Tuesday, February 12, 2008


Some readers lost faith in me because I screamed BUY, BUY, BUY before the latest crunch in the market. I had good reasons then and even better reasons now.

Don Hayes offers the best analogy and the best data to support a BUY, BUY, BUY, BUY call. Don is an old timer who has done well in the markets. He has developed a "mechanical market model" that gives rational buy-sell indications. Don says the market is like a 4 legged stool. The market can stand on three legs but it is great when all four legs give strong support.

Back when I was writing, BUY, BUY, BUY, BUY three of the stool legs were very strong. The fourth leg was the only one not screaming buy, but it was not screaming sell. Today, all four legs are strong. We are right in the middle of a great buying opportunity. The kind of opportunity that comes along just 5 to 10 times in a life time.

The four legs:

1) the solid stock market attitude leg. We all know the stock market is a roller coaster ride. Those who get on need to have great faith. The fact is that long term investors in the stock market consistently make more money than other investors. To do well, investors should "stay" in the market. Humans tend to think that they are smarter than they really are. A lot of people have tried to get out and into the market at the "right time". Most have failed miserably. Successful investors tend to have great faith in the capitalist system. This stool leg is screaming BUY

2) the second leg is valuation. There are a number of ways to measure stock value. The best one is called the "fed model". One simply takes the projected earnings of the S&P 500 divided by the price of the index and compares the results to the 10-year treasury bond yield. Currently, stocks are more cheap, relative to bonds, than at any time in my life. This leg is screaming BUY.

3) the third leg is monetary policy. This is the leg that has turned the most in recent weeks. The FOMC has made a dramatic shift over the past 6 months. The FOMC has opened up the lending window to the banks and it has dramatically lowered short interest rates. The decline of the fed funds rate from 5.25% to 3% is a major drop. Short term market timers are betting that this rate will have to fall to 2% before the economy recovers. I know that a heck of a lot of assets become profitable buys after the cost of money falls by such a large amount. It takes time for lower rates to build momentum but those short term market timers will jump on board with both feet once it is clear they are about to miss the boat. Put another way, banks were being "taxed" if they lent money 6 months ago. Today, banks can lend money and make money and commercial and industrial loans have grown 19% since last year. Don't tell me that we are in a recession after telling me that business loans are up 19%! The housing market has been very weak but even here the steep drop in interest rates means that the variable rate resets are no longer a huge problem. The average American can qualify for a much larger home loan today than he could 6 months ago. The monetary leg is screaming

4) the fourth leg is the psychology leg. This leg oscillates more quickly than the others but it rarely goes to extreme readings across the board. To find "extreme" extremes, one must view the data from 2002, from 1991 and from 1982. Last year, this fourth leg screamed BUY very loudly but not as loud as the most recent numbers. The recent numbers for several of the indicators were more extreme than 2002 and 1991 and a couple went to 1982 levels. The bottom line here is that when the public is too fearful to buy stocks, it is time to go against them. This indicator is perhaps the most misused of the indicators. It can lead to a silly game of being negative all the time. After all, there are always some people saying BUY and others saying SELL. One cannot be contrary to all others. The key is to look for extreme readings. Today we have them. People are in a "negative funk". The polls show they dislike the president, the congress, the war, the big corporations, the tax laws, the news media, lawyers, doctors, the clergy and businessmen. The ratios of bulls to bears is at levels rarely seen. The psychology leg is screaming BUY.


There is a YouTube video with Merle Hazzard (a country western singer) and Art Laffer as the players. Art is one of my heroes. He is a straight talker and a rational economist. He and Milton Friedman have spoken out against the "games played" by the FOMC. They rightly suggest that the FOMC is the biggest cause of the boom and bust cycles we live through. In the current case, the FOMC held rates too high for too long. The FOMC set up the incumbent elected officials with the opportunity to "save the day" by passing a stimulus package. Of course, in the mean time, a whole lot of wealth has been transferred out of weak hands and into the hands of the strong.

The YouTube video makes the point well and it would really be a funny video if the sheep were not getting sheared. The good news is that the government officials are finally ready to "help". Rates have gone down and problems are being solved. A consortium of mortgage lenders are preparing to help all who are late on their mortgage payments a path to refinance. Pretty soon, mortgage securities that have been marked down to 60 cents or even 30 cents on the dollar will show up as "good money".


A couple of regular readers have written to say that the risk of war between Israel and Iran seems to be going up. The thought is that Israel can not afford to allow Iran to have nuclear weapons, given that Iran has threatened to eliminate Israel. History students know that the people of Israel have suffered though dozens of attempts to eliminate them from the earth.

