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I have often written that the four most dangerous words in the investment world are “This Time It’s Different.” If memory serves me, I have written several e-letters disparaging various personages who have uttered those very words, and gone one to confirm later that it wasn’t different. It almost never is. And yet – and yet! – I am going to make the case over the next few weeks that it really is different this time, with only a lonely asterisk as a caveat. What prompts my probable foolishness to tempt the investing gods is the rather large amount of bad analysis based on unreasonable (dare I say lazy or surface?) readings of statistics that is coming from the mainstream investment media and investment types with their built-in bias for bullish analysis. Normally, gentle reader, your humble analyst is a paragon of moderate sensibilities, but I have been pushed over a mental edge and need to restore balance. I anticipate that this topic will take several weeks, as trying to cover it all in one sitting would exhaust us both. It should be fun. But first…

Peter Bernstein, R.I.P.

Sadly, Peter Bernstein passed away at 90 years young on June 5. One of the great honors and privileges of my life has been getting to know Peter and his lovely wife, Barbara. Introduced at a small dinner five years ago, I have been privileged to share many dinners and meetings with him in the years since, soaking up his wisdom. Only a month ago, he made a presentation (by satellite) to Rob Arnott’s annual conference and was at the top of his intellectual game. His writing of late has been some of his best. Peter cofounded the Journal of Portfolio Management and truly was the dean of investment analysts.

He wrote 10 books (five after the age of 75!). I am often asked what books I would recommend for insight into the economic world. At the very top of my list has always been Against the Gods: the Remarkable Story of Risk. If you have not read it, then get it and put it on top of your summer list. Capital Ideas is also brilliant. The Power of Gold is a must-read. You can get all three in a set at Amazon.

Jason Zweig wrote a very moving obituary in the Journal and reminded me of a few quotes I’ve heard from Peter. “‘What we like to consider as our wealth has a far more evanescent and transitory character than most of us are ready to admit.’ He urged investors to regard their gains as a kind of loan that the lender – the financial market – could yank back at any time without any notice.

“Asked in 2004 to name the most important lesson he had to unlearn, he said, ‘That I knew what the future held, that you can figure this thing out. I’ve become increasingly humble about it over time and comfortable with that. You have to understand that being wrong is part of the investment process.’”

Peter and I chatted several times during the last year, and he continued to tell me that those who thought we were in for a typical recovery were probably going to be wrong. In private conversations he was very worried about the world, and added much wisdom to those of us privileged to sit at his feet.

Isaac Newton once said, “If I have seen further it is only by standing on the shoulders of giants.” In the world of investment wisdom, there is no shoulder higher than that of Peter Bernstein. Rest in gentle peace, my friend. You will be greatly missed.

This Time It’s Different*

Ben Bernanke’s career will be analyzed and written about for many years. But the one thing that has caused me the most pain is his bringing of the term “green shoots” into the investment lexicon. These may be the two most overused and annoying words of my investment career. Every possible sign of a recovery is anointed with the phrase.

Of late, there has been a tendency for analysts to see numbers or statistics that are “less bad” and interpret them as signs that we are in recovery or at least almost there. They glance back at previous recoveries and say, “Doesn’t this look like the last time? When such and such happens it means that recovery is on the way. We should therefore buy stocks” (or whatever).

That we are condemned to read such musings is part of the investment landscape. But that does not mean we shouldn’t take the time to look at what the writer of those words is actually looking at. All too often of late, I find these people grasping at straws or failing to understand the data.

My premise for uttering the heresy “This Time It’s Different*” is that the fundamental nature of the economic landscape has so changed that comparisons with post-WWII recoveries is at best problematical and at worst misleading.

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I thought this was kinda odd: Ken Lewis, the CEO of Bank of America, who either wanted/got stuck with/was forced into owning Merrill Lynch’s herd of brokers, is doing some redecorating.

No, not John Thain’s former office, but rather, he is retouching one of the most the famous logos of the business world over the past 30 years: The Merrill Lynch bull:

The scuttlebutt is that Lewis wants to replace this:

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with this:

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The logo is probably the best asset Merrill Lynch has going for it! I am not so sure I would be so quick to dispose of that recognizable asset . . .

LogoTales.com notes:

Anybody who is somewhat familiar with the world of business and stock market will recognize this logo instantly. A raging bull makes for a perfect logo for a company that is “bullish on America”. . . The existing logo of the company was adopted in 1974. The logo was designed by King Casey Designs for Marketing, Inc. (now King-Casey Inc). Three years earlier, the company had come up with a marketing campaign “Merrill Lynch is bullish on America” during a baseball World Series. So the designers might have derived the inspiration from that campaign.

