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July 2001

North To Alaska
“North to Alaska,
we’re goin’ NORTH – the rush is on.”

I learned several things during a recent inland journey beginning in Skagway,

twelve-day cruise to the Inland Passage Alaska required the scaling of moun-
of Alaska. For one, I discovered that you tains resembling Mt. Everest, which by
can’t start a dogsled by yelling “mush.” itself was Herculean. Check out the
Sergeant Preston of the Yukon might kicker though: each miner was required
have been able to, but that was at least to carry in 1000 pounds of supplies to
30 years ago and today’s dogsled isn’t insure his survival once he arrived. To
your father’s Oldsmobile – so to speak. do THAT meant that these 99’ers had to
Twenty-first century huskies only pull scale the ice laden peaks not once but
when they hear the word “hike”, so I literally 5 or 6 times as they backtracked
found that if you’re going to quarter- up, then down, then up again with
back an Alaskan sled these days, you 200 pound loads of grain and smoked
literally have to pretend you’re Joe meat. Where was Webvan back then,
Montana, but without the “huts.” When I ask you!
I cornily attempted to interject “Hut-1”,
“Hut-2” into my doggy cadence, Less than half of those that began the
I wound up on the receiving end of a trip actually made it to the gold fields
sit-down strike instead of an Iditarod and fewer still, of course, struck it rich.
trophy. So much for my career as a That is the way of the world, I suppose,
dogsled jockey, or even an NFL quarter- and even more so the way of capitalism.
back, I suppose. Any such dreams were Optimism drives companies and inves-
quickly turned back to “mush.” tors to unheralded peaks of excess,
backtracking up and down mountains
I also learned a lot of fascinating details of risk with the hope of high profits at
about the Alaskan/Yukon gold rush of the end of the journey. That there are
1898-99. Getting to the nuggets of the nuggets on the other side of the moun-
Yukon’s streams was no easy task – as it tain is beyond doubt, but who gets them
turns out far more difficult than their and at what cost is the fascinating part
grandfathers had it nearly 50 years of this historical, nay, ongoing saga.
before in California. The 500-mile What was and remains certain is that
Investment Outlook

the optimism of capitalists is a powerful for almost every taxpayer, and a

force for economic progress but one liquidation of excess business invento-
which is often subject to setbacks and ries have sparked the hopes of prospec-
individual or even collective disap- tors everywhere that the good old days
pointment. We appear to be at just such are just around the corner. While its
an ice laden juncture in July of 2001. To timing might be in doubt, let me join the
find out why, put on your warmest boots chorus and admit that there is no
and muskrat-lined jacket and hop on question of a future economic recovery.
board this dogsled of mine to see where Recoveries always follow downturns.
it might take us over the next few months. There is a recovery out there, but its
Mush you Huskies… I mean Hike! magnitude, not starting point is the
more important question. And to
Last month’s Investment Outlook de- describe it, analysts have simplistically
scribed at length the secular dilemma of employed the old economist’s game of
“weak links” that threaten to derail or at alphabet soup. Extreme optimists
least weaken any U.S. economic recov- believe in a V-shaped recovery, imply-
ery, and therefore keep interest rates ing a quick return to the good old days.
and stock prices relatively low. Five More cautious forecasters speak of a U,
percent annual returns for both bond which signifies a more gradual ascent.
and stock markets over the next few And bearish curmudgeons babble in
years would be a cryptic yet accurate terms of Ls, which is meant to portray a
description of the markets as we see muted recovery that only goes so far
them for several years to come due to and no further. Actually, although I find
muted productivity, yet still benign the L-shaped recovery most probable
inflation, and a developing skepticism for many reasons soon to be advanced,
of equity investors over the inevitability the L letter itself is a rather inaccurate
of guaranteed double-digit corporate graphic portrayal of a muted recovery.
profit increases. Still there are games The L actually portrays an economy
within games and business cycles that goes down and stays down – for
within secular movements that necessi- the count. What I think we’re about to
tate adjustments to the reins of almost experience is more like a half H: down,
any portfolio managers’ dogsled – no then back up, but with only half as
matter how long the race or how far the much growth as experienced in the
destination. And now as we head heyday of Greenspan’s New Economy
towards summer’s end there is the juggernaut.
growing anticipation among econo-
mists and money managers alike of the The explanation for my half H rests
economic recovery to come. 275 basis almost entirely on the assumption of a
points of Fed cuts, $300 refund checks wounded consumer and investment