There does not seem to be the same fear of Pakistan. Pakistan has nuclear weapons and the country is in the middle of a civil war . The Islamic terrorist in Pakistan routinely blow up the innocent in their attempt to disrupt the government. One might argue that Bush could have easily chosen Pakistan as the next country to invade after Afghanistan. The fact is that many of the terrorist who were being trained in Afghanistan went over the border into Pakistan after the US invasion. Did Bush seek Pakistan as its ally because Pakistan owns nukes?

Whack a Mole

For a lot of years, the world has been forced to play a game of Whack a Mole. The terrorist stuck up their heads in Libya and Reagan guided a cruise missile into Qaddafi's bed. Yemen, Saudi Arabia and others eventually got the message. Even Iran ceased the development of nuclear arms just after Bush invaded Iraq. In retrospect the beauty of the Iraq war has been that the terrorist came out of hideouts in a number of countries and met their destiny in Iraq. Now, the loss of support from the local people is forcing the terrorist to look for other venues. Suddenly the rouges of Pakistan are in the news.

General Ashfaq Kayani has been taking the fight to the insurgents. However, the political situation in Pakistan is not stable. The Generals are in control of the army and the nukes but the people desire a negotiated settlement between the tribes of the north and the rest of the country.

By the way, I recommend Charlie Wilson's War. Tom Hanks did his usual good job and the story of success and failure in Afghanistan is worth knowing. The people of Afghanistan, on horse back, prevailed against Russian tanks and helicopters. No military commander wants to invade the most mountainous regions of Pakistan and Afghanistan.

Secretary of Defense, Robert Gates, just returned from a NATO recruiting trip. He had little luck. The US is sending another 3,000 marines to Afghanistan while the US hopes that Canada will kept its 3,000 troops in action and that Australia will keep its 1,000 in the fight. Germany and many other NATO nations are sitting on the side lines. One has to wonder about the worth of NATO if the nations only fight with their words.


The Soviet Union collapsed because of economic reasons. Today, Russia has bounced back from the low but it is certainly not the super power of old. Russia is too dependent on oil and gas revenue. The price of oil was in full retreat by 1986. By the time of the collapse of the Soviet Union, oil was down to around $12 per barrel. Russia knows that the US could pass laws that would dramatically reduce its consumption of oil. The US has great influence around the world because we are a mighty economic power. Our weapons technology certainly gives us power but it is the economic power that makes us strong. It takes economic strength to make the weapons affordable.

The bottom line for now is that we need US and world opinion to move in the direction that the terrorist killing of innocents needs to be met with force. In regard to nuclear weapons, we need to do what it takes to stop Iran from acquiring said weapons. A country that supports the blowing up of women and children as part of a "just cause" is simply not qualified to hold nuclear bombs. One reader says that Israel will take out the Iranian Nuclear facility before the first bomb is produced. He is probably correct. I hold to my belief that a settlement will be negotiated before that even occurs.


The dollar has made a triple bottom against the Euro. With US exports supper strong, it stands to reason that the dollar must turn. All the while, US technology is moving forward by leaps and bounds. The world leaders in the field of semiconductors tell this story. Intel is introducing "phase change memory chips" that will ultimately make the hard drive obsolete. Over at Texas Instruments, the latest is a chip that uses one tenth the battery power. The combination of these two developments will lead to extremely powerful hand held computers that are constantly wirelessly connected to the rest of the world. With the dollar at current levels, the world will beat a path to our doors.


It sometimes takes forever for logic to overtake tradition. The current annual expenditure by our government to make 80 million dollars worth of coins is up to 134 million dollars. Once again, we learn that government can just keep on doing stupid stuff that does not make business sense.


Yesterday, I told a reader that if I had to put all my grand daughters money into one stock, I would choose Google. I believe CAL will make much higher returns over the three years but Google continues to win market share in the market of the future. Google is moving forward on a lot of fronts. The mobile network front is its most important move but the social web network is not too far behind.

The difference between Facebook, Myspace and Google is that Google is integrating social networking into the day to day life of sending emails, sending instant messages, making phone calls, browsing the web and personal home pages. For a specific example of what I am saying, take a look at the Google Reader. Once you have selected a few favorite web sites or news searches to routinely read, you will notice that you have the opportunity to share with your friends. For example, if I were to read a great article about raising children, all I would need to do is click the share button to send a link to my daughter.

Watching the development path of the Internet is better than watching the construction of a baseball stadium, building or super bridge. The Internet is being built quickly but the final design is still being determined.

The first of the Android enabled G-phones have not been impressive but the vital concept is that useful features will be available at the push of a single button. If you want maps, you push the map icon. If you want to search, you push the search icon.

A NY Times chart shows that 87% of the US population has a cell phone, 73% has a computer and 62% have Internet access. Convergence is on the way. Pretty soon, 95% or more will have a cell phone, computer and Internet access.