Hat tip: TheDeal.com

My friend David Grais has started a blog devoted to structured finance and the law.  David is a very skilled litigator who spent most of his career doing corporate defense work, but has defected from the Dark Side to become a plaintiff lawyer working on a number of very important ABS cases.

David just posted a comment on the his firm’s blog [http://www.absinvestoradvocate.com] that has some interesting insights about the Obama Administration’s plans for “reforming” the securitization markets.  His comment follows below.  — Chris

Proving yet again that it has become a puppet of its sell-side parent SIFMA, the American Securitization Forum has just released a 241-page study that it commissioned from National Economic Research Associates, Inc. (here) to prove that securitization increases the amount and lowers the cost of consumer credit. It is as though the White Star Line commissioned a book on the RMS Titanic in which the author was told to extol the power of Titanic’s engines, the elegance of the china in its dining rooms, and the verve of its dance bands, while strictly ignoring its shortage of lifeboats.

There is only one question worth asking about securitization: why did securitization become the seedbed of the broadest and costliest epidemic of fraud in history? Until we face that question squarely and answer it honestly, securitization will remain in its coma. Unfortunately, the Obama Administration missed a chance to address that question in its plan to regulate the securitization market. (See the post immediately below.) ASF’s sponsorship of the NERA report is more insidious. By a combination of forbidding mathematics and emollient prose (“Recent experience appears to demonstrate readily that securitization is not inherently ‘good’ or ‘bad.’”), ASF tries to whisk us past that looming question and past the one measure that will best restore confidence in securitization: effective redress for investors against those that turned securitization from a useful financial tool into an orgy of misconduct.
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I am off to the reading at the Huntingotn Book Revue — so no FNJ this week.

Lots of killer things in the queue for next week . . .

Here is last night’s PBS appearance:

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Green Shoots Give Hope But…
Thursday, June 18, 2009

http://www.pbs.org/nbr/site/onair/transcripts/recession_shows_recovery_signs_090618/

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click for video (second story at the 5 minute mark)

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SUSIE GHARIB: The economy sprouted more of those so-called green shoots today, a smaller than expected rise in weekly jobless benefit claims and a solid rise in May leading economic indicators. But despite the positive economic data, the U.S. remains mired in a recession which began in December of 2007. When will the downturn be over? Suzanne Pratt got some answers to that all-important question.

SUZANNE PRATT, NIGHTLY BUSINESS REPORT CORRESPONDENT: Just as all bull markets eventually come to an end, so too do all recessions. The current downturn, arguably the worst since the great depression, is likely to be no different. Exactly when the recession will end is a bit of a debate on Wall Street. There is however far more agreement as to what the recovery will look like whenever it ultimately arrives. First the issue of timing. In the mainstream camp, many experts predict the economy will soon start expanding again.

MICHAEL MORAN, CHIEF ECONOMIST, DAIWA SECURITIES: When they get around to dating the end of the recession, I think it will probably be sometime in the late summer, early fall. If I had to pick one single month I would probably say September. But, I would stay open minded on that.

SAM STOVALL, CHIEF INVEST. STRATEGIST, STANDARD & POOR’S: Our view is the equity markets are foreshadowing an end to the recession by the September period and S&P economics is foreshadowing the same.

PRATT: And then there are the outliers. People like Barry Ritholtz, author of “Bailout Nation,” the popular blog “The Big Picture” and head of research at Fusion Analytics. He says it will be next year before we say, bye-bye recession.

BARRY RITHOLTZ, EQUITY RESEARCH DIR., FUSION ANALYTICS: My best guess is somewhere in the first half of 2010 and if we’re lucky the first quarter of 2010. But, it’s now the end of June. Are you telling me in July we’re going to be out of recession because that’s Q3 and I’m sorry, I don’t really see that.

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Yesterday, we looked at the costs of various one time events versus the bailouts. It took one year of bailouts to rack up the debt totals of 206 years of war, westward expansion, space exploration, etc.

The chart we created omitted numerous conflicts (WWs, the Civil War, etc.) and I was curious as to actual costs of them, adjusted for Inflation.

Reader Ernst Mayer turned me on to this analysis by Stephen Daggett, a specialist in Defense Policy and Budgets. Daggett’s table (shown below) gives you our war spending details, but — spoiler alert –  no other military engagement remotely compares to the financial costs of WWII.  Total inflation adjusted spending: over 4.1 trillion dollars. That was about 36% of GDP.

Incredible.

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Source:
Costs of Major U.S. Wars
Stephen Daggett, Specialist in Defense Policy and Budgets
Foreign Affairs, Defense, and Trade Division
Congressional Research Service Report for Congress (RS22926)
24 July 2008

http://www.history.navy.mil/library/online/costs_of_major_us_wars.htm

Video-o-rama: Regulatory reform dominates debate

The financial debate during the past few days was dominated by President Obama’s sweeping revamp of financial market supervision, and this issue also occupies a number of slots in today’s Video-o-rama.

