Print-friendly version
Send this to a friend
Posted 4/29/2002
Contrarian Chronicles
About Contrarian Chronicles
Learn the Contrarian Chronicles lingo
Visit RealMoney.com
|  | | Price | 75.410 | | | Change | -0.050 | |
Research Wizard
Add to MSN Stock List
Message Board
|  | | Price | 32.860 | | | Change | -0.020 | |
Research Wizard
Add to MSN Stock List
Message Board
| | Contrarian Chronicles
Ignore tech fantasies and analysts' fairy tales
Ridiculously costly stocks will seem only more so as the fantasy of economic recovery fades. Best to ignore the earnings blather, be mindful of history and consider the possibilities of cash.
By Bill Fleckenstein
When corporate America takes a breather from reporting less-than-stellar quarterly results, the fantasy-prone take up the slack with rosy predictions. As woven into fairy tales by analysts, they've proved irresistible, and costly, for well-meaning investors, whose aversion to risk-taking has been dulled by the lure of flashing dollar signs.
But of late, investors' losses come with an upside: the desire to learn about analyst prattling, about what makes a stock overvalued, about intelligent life beyond the world of equities, about, well, just about everything under the Wall Street sun. Enter now the first of my weekly MSN Money columns, the Contrarian Chronicles.
Generally about this time every quarter, we enter the "no-news period," when fantasies can reign supreme. Though bad news has recently delivered a one-two punch to the telecom sector, we are fast approaching the point in time when it has historically enjoyed a respite, and then those so inclined can make up whatever story they want about the state of corporate America. But even if there's no bad news emanating from corporate America, or if it slows down to some degree, bad news elsewhere could affect the tape. Meanwhile, against the backdrop of the fading economic fantasy, stocks are still outlandishly expensive.
Morbidly massive multiple
As an example, let's look at 3M (MMM, news, msgs). Now this is actually a very fine company, but to pay 30 times earnings seems a little preposterous. For the past 10 quarters, it has been earning about $1.10, plus or minus a dime. While one could make the case for this being a pretty good job, considering that the economy hasn't been too rosy, I don't think there's any massive operating leverage there. And, if the economy were to come back, which I don't expect, 3M's growth wouldn't justify a multiple of 30. So, here we have a good example of how overpriced stocks are. (Of course, tech stocks are even more egregiously valued.)
The problem with overpaying was recently underscored by KLA-Tencor (KLAC, news, msgs), one of the speculative leaders in the semiconductor equipment area. Roughly a week ago, a dead fish from one of the big dead-fish houses upped next year's estimates on the company, since he believes that orders will be up strongly this quarter. (The stock now sells at only 35 times his new, improved estimate for next year.) But when the company failed to paint a rosy enough picture about what it saw going forward, the stock was splattered, closing down 4% at the end of the trading day.
The bull cry is that you've got to be in these stocks early, because they move ahead of earnings in the initial stages of a cyclical rebound. Well, while in the past these stocks have gained early on, the idea has been bastardized to the point where everyone is piled in, convincing themselves that they're early-cycle stocks. They're early, all right, by about five years! With the exception of a modest amount of leading-edge equipment that's being purchased, the world does not need more semiconductor-manufacturing capacity, given the utilization rates seen right now and given the massive spending that occurred last year, on top of the enormous spending the year before. People have deluded themselves into concluding that what amounts to peak spending is trough spending.
Tech de rigueur mortis
No matter what happens going forward from here, and even if we do get a rip-roaring rally one of these days, it does seem that people are finally getting it into their heads that in terms of being an investor, there is nothing magical about technology, and these stocks still are supremely expensive. Before 2002 is over, I believe that the whole fantasy about tech stocks as the place to be will go up in flames.
For anyone who thinks the stock market is reasonably priced and is always going to go up, here's a little food for thought (thanks to fantasy debunkers Richard Russell and Charles Allmon): From the period 1871 to 1997, the average annual return for the market was 7%. Of that, 1.6% was from appreciation, and 5.4% from dividends. The average price-to-earnings ratio was about 14.5. If we were to have a regression to the mean in terms of P/E ratios and dividend yields, that would imply a decline of well over 50%.
It seems that historical precedent is on the mind of Warren Buffett, who has put his pension-fund assumptions where his mouth is, lowering the assumed rate in Berkshire Hathaway's plan to 6.5%. Now let's see who else in corporate America follows suit. Many people know that Warren Buffett is one of the most successful, if not the most successful, stock market investor of all time. That said, though they can't get enough of him when he's bullish, they dismiss him as just one more has-been when he's bearish, which describes his prediction that in the next five to 10 years, the stock market will yield 7% annually, plus or minus. People can go ahead and ignore him, but they do so at not-inconsiderable peril.
