Planet Yelnick

Markers of the Fall

This wave 2 will soon correct. It may have started already, with Jan 26 the top. This correction may be but a bump in the road of wave 2, or may signal a change in trend from up to down. How to tell? Watch three markers:

1) Google IPO fizzles. Google is widely reported to be on path to go out in April to raise $4B at a $12B market value. As these things go, the pricing will likely rise as the buying pool widens, so most likely it gets priced at an $18-$20B market value. Truly phenomenal, and a Yelnick tip of the hat to Eric Schmidt for fine leadership. Expectations will build for the stock to double at the opening. But is that reasonable? At $20B, it will be at manic P/E levels, well over 100x. At $4B raised, it will create a great sucking sound of buying interest out of the market. The seminal IPO during the PC mania of 1978-83, Apple, only raised $100M (worth ~$250M in 2004 dollars). The seminal IPO in the first Internet craze, Netscape, only raised $140M ; and the seminal company in the dot-com bubble, eBay, only raised $63M. One of the last major IPOs of the dot-com era was Genuity, which raised $1.9B in 2000, and saw its stock drop from the opening and never recover. Perhaps it is no surprise that there are stories swirling that the Google IPO might not even happen as planned. Perhaps Eric's comment that 'an IPO is not on my agenda right now' was mis-interpreted, or Eric may be reading the same trendline as Yelnick. Given that we are in a wave 2, also possible is that the bankers are asking Eric to delay the offering, anticipating even a more receptive market later in the year; but that advice would be inconsistent with other investment banker views made known to Yelnick in private conversations. A Google fizzle, or a Google delay, will mark the dampening of the wave 2 'bubble redux' psychology.

2) Fed Raises Rates, or, Dollar Plummets in Financial Crisis. This has as been well talked about in the pundit-verse. The market dropped sharply last week when the Fed held rates flat but issued an ambiguous statement which suggested that it was preparing the market for a rate increase. Supposedly this is due to inflationary fears, but we live in a deflationary environment. No, this would be due to the need to bolster the Dollar. The financial crisis would occur if foreigners began dumping Dollars before the Fed and the Bush Administration acted to stem the tide. Something like this happened in 1987 and led to the Crash of '87. Bush has so overextended the US financial system that even his own party is revolting against him. If Prechter's Big One were to occur with a vengeance, this would be the most likely concurrent event.

3) Double Dip Recession. The economy has clearly slowed from the 8% pace of Q3. It has been the Yelnick view for a while wave 2 would likely top in Mar/Apr 2004 due to softness in Q4 followed by slowing growth in Q1. At some point all the efforts of Bush to spur the economy will have been exhausted - tax rebates, low interest rates spurring refi of homes, war spending, etc. Then the $64,000 question would be whether it had been enough to reinvigorate business spending. If not, we will likely sink into a second recession which may be considered by economists to be a second wave of the 2000-2001 recession. If we seem to be headed this way, look for the stock market to drop ahead of the economic confirmation of recession.

Venture Bottom

FT reported that venture investing has finally bottomed after falling from $106B in 2001 to $18B in 2003. The slight uptick in Q4 to $5B was largely driven by late stage investing, which is to be expected given the current Venture Yield Curve. The data comes from The MoneyTree(TM) Survey by PricewaterhouseCoopers, Thomson Venture Economics and the National Venture Capital Association. The renewed venture optimism is largely driven by the expectation of increased m&a activity as well as the reopening of the tech IPO window. Remarkably, despite the three years of dramatic drop in venture investments and the very tenuous extent of the recent uptick, leading venture capaitalists are still concerned over too much venture capital sloshing around. Maybe they anticipate continued decline after a brief 'wave 2' recovery.

Jobless Recovery Bushwacks the President

Despite high GDP growth in Q4, we remain in a jobless recovery. As reported by Sy Harding in Street Smart, pundits had been expecting 100,000+ jobs increase in Dec, but got essentially no growth, plus a downward revision of reported job growth in prior months. Bush is now scrambling to figure out a jobs program.

There may not be much he can do. As the NYT reported, Bush is "confronted by a recovery unlike any other in modern history." Both the NYT and last week's print version of the WSJ gave a plausible explanation for the jobless recovery: the enormous increase in productivity due to new Internet technologies are allowing a rapid substitution of capital for labor plus the outsourcing of white collar jobs to places like India. A similar phenomenon occurred in the last jobless recovery, the mini-recovery from 1933-37. Then, the new wonder technology was electrification, which allowed ubiquitous electric motors to replace labor with new machines.

