Bugos: Good morning David, what
is your diagnosis of the present global economic malaise?
Tice: This is the aftermath of
a credit bubble that (has been crashing). Too much debt was created,
which financed too many ill-conceived ventures that will never be profitable.
Bugos: You have been bearish on
stock prices for some time now, correctly I might add, and continue
to be. What predominantly fundamental factor(s) continues to augment
the bullish case, and prevent the immediate resolution of your outlook?
Tice: There is a great deal of
hope among investors that the market will come back. Stock prices are
the result of the interplay between fear and greed, and there's a significant
spectrum of feelings in between. Currently, we are in the process where
investors are shifting their attitudes increasingly more towards skepticism
and fear, and further away from greed but it takes some time after a
phenomenal 18-year bull market (has been ingrained in investor psychology).
As this shift is made, stocks go lower, but it takes time until the
collective light bulb goes onů that the bullish arguments don't make
Bugos: That sure can take a long
time, particularly if the Fed continues to finance the bullish case
(fighting the trend if you will). How long and how far do you see this
bear market declining?
Tice: It will take years to correct
the excesses. Borrowing a quote, we like to say that policymakers shouldn't
mess with Mother Nature, and if they do, then they can either pay now
or pay later. They continue to defer the cost of intervention into the
future. This whole process could take three to five years to complete,
and the Dow will fall to below 4000, and maybe to as low as 2000.
Bugos: Wow! That means the average
Dow stock will be worth somewhere in the neighborhood of a third of
today's value, by the end of it all, though by then the Dow might have
a marginally different composition as well. What is it about bank shares
that keep them aloft?
Tice: Well, Citigroup is at the
core, a driver of this entire credit bubble.
Bugos: What does that mean for
Tice: Lower interest rates and
an accommodative credit environment have allowed financial institutions
to lend even more money to often less than credit worthy individuals
and businesses. This aggressiveness has increased the denominator in
the loan default ratios, making it appear that credit quality is not
falling as quickly as it really is, as newly extended loans don't default
Bugos: That doesn't sound too
good for the economy, or dollar either. What did all these smart guys
overlook on the way up?
Tice: The willingness of policymakers
to allow our financial system to create more credit than could have
ever been imagined to keep the boom going. The system loaned more money
to sub prime borrowers, and also against real estate than could have
Bugos: This of course is all done
on America's tab, since it is funded by a fractional reserve system,
which up until 1999 had a Congressional mandate. During 1999 the bill
that required Chairman Greenspan to appear before the Congress in order
to justify monetary policy had expired. Under this bill, the Fed had
an official mandate, full employment as per the Humphrey Hawkins legislation
of 1978. While a new mandate has yet to be decided upon it is widely
perceived that the Fed successfully achieved its goal of full employment,
clearly through fueling this credit bubble. Any thoughts on this, or
ideas as to what should be their new mandate?
Tice: We need to change the mandate
of the FED to promote stability of the currency and the financial system
as well as avoid any reference to either full employment, or maximizing
growth, in their constitution. A lesson that must be learned from the
current debacle is that the FED cannot allow the financial system to
let credit growth get out of control. The FED has to prevent asset bubbles
from developing. It must be run by a tough individual willing to take
on Wall Street and take the punch bowl away when the party gets out
of hand. Too much coddling to Congress is probably a bad idea, unless
the Chairman can be extremely effective in educating politicians.
Bugos: Oh my goodness, who would
have guessed that politics has anything to do with the stock market.
What is your outlook on gold prices over the next five years?
Tice: I believe that gold prices
will skyrocket. Gold should perform well in either an inflationary or
deflationary period, and I am still uncertain as to how this will play
out but I am very very (the double positive is not a typo) confident
that the US dollar will decline in value relative to gold.
Bugos: Should investors transfer
a portion of their wealth into bullion - why, or why not?
Tice: Yes they should. As already
mentioned before, gold represents an outstanding investment in either
an inflationary or deflationary scenario. Gold is the one asset that
is also not someone else's liability. The central banks of the world
will pull out all the stops to prevent the crisis from intensifying,
and this will probably involve creating more credit, which again will
be good for gold.
Bugos: Let's take you to task
on that. If the investor had to allocate assets between two hypothetical
options, neither of which were negotiable until maturity - physical
bullion or a five year US government treasury bond - how would you suggest
they allocate, assuming they are both redeemable for US dollars after
Tice: I would allocate all to
bullion. Gold should perform phenomenally well over the next five years.
Bugos: Indeed. What are your three
favorite short candidates in the Dow?
Tice: Citigroup, IBM, and Home
Depot all sport unsustainable valuations. While they have generally
held up better than their peers in the Dow, Home Depot has been a tremendous
beneficiary of the credit bubble and resultant consumption boom. IBM'
services businesses and aggressive accounting policies have kept
appearances, but their other fundamentals are faltering and we expect
its share price to fall in line with the rest of the market as a consequence
some of these things).
Bugos: Can you think of any circumstances
evolving today that might change your outlook on either gold or the
stock market? In other words, what would it take for the Dow to make
it to 15000 by next year or for gold prices to fall to $150 an ounce?
Tice: The secular bull market
has ended and a secular bear market has begun. The massive credit bubble
has burst and there's no reversal possible in my opinion. Growth in
consumer credit has now slowed and defaults are accelerating in both
business and consumer loans. The
consumer has kept the boom alive over the last six months and now he's
running out of credit capacity and his confidence is slipping. Additionally,
the dollar has now peaked, and an increasingly wary foreign buyer who
realizes that the American pyramid scheme has ended will no longer finance
additional credit growth. The excesses and imbalances are simply too
great and now they'll have to be worked off. Additional credit growth,
which has kept the boom going so many times in the past, will simply
be insufficient to fuel the market to new highs. Also, for gold we believe
the dollar has peaked, MZM
growth remains in excess of 20% (monthly), and as we said, loan defaults
are accelerating. In this environment, we do not envision any scenario
where gold could fall to $150 USD/oz.
Bugos: So much for that. Do you
have a message for Washington's puppets at this time?
Tice: I will defer to the great
Henry Kaufman who stated at our September 1999 Credit Bubble symposium
that "the Fed has missed its timing." What Kaufman was saying is that
the Fed unfortunately erred badly in the 1990's by not restricting credit
growth earlier and by not preventing the asset bubble in equities and
real estate from getting out of hand and now, unfortunately, policymakers'
options are limited. More credit to defer the eventual decline will
prove (is proving) counterproductive. Unfortunately, the US economy
is living beyond its means, we're spending far in excess of what we're
earning, and now we'll have to retrench. Unfortunately, the adjustment
process will be very painful for millions of Americans (and Canadians),
because policymakers let credit expansion go on far too long.
Bugos: Thank you for your time
David, we know you're going to be right.