Sunday, August 12, 2007 0 comments ++[ CLICK TO COMMENT ]++

Comments from a superbear: Marc Faber

Here are a couple of good interviews with Marc Faber. Both interviews are pretty similar so if you want to check out only one interview, listen to the Bloomberg interview.

Marc Faber Interview at Business News Network (Canada) [scroll to around 1/3 of the way through]

Marc Faber interview with Bloomberg

In case you have never heard of Marc Faber, he has been superbearish on the markets for a while now. He has had a big influence on me, not so much with my investing methodologies but with his contrarian off-the-wall thinking and worldly views.

If you want to hear the bear case, check the interviews above. If you don't have time, here are some key insights I picked up from his comments. Note that I'm paraphrasing a lot of his points and adding my own comments.

Insights from Marc Faber (As of August 2007)

Start of a bear market

Marc Faber thinks this may be the start of a bear market. He points to some technical signs, such as the fact that 400+ stocks were hitting yearly lows even though the Dow was hitting its high back in July. He says that near the end of a bull market, the leadership thins and only a few big-name stocks keep pushing the markets up while the rest start showing weakness.

I share the opinion of Faber that a bear market can be short. A 25% or 30% quick drop with recovery fits my view of a bear market. In contrast, some people treat a bear market as something that is drawn out and lasts for years. That is not necessarily the case. A 33% decline, for example, wipes out 50% of gains so that is sufficient to constitute a bear market in my opinion. Furthermore, if the broad markets drop 30%, then there are sectors (usually the wildly overvalued ones like mortgage companies right now) that will drop much more. Examples of short, quick, declines are 1987 and 1997, where the market dropped something like 40% and 30%, respectively.

Valuations are not what they seem

Marc Faber points out of a couple of reasons why valuations may not be as cheap as they seem. The S&P500 P/E is something like 16 and that is cited by many bulls as a reason for not being bearish. Marc Faber points out that:

  • A big chunk of the index is made up of energy stocks and financial stocks--two sectors that have low P/Es. Without these, the P/E is closer to (probably) 18 or so.
  • We may not have a valuation bubble but we may have an earnings bubble. In 2000, we had a valuation bubble but right now earnings may be too high. I have felt that corporate earnings are unsustainable (Buffett also commented on that, pointing out that corporate earnings as a percentage of GDP is near all-time high). If earnings are too high, then the cheap-looking P/E ratios are misleading.
Economy may do well but stock market may not

Contrary to what many investors seem to think, it is quite possible for the economy to do well while the stock market does not. I have understood this point ever since I came across this report from Crestmont Research (I highly recommend that you visit Crestmont Research and check out their free reports, most of which are insightful on various topics). Marc Faber pointed out that the Middle Eastern stocks markets peaked in late 2005/early 2006 yet their economies have been humming. There is still lots of oil money sloshing around, lots of construction projects, good jobs, etc. Yet the Middle Eastern stocks are down.

Emerging markets and commodities vulnerable

This is a view I have felt for a long time. Emerging markets are vulnerable to big corrections. Faber remarks that it is possible for the money that has flowed into these countries to fly away any minute. A lot of EM and commodities bulls don't realize how much foreign money has propped up many of these equity markets. Along with EM, commodities are also vulnerable.

Sign of the end of a bear market

One sign that will make Faber feel comfortable that we are near the end of a bear market, and that valuations are attractive, is if Apple (AAPL), RIMM (RIMM) and Google (GOOG) fall 30% or so. He considers these to be some of the leaders and I imagine he considers such a big correction to mean that speculation has left the market.

Unlike Faber, who is partial to commodities, I personally think a correction in some of the commodity high-flyers, such as ExxonMobil (XOM), Valero (VL), etc, is a sign of an end.

Will the Federal Reserve cut rates?

Faber doesn't take a strong position on whether the Federal Reserve will cut rates to stem a collapse in Wall Street banks (he hates central banks--most Austrian Economists do). He thinks they may not be able to. He points out that when the FedRes cut rates back in 1997 during the LTCM crisis, commodities were in a secular decline. In contrast, commodities are high right now, and a rate cut will almost likely lead to inflation. I completely agree with this view. I'm in the deflationist camp who thinks inflation is not an issue, but if rates are cut, it will likely lead to inflation. If the FedRes cut rates by 2%, I am pretty sure you are going to see inflation spike like the 70's. (As a side note, do note that cutting rates by 0.25% isn't going to do anything. When Cramer screams for help for his Wall Street frinds, he is really calling for 1%+ cut.) If the FedRes cuts interest rates, gold is probably a good place to be.

On a side note, the FedRes has one more tool before they cut the Federal Funds Rate: they can lower the discount rate. Basically from what I understand, the FedRes has 4 tools: usage of words to influence market psychology, inject liquidity, lower the discount rate, and lower the federal funds rate. Lowering the federal funds rate is the most significant and has repercussions throughout the economy.

What is he bullish on?

As Marc Faber points out, if you are bearish, you need to be bullish on something else. In his case, he says he is bearish on the broad US markets and bullish, in particular, of cash. In addition to cash, he likes 2yr US treasuries. He thinks high-quality European bonds are ok too. He is also bullish on the following...

He, as always, likes gold (I personally am not sold on gold yet because hedge funds and others may sell gold during a liquidity crunch). He, like most gold bulls, like gold because they think central banks will print a lot of money during a crisis. Although that is possible, it is not a certainty in my eyes.

If central banks do not cut rates (read the point above), he is bullish on US$ (if FedRes cuts rates, US$ may fall precipitously so you wouldn't want to long). This is a totally contrarian stance. Most people out there are bearish on the US$. There isn't a week that goes by without articles talking about US$'s demise (the latest last week was China's financial "nuclear weapon" to be unleashed based on potential US government policies against it). I have been bullish on US$ for over an year and have been wrong. However, I'm sticking with it.

He thinks real estate in some parts of Asia are still cheap based on future demographics. He mentions that real estate in cities like Ho Chi Minh City and Manila are cheap. I think small investors like us can rule these out since we don't have enough information or the capability to invest directly.

He reiterated his past view that farmland looks cheap. I'm not sure what region of the world he is talking about. If I recall, he mentioned farmland in Argentina in one of the Barron's roundtables but not sure what he feels about farmland in USA, Canada, or places like that. This is another area that small investors like me will have a hard time accessing.

So to recap, here are the areas he is bullish on:
  • US$ (if rates not cut)
  • 2 yr US Treasury bonds
  • High-quality European bonds (I assume denominated in the local currency (eg. Euros, Pounds Sterling, etc) but not sure)
  • Gold
  • Real estate in select Asian areas (eg. Manila, Ho Chi Minh City)
  • Farmland

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