Stuffing The Mattresses

Even The Pros May Be Stuffing The Mattresses

By Gail Marksjarvis, Chicagotribune.Com | 29 July 2008

If you saw dark clouds drifting from St. Charles last week, they were probably coming from the dreary mood at the CFA Institute's annual investment seminar for professional investment managers. Every year, the respected chartered financial analyst investment education group brings money managers from around the world together in the Chicago area and exposes them to provocative thinkers on investment strategy and market conditions. And with most of the world's stock markets down 20 percent or more from their highs, economies slowing throughout the world, and a credit crisis toying with the flow of money, this year's speakers were gloomy.

"I am officially scared," GMO investment manager Jeremy Grantham told professionals from as far away as Abu Dhabi and Malaysia. "In 2000, we had a technology bubble. But this is massive, a massive credit crisis and a bubble in global housing, global equity and global land." Grantham is sometimes referred to as a "perma-bear" because he's a stickler about avoiding overpriced stocks. Two years ago, he warned his audience that U.S. stocks were too expensive, even after recovering most of the ground lost from the 49 percent drop to correct the bubble in technology stock prices in 2000. But back then, Grantham was cautious; not fearful. While he was avoiding U.S. stocks, he thought fast-growing emerging markets still held promise.

Now, after a tremendous surge of investor money into Asia, Latin America, Africa and the Middle East, he is concerned about the prices of those stocks, as the world works its way through what he called the "first truly global bubble." In the last few weeks, economies throughout the world have slowed sharply, and Grantham said corporate profit margins must decline as the trend continues. But he does not think investors have adjusted their expectations.

For investors expecting 7 percent annual returns in the U.S. stock market, Grantham said the price-earnings ratio would either have to go to 35, or "profit margins would have to go off the chart." The price of Standard & Poor's 500 stocks is currently about 22 times earnings. When asked by a money manager what he would buy now, Grantham said he was, "long mattresses"— jesting about the stereotypical nervous behavior of hoarding cash. He seriously suggested: "Put money into something incredibly safe, like a high-quality hedge fund."

Grantham said rather than buying stocks for the long run now, he would only "short" them, or bet that they will decline in price. He sees "nothing interesting in quality corporate bonds," and he has been shorting oil. "Commodities had a good run, but that's over," he said. Although downtrodden 'quality' mortgage-related bonds might be a good deal now because some are selling for 59 cents on the dollar, he said he wonders if the price will seem compelling if home prices fall another 20 percent or 25 percent.

He confessed to the group that "I bought my first gold last week, and I hate gold. It doesn't pay a dividend. I would only do it if I was desperate." Grantham said part of his angst comes from a lack of leadership. He criticized U.S. Treasury Secretary Henry Paulson for failing to force banks to raise capital when it was warranted two years ago. And he added: "Just imagine, we have chosen to borrow money from China so we can buy oil from the Middle East and use it to wage war in the Middle East and to pollute the planet."

Marc Faber of Marc Faber Ltd. blamed former Federal Reserve Chairman Alan Greenspan for failing to acknowledge the Fed's role in repeatedly inflating dangerous bubbles. By keeping interest rates low, "the Fed has created a bubble in everything— stocks in emerging market, real estate everywhere in the world, commodities, art," he said. "The only asset class that is down is the U.S. dollar."

Generally, when bubbles burst, the asset prices stay down for lengthy periods. Grantham isn't expecting the stock market to hit its low until 2010. [[Note: it is a universal human failing to expect the things we anticipate to occur far earlier than they actually do, because we fail adequately to take into account the effects of attempts at mitigation and other countervailing forces.: normxxx]] Farouki Majeed, the senior investment officer for asset allocation and risk management for the giant California Public Employees' Retirement System, noted that with the tech bubble bursting in 2000 and the current bear market, investors in stocks have seen virtually no return for the last 10 years. That's unusual, but typical of "boom and bust" cycles, he said.

Calpers reduced its exposure to stocks from 60 percent of the pension fund to just 54 percent this year. Faber said, "It is quite likely that the current synchronized global economic boom and the universal, all-encompassing asset bubble will lead to a colossal bust." And with commodity prices so inflated, he expects an "increase in international tensions" over resources.

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Normxxx    
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