by John M. Curtis
(310) 204-8700

Copyright July 22, 2002
All Rights Reserved.

oasting historic returns of 10% to 12% since the crash of 1929, Wall Street claims superior performance over less glitzy U.S. treasuries, averaging 5% over the same period. There's only one minor problem: Historic averages don't take into account abysmal meltdowns that plummet stock values sometimes by 90%, especially in major crashes. Since March 2000, the tech-rich Nasdaq has lost over 75% of its value, with the current outlook looking glum. Even Fed Chairman Alan Greenspan stunned Wall Street, admitting that he only invests in U.S. treasuries. Some surprise, considering that Greenspan reminds Wall Street that he's concerned about GDP, not whether the stock market keeps pace with the economy. Wall Street doesn't take into account compound interest, doubling fixed income investments every 20 years. Albert Einstein once referred to compound interest as "the greatest invention of the 20th century," not quantum physics or his theory of relativity.

      No equity investor has the luxury of predicting booms or busts, not really knowing their net worth at any given time. It's no wonder that savvy advisors counsel "long term investing," reminding investors to stay in the market for the long haul. How ironic that most mutual fund managers move in and out of shares sometimes several times a day, not following the same "buy and hold" advice given to investors. "Over the course the course of the last 10 years, the market with all of the aberrational downdrafts that we've seen, has gone up. And I believe over the next 10 years the same will be true," said New York Stock Exchange Chairman Richard Grasso, worried about the current selling frenzy. Grasso calls "downdrafts" the anomaly, not the "irrational exuberance" Greenspan observed driving equity prices through the roof. Statisticians call it "regression to the mean," or, more simply, what goes up must come down.

      Wall Street cheerleaders continue to find a silver lining, despite the spectacular collapse of equity markets. Corporate scandals and bankruptcies are only one small part of Wall Street's credibility crisis. Speaking on CBS's "Face The Nation," Goldman Sach's chief investment guru Abbey Joseph Cohen played her broken record. "An economy which is growing, labor markets which are stabilizing, and inflation which is under control . . . I think the direction for stock prices is higher, not lower," the exact statement made last summer when she predicted the S&P 500 would end the year at 1500, not today's 820. So much for Wall Street forecasting. But Cohen's real problem is not her lack of psychic power. It's her mission to keep investors committed to long-term investing, despite the hazards. What does she tell retired couples whose 401(k)s were decimated by following her advice to balance portfolios with 60%-70% equities? Faced with atrophied retirement accounts, many seniors can only cry and keep working.

      Cohen fails to remind investors that rising equity markets aren't built in days, weeks or months. It takes years and fortuitous conditions to create bull markets seen during the Clinton era. When the Twin Towers came tumbling down in minutes, engineers knew the exhausting effort and years required to build them again. Equity markets also need inordinate effort by truly honest businesses, offering profitable products and services demanded by real consumers. Much of what drove the last bull market was wild speculation about the future of "the new economy," not proven and tested business models. When today's "recovery" occurs, it won't be fueled by hype and promises of "the new economy," leading to waves of red-hot new public offerings. Investors like Warren Buffett forecast future returns of around 7%, not the whopping double-digits seen before the bubble burst in March 2000. For equity investors hanging on, it could take years to reclaim losses—if ever. Most investors can't gamble with their nest eggs under the faulty belief that they simply need to hang on.

       In past recessions, the Federal Reserve lowered interest rates to stimulate the economy. Strangely, today's economy, as measured by the GDP, continues to grow, despite disabled equity markets—though crippled stocks will eventually drag it down. "Concern over the Fed's impotence . . . We've had a long time for rate cuts to take effect, and it just isn't working," said James Paulsen, chief investment officer at Wells Capital Management in Minneapolis, noting the stock market's poor health even with Greespan's loose monetary policy. What Cohen forgets is that yesterday's corporate health was hopelessly dependent on market capitalization. Without copious capital, corporations can't hire enough staff, expand plants and equipment and grow businesses with the same vigor that propelled the last bull market. When analysts now speak of "recovery," it's not likely to have the same pizzazz without robust stock sales. Whenever a bottom eventually hits, recouping losses won't be easy with a bull running on three legs.

      Before counseling "long-term investing," advisors should look beyond their own greed and assess the real security needs of clients. No equity investment offers guarantees about future performance, including hypothetical returns that don't take into account the exact time investors must get out. It's utterly asinine for average investors to build a nest egg on long-term "time horizons," when advisors don't have the foggiest clue whether investments will ever pay off. For those unlucky enough to have invested in companies bankrupted by mismanagement and fraud, there's no "time horizon" left. Before investors blindly follow advisors' advice to "buy and hold," they need to look seriously, like the Fed Chairman, at fixed income investing. Hypothetical stock market returns can't compete with guaranteed yields and compound interest. Reinvesting dividends assures that lower yields multiply into double-digit gains. Just ask Albert Einstein about the real genius of compound interest.

About the Author

John M. Curtis writes politically neutral commentary analyzing spin in the news. He's editor of OnlineColumnist.com, consultant and media news analyst. He's author of Dodging The Bullet and Operation Charisma.

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