But it was not all about regulation, as pundits were also trying to figure out whether there were in fact economic “green shoots” and what the implications for financial markets might be. Commentators include Michael Lewis, John Rogers, Robert Kleinschmidt, Jack Welch, Barry Ritholtz, Nouriel Roubini, Stephen Roach, Mario Gabelli and George Friedman.

The compilation kicks off with author Michael Lewis discussing his article “The End of Wall Street”, and concludes with a fascinating analysis of the Iranian situation by George Friedman of Stratfor, geopolitical analysts.

You Tube: Michael Lewis – the end of Wall Street?
“Author Michael Lewis discusses how his experience working at Salomon Brothers and writing Liar’s Poker influenced his article, ‘The End of Wall Street’.”

Source: You Tube, June 16, 2009.

Barron’s: The Barron’s Roundtable – a midyear update
“Our 10 investment experts share their picks, plans and predictions for the rest of 2009. Barron’s Lauren Rublin reports.”

Source: Barron’s, June 15, 2009.

Consuelo Mack (WealthTrack): John Rogers and Robert Kleinschmidt – things are looking up this year
“On this week’s Consuelo Mack WealthTrack meet two veteran contrarian investors with successful track records spanning a generation or more. John Rogers founded value-oriented Ariel Capital Management at the tender age of 24. The first African-American owned mutual fund company is now the nation’s largest black-owned investment management firm.

“Robert Kleinschmidt has run the large-cap Tocqueville Fund since 1992. Going against the crowd has earned him and his investors market beating performance over the years and high ratings from Morningstar.”

Source: Consuelo Mack, WealthTrack, June 12, 2009.

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Before we get into this week’s Outside the Box, let me give you a few pieces of data that came across my desk this morning, which will help set the stage for the OTB offering.

Fitch (the ratings agency), in a downgrade of yet another 543 mortgage-backed securities of 2005-07 vintage, gives us the following side notes: “The home price declines to date have resulted in negative equity for approximately 50% of the remaining performing borrowers in the 2005-2007 vintages. In addition to continued home price deterioration, unemployment has risen significantly since the third quarter of last year, particularly in California where the unemployment rate has jumped from 7.8% to 11%… The projected losses also reflect an assumption that from the first quarter of 2009, home prices will fall an additional 12.5% nationally and 36% in California, with home prices not exhibiting stability until the second half of 2010. To date, national home prices have declined by 27%. Fitch Rating’s revised peak-to-trough expectation is for prices to decline by 36% from the peak price achieved in mid-2006. The additional 9% decline represents a 12.5% decline from today’s levels.”

So, what does an aging population do that has seen its retirement nest egg in the form of housing and stocks go literally nowhere for 12 years? You go back to work! David Rosenberg, now with Gluskin Sheff, offers us this insight:

“What really struck us in the employment report of a few weeks ago was the fact that the only segment of the population that is gaining jobs is the 55+ age category. This group gained 224,000 net new jobs in May while the rest of the population lost 661,000. In fact, over the last year, those folks 55 and up garnered 630,000 jobs whereas the other age categories collectively lost over six million positions. This is epic.” [See chart below.]

“Moreover, the number of 55 year olds and up who have two jobs or more has risen 1.1% in the last year, the only age cohort to have managed to gain any multiple jobs at all. Remarkable. These folks have seen their wealth get destroyed by two bubble-busts less than seven years apart — the Nasdaq nest egg back in 2001 and the 5,000 square foot McMansion in 2007. Both bubbles ended in tears … and so close together.”

With that as backdrop, what are we to make of the prospects for recovery over the next decade? Not much, if we listen to Professor Paul Krugman of Princeton. He suggests that the developed world could be entering a lost decade, just like Japan after their crash. Let me quickly point out that I routinely disagree with Krugman on a large number of issues. And I usually know why I disagree and believe his policy suggestions are wrong.

That being said, one purpose of Outside the Box is to look at ideas and thinkers that we may not always agree with. Krugman certainly qualifies on that front for me. However, it must be admitted that he is a very smart man. Further, his thinking is important, because it somewhat reflects the thinking of that part of the establishment that is in charge of the Fed and the Treasury. And while we are not getting gloomy long-term forecasts from either the Fed or the Treasury, I find it remarkable that Krugman is less sanguine than his peers. And there is much (certainly not all!) within this interview that I find myself in surprising agreement with. This one made me think as I read and reread it.

If he is correct, the rosy recovery assumptions built into the already bloated budget projections are going to be far too optimistic, not just for the US, but throughout Europe as well. Krugman is interviewed very capably by Will Hutton, a veteran writer and economist for the UK Guardian (a bastion of liberal politics). The direct link is http://www.guardian.co.uk/business/2009/jun/14/economics-globalrecession.

