Blind seers
James Grant, Forbes Global, 11.26.01, 12:00 AM ET
from http://www.forbes.com/global/2001/1126/090.html
Ban the words "foreseeable future." No one ever can know what's coming.
Bear markets bring out the reformer in all of us, so let me make a proposal.
Ban the words "foreseeable future." William Strunk Jr. and E.B. White,
authors of The Elements of Style, condemned the phrase in general usage. "A
cliché and a fuzzy one," they charged. In finance it is worse than fuzzy. It
facilitates grandiose thinking, which leads to poor decision-making and
early-morning sleeplessness. "How much of the future is foreseeable?"
demanded Strunk and White. "Ten minutes? Ten years? Any of it? By whom is it
foreseeable? Seers? Experts? Everybody?"
The higher the stock market, the greater the imagined ease of prediction. At
or near the peak, investors are prone to believe they can see into the next
county. So deluded, they pony up 100 times next year's forecast net income
for the stocks of companies that may or may not even exist in 12 months. No
margin of safety is necessary if tomorrow is an open book.
You would suppose that 18 months after the surprise ending of the world's
greatest boom, central bankers and CEOs would abandon the conceit that they
possess foreknowledge. Yet they refuse.
The U.S. Federal Reserve is a prime offender, despite its obvious recent
predictive lapses. "Foreseeable future" has been a fixture in the
boilerplate of the Federal Open Market Committee (FOMC) since just before
the top of the stock market.
Astonished by the swiftness of the economic collapse, the Fed this year has
made a succession of steep, unprecedented cuts in the federal funds rate. It
has acted in good faith, but it has spoken the phony language of prophecy.
For instance, consider what the FOMC said in the press release disclosing
the drop of half a percentage point in the funds rate on Sept. 17: "For the
foreseeable future, the committee continues to believe that against the
background of its long-run goals of price stability and sustainable economic
growth, and of the information currently available, the risks are weighted
mainly toward conditions that may generate economic weakness."
Despite the weasel words "information currently available," the committee
seemed to believe that futurity--some part of it--was revealed to Alan
Greenspan. The idea was presumptuous even before Sept. 11.
There is, of course, a forecast implicit in every squiggle of the funds rate
as well as in every investment. Investors have no choice but to take a stab
at anticipating the future. At a minimum they must decide what level of
confidence to attach to the conclusions they form out of necessarily
imperfect information. By the end of the great bull market people had begun
to mistake guesswork for clairvoyance. The future was perfectly lucid, they
decided. It would be just like the past but even more lucrative.
This unforeseen phase of our market history is, of course, well under way,
but the two empty words keep materializing. They surfaced in, of all places,
the June 10-Q report of Global Crossing, the struggling builder of broadband
networks. Example: "The company expects that its cash flows from operations,
together with its committed credit facilities, will be adequate to meet its
anticipated cash requirements for the foreseeable future." In a second
offense the company said that it expected to stay in compliance with the
terms and conditions of its financing agreements for the "foreseeable
future." In a recent bulletin, incidentally, Moody's Investors Service
voices doubts on that score, citing weakness in cash flow.
But nothing about Global Crossing is or was foreseeable, neither its
brilliant rise nor its fiery fall. Nobody guessed that the upstart would
command a $50 billion stock-market cap at its peak , although it came to
pass.
Now it's about a fiftieth of $50 billion; its $3 billion of senior secured
bank debt is quoted at 50 cents on the dollar, and its $4.8 billion of junk
bonds fetch about 20 cents on the dollar. How can this be? Why would the
bankruptcy and workout community not scoop up these claims for the
equity-like returns they must certainly offer? Because at this murky moment
nobody has a clue what Global Crossing might be worth. Employing the
now-current cliché, observers complain, "There is no visibility."
Ignorance about tomorrow is a constant of human affairs. Submission to this
truth is what's variable. In finance, submission entails a healthy fear of
leverage and a decent respect for the relation of price to earnings.
Valuation of the Standard & Poor's 500 index at a rich 29 times trailing net
income suggests that to many investors, the future is still foreseeable.
We'd be richer if it really were.
James Grant is the editor of Grant's Interest Rate Observer. Find past
columns at www.forbes.com/grant.
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