From today until 17 April Bill's taking a short break. So in his absence, we'll bring you some of Bill's most insightful, caustic and witty observations from the last 14 years. This article was first published in 2001.
In absentia The Argentinian Outback
Everything happens at the margin. The marginal person is neither consistently good nor bad, smart nor dumb, bullish nor bearish, but is subject to influence. Buy him a drink on election day, and he may vote whatever way you want. Stir him up with the right sort of demagoguery, put him in a crowd, and he could lynch Mother Teresa.
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If the 20th century would be the era of crowds, then the 21st century will be known as the era of democracy.
Gustave Le Bon predicted this in his 1896 book, The Crowd. Crowds had taken over almost all Western governments. There were still monarchs and emperors in their palaces, but popular assemblies were gaining ground everywhere. Modern communications provided the means. Cheap newspapers, trains, and the telegraph made it possible for an entire nation to think almost the same thing at almost the same time.
Mobs, which had formerly been limited to fairly small local groups in urban areas, became national, ever international. Soon, the vast crowds would be interested in politics and in getting rich.
Crowds tend to amplify whatever emotion an individual may feel. People who are normally sensible, who drive on the correct side of the road, who can figure out how to use the electronic controls of their home sound system, who have no trouble picking out the lowest price at the supermarket put them in a crowd and they become raving maniacs.
In markets, greed and fear are let loose. Prices are bid up to levels that no sane man would pay if you put it to him on his own, or they are driven down to levels that no sane man could resist. But what does it matter? Sanity has gone out the window!
Like the opening stages of a war, the crowd gets very brave. Reason does not merely sleep it drops on the floor unconscious.
Professor Joseph Lawrence of Princeton University earnestly declared: "The consensus of the millions of people whose judgments decide the price levels in the stock market tells us that these stocks are not overpriced."
When he continued, the professor seemed to have the Daily Reckoning in his sights: "Who then are these men with such a universal wisdom that it gives them the right to veto the judgment of this intelligent multitude?"
Doubting the wisdom of the masses whether they are voting with their money or with their ballots is a regular feature of this space. It is not, we hasten to point out, that we think people are necessarily dumbbells. For we are human, too and prey to all the weaknesses to which flesh is normally heir, and to a few more of our own invention.
But in large groups of people, complex and even elegant ideas get mushed down into a fermenting syrup of empty jingles, slogans, and campaign folderol. From time to time, now and again, but according to no published time- schedule, Mr John Q Public takes up the brew and quaffs it like a dipsomaniac with an empty stomach.
In practically no time at all, it has gone to his head. Professor Lawrence gave us his opinion. Writing in the summer of 1929, his timing was unfortunate. He was right about what the multitudes thought at the time. But a few months later, the multitudes had changed their minds.
"That enormous profits should have turned into still more colossal losses," wrote Graham and Dodd in their review of the '29 crash and the aftermath, "that new theories have been developed and later discredited, that unlimited optimism should have been succeeded by the deepest despair are all in strict accord with age-old tradition."
There is nothing wrong with the judgment of the masses; but the hot steel of public opinion needs to be hammered a few times before it is of any use. People make progress in technology, we are fond of pointing out; but in love, politics and markets they go from one myth to the next, pausing at reasonable points of view only long enough to sneer at them.
When they are in a bullish frame of mind, reasonably priced stocks are considered losers left behind by the New Thing, whatever it is. When they are bearish, reasonably priced stocks seem like bait for fools, for investors are sure that all stocks will go down.
And more thoughts
Traditions do not arise in the course of a single generation. What makes them valuable is that they develop little by little, wrought by heat and cold, beaten into a serviceable shape by countless pounding over many generations, through many complete cycles.
In the early 20s, age-old tradition had told investors to watch out for stocks; they were dangerous. In 1921, the great mass of investors judged a dollar's worth of corporate earnings to be worth only $5 of stock price.
But something happened in the late 20s that changed the stock- buying public's view. It was a 'New Era' in the 20s, complete with a number of important new innovations the automobile, electrical appliances, radio broadcasting and so on. Light-headed, by 29, investors were willing to pay $33 for every dollar of earnings and still considered it a fair trade.
Then, of course, came the crash.
By the end of the end of the year, investors asked themselves: "What ever made me think GE was worth so much?" Mr John Q Public never had a clue -then or now. Herewith, we give him a hint:
In the summer of 1927, the world's central bankers got together much as they did in Montreal just last week [August 2001].
"[Montagu] Norman [of the Bank of England] and [Benjamin] Strong [of the US Fed] summoned Schact of the Reichsbank and Rist of the Banque de France to a conference at which it was proposed that they all increase credit together" writes our UK correspondent, Sean Corrigan. Then, as now, "the continentals demurred" So, the Anglo-Saxons acted on their own.
"Strong blithely told Rist," Corrigan continues, "that he was going to administer a little coup de whiskey to the stock market'. Adolph Miller of the FRB subsequently testified to the Senate Banking Committee in 1931 that this episode constituted the greatest and boldest operation ever undertaken by the Federal Reserve System and, in my judgment, resulted in one of the most costly errors committed by it or any other banking system in the last 75 years.'"
Traditionally, credit bubbles don't last. Nor do the stock prices they inspire.
At the beginning of the 80s, you could buy a dollar's worth of corporate earnings for just $7. At the top, according to Yale professor Robert Shiller, investors paid $44. Even now, three years into a bear market the muddled masses judge $41 [$31, a year later] as the right price.
Today, the judgment of the multitudes is that GE is a decent deal at $30 [$19 today] and Microsoft, at $51 [a whopping $31 today], is fairly priced. Tomorrow, they may think differently.
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