New Year's Predictions 2003 Revisited: The Case for the Bull

Last year in his private newsletter Yelnick outlined three options for the new year.  How did they turn out?

1) Prechter's meltdown.  Didn't happen.  Yelnick thought it least likely: "The STU crew was soooo convinced of Big Debacle last October, which ended short, that they have been overly anxious to see the drop recommence ever since." 

2) Cycles rule.  Did happen.  Yelnick thought this most likely: "Historical analysis would predict the next up cycle as 9 months and the down as one year to 15 months, meaning generally up or flat through the first half of 2003, with a drop in the 2d half that extends into the last half of 2004 to end this cycle down."

3) The Bull is Back.  Could happen.  Yelnick still thinks unlikely: "Current worries are over the uncertainties of war, but a war in Iraq would be much less costly to us than real dip in the economy or another 9/11 event.  These uncertainties should be behind us by 2Q03, as a war in Iraq if it occurs seems timed to commence in Feb/Mar.  The market tends to anticipate the end of a recession by 6 months - which means the Oct bottom predicts we begin to grow again in 2Q03."

So, not bad in predictions.  The cycle prediction expected a downturn in late 2003 which has not yet happened; mid-year Yelnick modified that prediction to target Mar/Apr 2004 as the turning point.  This is still the preferred view.  If we pass by that turn period, however, the third prediction becomes interesting.  What about the return of the Bull? 

Betrayal of the Investor Class

The Investor Class has been betrayed by government policies of the past 5 years (see below). These types of policies are part of the barnacles that build on a boom and cause the bust. The Demo candidates for Prez are generally migrating more to the left (eg. Wes Clark's tax increase on the rich), giving Bush an opening to announce a series of policy changes that look good for the stock market and recapture the Investors Class for the Repubs. Given that he has largely placed his bets economically, meaning there is little more he can do to juice the economy in this election year, look for him to announce a series of new policy initiatives in the first quarter that appeal to the Investor Class rather than help the economy in the near term, along the lines of freer trade, lower taxes, less regulation, even-handed enforcement of laws, and specific benefits for investors. His immigration proposal, for example, although discussed as amnesty for illegal aliens, is really targeted at easing burdens on business.

Maybe these types of announcements will work to stem the deflationary tide. If the market believes so, 2004 could rival 1994, the start of the mania, which followed the Republican takeover of Congress.

Examples of betrayal of the Investor Class:
- Unnecessarily high interest rates (Greenspan targeting the stock market not the value of the Dollar, the same mistake made by the Fed in 1925-29)
- Massive increase in regulation (Clinton's parting shot as Prez was a series of new regulations)
- Weak SEC (recommendations were ignored, Bush's first SEC head was a wuss)
- Creeping tax increases, esp. at State level
- AMT for ISOs
- Cronyism, esp. of Texas oilmen
- DMCA and the crushing of Napster (the first time a new technology has been thwarted not accommodated by the copyright system)
- Poor oversight of sleazy CPAs, esp. in telecom industry (e.g., IRU swaps)

Demographic Destiny and the Global Scramble for Yield

We are entering a one time event in human history - population will peak and then drop in our lifetimes. The demographics are clear - in developed nations, birthrates are below replacement, and in developing nations, they are plummeting towards below replacement. The primary cause seems to be the education of woman, who then see much more to life then being barefoot & pregnant. (Just in case anyone has any doubts, I find the liberation of women to be the a GOOD thing, the seminal achievement of this era.)

One consequence is a radical change in investment. We all tend to believe in regression-to-the-mean, so if rates are low, they will rise; or if bonds are high, they will fall. The demographic trend may lead to a one-time direction that should last 40 - 50 years, and the fact it doesn't change will catch everyone by surprise.

Another consequence is grave risk of the Japanization of developed countries - decades of slow growth or modest decline. One massive driver of growth are the Tweeners - twenty-somethings who enter the workforce and buy their first car, house, appliances, etc. Subsequent purchases tend to be trading up or trading in. Without the Tweeners, economies grow much slower. (Hence the wisdom of consumer credit - fuels the Tweeners, is paid back when they begin saving in their 40s and 50s.) The Birth Dearth means the Tweener growth engine sputters.

(As a policy implication, it may be time for the US to open the immigration spigot, particularly for the best & brightest Tweeners from around the world.)

Economists at CSFB have assessed the inevitable demographic trends and made five predictions.