about the future. The birth rate is currently relatively high in the US and low in Japan. Rapid population growth in modern economies often is associated with rapid economic growth. The Census 2000 counted 281.4 million people in the United States, a 13.2% increase from 1990. The population growth of 32.7 million persons represents the largest census-to-census increase in American history. The previous record increase was 28.0 million people (an 18.4% increase) between 1950 and 1960. Both the 1950s and 1990s were decades of prosperity. Let's keep the prosperity going: Have kids! I am doing my part for the good of the country: Laura Juliette joined the Yardeni Bunch on Friday, May 11. Fortunately, the beautiful baby girl looks just like her beautiful Mom. SUBSCRIBERS: As the new kid on the bloc--i.e., the new investment strategist on Wall Street--I've been working hard to develop my models for analyzing earnings, valuation, and performance. Of course, the tools of the trade also include stocks-versus-bonds asset allocation models as well as equity sector allocation models. I think my tool kit is fairly complete. However, my strong suit in my previous life as an economist was focusing on long-term trends that have important investment implications. I intend to build on this foundation by identifying investment themes for long-term investors and selecting companies that are likely to be major beneficiaries. I plan to track the performance of these themes. This is a work in progress. I begin with the following five themes: 1) Power Play, 2) China Challenge, 3) TMT2, 4) The Brady Bunch, and 5) Jurassic Park. I pick stocks in my latest GLOBAL PORTFOLIO STRATEGY. In Monday's WEEKLY AUDIO FORUM, we'll discuss whether the profits slump is ending or spreading. In addition, my special guest will explore the outlook for biotech. PUBLIC: The latest EARNINGS WEEK covers the retailers, a sector that I favor and has performed relatively well so far this year. The May GLOBAL STRATEGIST'S HANDBOOK is posted on the HOME page. So are the latest ANALYST' S HANDBOOKs covering Consumer Spending, High-Tech, Energy, and Basic Materials. The KEY WEEKLY INDICATORS and the FED WATCHER have been expanded. BUBBLE II? (May Global Column printed in 11 leading financial publications around the world): I recently reread a wonderfully written book titled "Manias, Panics, and Crashes," by the great economist and financial historian, Charles P. Kindleberger. It is a history of financial crises. Professor Kindleberger, who taught at the Massachusetts Institute of Technology, also presents a thoughtful analysis of why they occur. Finally, he offers valuable advice to central bankers on how to avoid such crises and how to deal with them if they do occur. The book was written in 1978, but remains remarkably relevant today. Indeed, new editions were printed in 1989 and 1996. I am sure that Fed Chairman Alan Greenspan has read it. Perhaps he should read it again if he wants to avoid another bubble in the stock market. The recent dramatic rebound in U.S. stock prices in response to stimulative monetary policy is a hopeful sign for the rapidly deteriorating economy. However, the rally already shows signs of renewed "irrational exuberance," especially once again among technology stocks. Reflating the tech-heavy Nasdaq bubble would be good news for some investors in the short run, but a Bubble II scenario could be bad news for the long-term health of the global economy. Professor Kindleberger convincingly argues that speculative bubbles are mostly monetary phenomena. They occur because money is too easily available. The bubbles burst when the easy money stops. How should central banks manage the resulting crises? Kindleberger warns, "the lender of last resort should exist, but his presence should be doubted." Furthermore, he advises that the central bank should always come to the rescue to halt deflation, "but always leave it uncertain whether rescue will arrive in time or at all so as to instill caution in other speculators.." Currently there is no uncertainty about the Fed's goal. The message to investors is clear: The folks at the Fed don't want a recession. On April 18, the Fed lowered the federal funds rate by half a point, the fourth cut this year. Now there are 450 basis points left between the federal funds rate and zero. (The U.S. monetary policymakers are expected to lower rates again by half a point when they meet on May 15.) Since the start of the year--in less than four months--the Fed folks have reduced the rate by 200 basis points, while the jobless rate has remained close to 4%. According to the April 18 official easing statement, they acted in response to a recent set of developments that "threatens to keep the pace of economic activity unacceptably weak." This wording suggests that they must be aiming for economic growth that is acceptably strong. Apparently, they are very concerned that the profits recession is on the verge of turning into an economy-wide recession. Nearly every company reporting disappointing profits so far this year also announced plans to cut employment. Obviously, if many companies do so, consumer spending would be depressed and profits would continue to fall during the second half of the year. The Fed folks strongly implied in their April 18 statement that they now want stock prices to rise to offset "the possible [negative] effects of earlier reductions in equity wealth on consumption." This is a dramatic reversal from early last year, when the Fed Chairman said that the stock market rally was causing a wealth effect that was stimulating excess demand. This explicit statement violates Professor Kindleberger's advice to keep speculators guessing. What should investors do? Bond investors have already decided that a pro-growth Fed is not in their best interest. This explains why bond yields have not declined along with short-term interest rates so far this year. Indeed, yields have been mostly moving higher. Obviously, bond investors believe that the Fed will succeed in reviving economic growth, and maybe even lift inflation. Monetarists observe that the money supply, as measure by M2, is up at an annualized 11% over the past 13 weeks. An ascending yield curve--with bond yields above money-market interest rate--and rapidly growing M2 are both bullish for the economy and therefore for stocks. The problem is that stocks are not cheap. In early May, the price-to-earnings ratio (based on 12-month forward consensus expected earnings) was back up to 22, from a low of 19 earlier this year. It hit a record high of 25 at the end of 1999, just a few months before the bubble burst. Back then, the Fed had provided easy money to cushion anticipated Y2K problems that never happened. Now, the Fed is providing easy money to minimize the pain resulting from the bursting of Bubble I, which seems to be setting the stage for Bubble II. I like bubbles. You can make lots of money very quickly when a bubble is inflating, as long as you get out just before it bursts. I am amazed, though, that so many investors remain so obsessed with technology stocks, despite the fact that so much money was lost in these stocks over the past year. Many tech stocks rebounded 30%, 40%, 50% or more during April. Of course, many tech stocks are up from $10 to $15 after plunging from highs of $100 or more early last year. Nevertheless, the bulls charged in recently snorting that the worst is over. They are probably right, but many tech price-to-earnings ratios are back over 30 suggesting that the good old days of 30%-plus earnings growth will soon be back. I doubt that. I also doubt that technology deserves a valuation multiple well above the overall market's multiple, especially after the tech wreck of the past year. Nevertheless, if you must play tech, then do so with software companies that are not as vulnerable as are tech hardware companies to inventory problems and competitive pressures on profit margins. Professor Kindleberger concludes his book by asking whether we even need a lender of last resort. Some monetarists and other critics of central banking practices observe that the monetary authorities usually cause the financial crisis by providing easy money for too long. Perhaps, it is time for the Fed Chairman to declare that the Fed has eased enough as evidenced by the ascending yield curve and the rapid growth in M2. It has done enough to revive economic growth in the long run, although there might be some more pain in the short run. Then we could remain rationally exuberant about the long-term prospects for stocks. Dr. Ed ******************** 1) You can now automatically add/delete this update and other products. 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