July 2001
sector, that will be extremely difficult to Forget about productivity miracles.
restart let alone bring back to pre- We simply borrowed more and more,
slowdown levels of growth. I and others then spent it before lenders had
have discussed in past months the second thoughts.
substantial levels of overspending and
excess investment that have character- Well, why stop now? An objective answer
ized the American economy in recent would have to include the possibility
years. Negative personal savings rates that we don’t have to stop – that we can
and investment in excess of 14% of turn this economic slowdown back into
GDP have combined to place the a V-shaped recovery quicker than you
American private sector in hock to not can yell “hike”, by continuing to drive
only its own savers, but the rest of the the private sector financial balance
world as well, which in turn has cheer- deficit further and further into red ink.
ily agreed to serve as our banker via an To do so, though, would require a
accelerating current account deficit. rejuvenation of business and consumer
The combination, as shown in the chart “animal spirits” that has typically been
below, portrays the U.S. private sector produced by easier money and lower
moving from a 4% surplus to a near 6% interest rates from the Fed. Granted,
deficit in less than a decade. It could be Greenspan has moved quickly to
rightly argued that it was this total re-induce confidence into the American –
swing of 10% that allowed the U.S. and therefore – global economy, but
economy to grow at an annual rate nearly aside from some mild upticks in several
2% faster than historical averages. consumer confidence surveys, something
seems to be missing this time. In normal
A Private Problem business cycles, six months after aggres-
U.S., % of GDP sive easing by the Federal Reserve the
8 following three events have taken place:
Financial 1) stock markets have risen by 10-15%,
4 2) bond markets have declined in yield
by at least 50 basis points, and 3) the
U.S. dollar has depreciated in value.
In combination, these three factors have
been the reason why a V and not a half
-4 H-shaped recovery has invariably taken
place. Stocks going up have promoted
-8 * the consumer wealth effect as well as
1960 65 70 75 80 85 90 95 2000 accelerated business investment. Bond
*Q1 2001 yields going down have allowed for
Source: The Economist, July 12, 2001
lower mortgage rates and generated
substantial refi activity, which in turn Greenspan “Hike!” – thus starting the
has led to more consumer spending. dogsled forward in typical V-style
And the weaker dollar has given manu- recovery fashion. By perversely moving
facturing the breathing room to increase in the opposite direction, they more or
exports and profit margins as well. less insure that it won’t take place.
Until stocks go up, bond market yields
To date none of this has occurred as go down, and the dollar weakens from
pointed out in part by the following current levels, then, we are looking at a
chart: muted recovery and the near certainty
Mush, Not Hike
of a half H recovery – up, but only half
as much as in prior recoveries.
Fed Funds
Rate The U.S. and many global economies
are most certainly goin’ north as we
approach year-end – just like the 99’ers
5 of the Yukon gold rush, but no – “The
10-Year rush is (not) on.” Greenspan has yelled,
Treasuries “Hike” but like yours truly, he may have
interjected a few “Hut-1s” and “Hut-2s”
3 into the equation. These 21st Century
J F M A M J J dogs don’t seem to be responding, and
2001 the warming huts of Iditarod and the
Source: Commerce Department; DataStream V-shaped recovery are still a long way
off. Look for more Federal Reserve
To complete the statistical triangle, cuts in the immediate future to get our
since January 3rd when the Fed first economic dogsled up to crusin’ speed.
started to ease, stocks are down over
10% by most index measurements, William H. Gross
and the dollar is up by 8% or so on Managing Director
a trade-weighted basis. The Fed’s magic
then has so far failed to convince
private investors, whether they be in
stocks, bonds, or currencies, that their
markets should be following the

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