Your woodshed or mine?
In any case, as skepticism grows, I believe that research, which was so poorly valued during the mania, will pay off in the altered landscape of investor awareness. "Investing" tactics of the bubble years -- focusing on concepts, stock charts and chasing the Jell-O around the plate -- will be rejected in favor of hard work, common sense and the somewhat cynical realization that the people on Wall Street aren't necessarily in business to help the people on Main Street.
Along the route to reform, one of the biggest obstacles has been corporate America's abuse of the Private Securities Litigation Reform Act of 1995. Originally enacted to rein in ambulance-chasers from pursuing frivolous shareholder lawsuits, the "Safe Harbor Laws" now basically enable executives to make misleading statements and hype their stock without fear of consequences. I can tell you in one fell swoop how we can stop most of this -- although not all of it, as anyone intent on pure fraud will probably try to prevail: Repeal the law whose passage essentially opened the way to riskless promotional behavior on the part of company executives. All we have to do is attach risk to shameless promotion and, in large measure, it will stop.
Steerage class now in session
Regarding the current environment, I'm going to stop for a minute to give readers a little summary as to what I have been doing. I don't like to describe my market activity exactly, because what I do is appropriate for me and not necessarily anyone else. So by design, I am slightly vague most of the time. I would rather my comments be used as food for thought than as a road map for action. That said, I thought I would sum up positions that I have previously stated.
Generically, I would not own any stocks, and I do not own any stocks except those related to precious metals. But I have radically cut back my short positions, because the market has been down so many days in a row and we are heading into the no-news period where fantasies often fly fast and furious. So for the moment, I have virtually eliminated my short positions. If we get a big rally, I will begin getting short again. If the market continues to cascade, depending on how it plays out, I will deal with that as it develops. Obviously, when I'm short something, this is stated in the disclosure section of the column, but those positions can and do change pretty rapidly.
Away from stocks, I like fixed income, but only in the three-to-five-year area, which I think is fine for people who need income. I don't want to own anything longer because I'm concerned about the dollar, as I've stated on many occasions. I am long the euro. I am also long gold and silver stocks, the former via some Franco-Nevada warrants that convert into Newmont Mining (NEM, news, msgs) shares (so basically, I'm long Newmont stock). As for silver, I am long Pan American Silver (PAAS, news, msgs), of which I am a company director. So, there's a recap of my positions.
Opportunity Fort Knox
Why do I hold the metals? In a nutshell, I believe what will be the driving force behind gold and silver investment demand will be a generalized lack of confidence in financial assets and currencies, which is going on in Japan right now. One can quickly see that if a tiny amount of the world's financial market assets flowed into the metals market, you could have an explosive rise. I'm not saying it will happen, but this is a risk/reward opportunity that I like.
In any case, for people who do not already own the metals, the problem of how to get in is a little tricky. Do you buy them right now, or do you wait for a pullback? I quite frankly don't know. Since I am long, this is not a decision I have to make, and most readers have had a chance to get long over some time. If I happen to spot what I think is a great opportunity, I'll certainly pass it along. However, in general, I don't intend to get more specific in the future than I have been in the past, especially regarding specific stocks.
Shifting to the subject of cash, I'd like to share some thoughts. People seem to think that cash is absolutely verboten and not anything you should ever sit with. You either have to buy this stock or that stock, or perhaps bonds, but you can never hold cash. Of course, that simply isn't the case. Sometimes things get so extreme that cash is the only alternative. That's been my view for some time, and I believe it's still the case.
Finally, to wrap up the first edition of the Contrarian Chronicles, let me just say that I believe in the philosophy of trying to teach a man to fish, rather than giving a man a fish. (Of course, that assumes I know how to fish in the first place.) In any case, I hope this will be helpful.
William Fleckenstein is the president of Fleckenstein Capital, which manages a hedge fund based in Seattle. He also writes a daily Market Rap column for TheStreet.com's RealMoney. At time of publication, Fleckenstein Capital had no positions in the stocks mentioned in this column, although positions can change at any time. Under no circumstances does the information in this column represent a recommendation to buy, sell or hold any security. The views and opinions expressed in Bill Fleckenstein's columns are his own and not necessarily those of MSN Money. While Bill Fleckenstein cannot provide personalized investment advice or recommendations, he invites you to send comments on his column to fleckrap@hotmail.com.
|