Green shoots? Really? I invite you to read and think about what this interview means for the road to recovery. I will take this up more in next Friday’s missive. (Note, I did not write a letter last week. There was a new Mauldin grandchild on Friday, and I decided that some things just take precedence.) Have a great week.

John Mauldin, Editor
Outside the Box

Fear for a Lost Decade

As analysts and media hailed the tentative emergence of green shoots last week, Nobel Prize-winning economist Paul Krugman caused international shock with a prediction that the world economy would stagnate just as badly, and for just as long, as Japan’s did in the 1990s. In an exclusive interview, he talks to Will Hutton about his anxiety for the future.

Will Hutton: You are warning that what happened to Japan could happen to the whole world. Japan’s GDP at the end of this year will be no higher than it was in 1992 — 17 lost years. You are saying that this is an ongoing risk, certainly for the North Atlantic economy – – maybe the world economy.

Paul Krugman: Yes. It’s not that the risk of the Japan syndrome has receded very much. The risk of a full, all-out Great Depression – – utter collapse of everything – – has receded a lot in the past few months. But this first year of crisis has been far worse than anything that happened in Japan during the last decade, so in some sense we already have much worse than anything the Japanese went through. The risk for long stagnation is really high.

WH: So what is the heart of your pessimism? The bust banking system? A critic would say: “Hold on, Paul Krugman. Japan is a special case. It had an overblown export sector that had become too large for an American market it had saturated. The yen was very, very overvalued. And this interacted with a credit crunch and bust banking system. Its policy response was consistently behind the curve. That’s not the story of the United States or the United Kingdom.”

PK: The thing about Japan, as with all of these cases, is how much people claim to know what happened, without having any evidence. What we do know is that recessions normally end everywhere because the monetary authority cuts interest rates a lot, and that gets things moving. And what we know in Japan was that eventually they cut their interest rates to zero and that wasn’t enough. And, so far, although we made the cuts faster than they did and cut them all the way to zero, it isn’t enough. We’ve hit that lower bound the same as they did. Now, everything after that is more or less speculation. For example, were the problems with the Japanese banks the core problem? There are some stories about credit rationing, but they are not overwhelming. Certainly, when we look at the Japanese recovery, there was not a great surge of business investment. There was primarily a surge of exports. But was fixing the banks central to export growth? In their case, the problems had a lot to do with demography. That made them a natural capital exporter, from older savers, and also made it harder for them to have enough demand. They also had one hell of a bubble in the 1980s and the wreckage left behind by that bubble – – in their case a highly leveraged corporate sector – – was and is a drag on the economy. The size of the shock to our systems is going to be much bigger than what happened to Japan in the 1990s. They never had a freefall in their economy – – a period when GDP declined by 3%, 4%. It is by no means clear that the underlying differences in the structure of the situation are significant. What we do know is that the zero bound is real. We know that there are situations in which ordinary monetary policy loses all traction. And we know that we’re in one now.

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We can’t let a Friday go by without something Employment/Income related. Hence, this lovely  BEA chart, showing changes in personal income by state:

The data for Q1 — yes, it is both old and lagging — is still stunning nonetheless:  74% of the states showed a drop in Personal Income.

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Personal Income Changes, by State

via Bureau of Economic Analysis

UPDATE: June 22 2009 6:23am

David Rosenberg writes:

“As an aside, the U.S. Commerce Department also released state-by-state income data yesterday for 1Q and found that personal income deflated in 37 states. That is a very generous assessment since whatever income there was reflected government benefits like food stamps, unemployment insurance and welfare.   Income derived from the private sector — remember that part of the economy? —  actually contracted in all 50 states.

Whatever shoot that is, it definitely is not green.”

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Source:
PERSONAL INCOME AND OUTLAYS
BEA, April 2009

http://www.bea.gov/newsreleases/national/pi/pinewsrelease.htm

Personal Income Drops in 37 States
David Wessel
Real Time Economics, June 18, 2009, 9:34 AM ET

http://blogs.wsj.com/economics/2009/06/18/personal-income-drops-in-37-states/

According to AAA, as of last night, the average price of a gallon of regular unleaded gasoline has been either flat or higher for 51 straight days and has reached $2.69 per gallon, up almost .03 on the week. The .03 doesn’t sound like much but it’s an extra $4b annualized out of consumer pockets and is up .64 over the 51 day time period. Combining this with a still troubled, albeit not as bad, labor market and a deleveraging consumer, it’s no coincidence that retail stocks have recently underperformed the broader market. Off its intraday recent highs, the SPX is down by 3.3% while the RTH is down by 5.7% and the XRT is lower by 8%.