FSO Editorials: The Big Bad Bear Market Returns... by Robert B. Gordon 03/24/2004

The Big Bad Bear Market Returns
to an Unsuspecting World
by Robert B. Gordon, Sc. D.
March 24, 2004

The stock markets of the United States and other developed nations are in position to resume the great bear market now in its fifth year. Their economies will join Japan’s bear market, now in its 14th year with no end in sight. The size and scope of the coming economic depression will be unprecedented and the details of how and when it will end are completely unknown at this time.

To the best of my knowledge, the leaders of our nation and the rest of the world are very unprepared to deal with this problem since their economists and advisors have failed to learn the lessons of the history of other major boom and bust cycles in the economies and stock markets. The records of history are available in numerous books that tell about recurring cycles in the economies and stock markets of the world. Their patterns are all the same. Once in every century, our leaders are encouraged by optimistic economists that a "new era" exists that will bring permanent prosperity.

In our last market crash and depression in the 1930s, the brilliant mind of Ralph Elliott found the true cause of stock market cycles. His painstaking study of stock charts at various time intervals produced the Elliott Wave principle which proved conclusively that stock market waves were a natural phenomenon and obeyed a set of laws that determined their actions as well as related actions in the economy. The tragic truth of how Elliott Waves underlie both the world’s stock markets and economies is still understood today by just a tiny minority of experts advising our national and world leaders.

If I learned anything from the Great Depression of the 1930s, it was the tremendous importance of families pulling together and helping each other in many ways. I urge you to copy this essay and send it your extended family wherever they are located. It is extremely important that all ages from grandchildren to grandparents be part of one team with the goal to survive whatever the future will bring. It is better to be pessimistic at the start rather than optimistic. Our nation is crowded into cities with little ability to grow food for their families.

It will take some time before masses of Americans understand the full dimensions of the tragedy that lies ahead. Take advantage of the time available before huge headlines appear in your daily newspaper. Get your financial affairs in the best possible shape to survive the problems ahead. This is not the time to be aggressively invested in common stocks and mutual funds holding them. It is the time to be very defensive in all aspects of your investing.

It is impossible to give a time table for future events in the stock market or economy because the entire world is confronted by the huge scale of events about to unfold. As previously reported, we are in the early stages of a very large corrective wave IV in a sequence known as a Grand Supercycle Wave which started in London around 1700. The Wave III structure in this Grand Supercycle started in London in 1784 and ended in most world stock markets at the recent year 2000 peak. Robert Prechter, Elliott Wave expert, has predicted the Wave IV corrective wave may occupy the full 21st century of market action. If this were to happen, this giant wave will last longer than the life expectancy of our readers.

In view of the facts cited above, the goal of nearly all investors must be to preserve the buying power of existing capital. This is why we have been recommending a stable combination of equal amounts of U.S. Treasury and Foreign Government bonds of short to intermediate maturity. Many investors will have to consider the use of precious metals and short positions for the first time in their lives. Use of conventional asset types and advice needs to be questioned under the difficult times seen ahead. See our broad portfolio suggestions later in this essay.

We live in a nation where most adults cannot explain the difference between stocks and bonds. For the difficult times ahead, we will need to make much more important decisions, so I decided to divide all assets into two major classes: Stable and Volatile, referring to the relative stability of their prices under normal market action.

Hedged Special Bond and Stock Funds
Go to www.hussmanfunds.com for details of two unusual funds that hold (1) U.S. bonds and dividend paying stocks and may buy foreign bonds, gold and place a 30% hedge against losses and (2) U.S. stocks with positive hedges in up markets and 100% protective hedges in down markets. Both are unique and have great records.

Stable Income Funds
There are several very old and stable funds holding 60-70% bonds and balance stocks that are in the Morningstar category of Conservative Allocation funds. Check them out with preference for funds with 4 and 5-star ratings.

Portfolio Allocation	Percentage	One Year
Portfolio Allocation	Percentage	Return	Weighted
60% Stable
Hussman Strategic Growth Fund	20%	26.5%	5.3%
Hussman Total Return Fund	20%	15.6%	3.1%
Prudent Bear Global Income Fund	20%	16.9%	3.4%
Total	60%		11.8%
40% Volatile
Gold/Silver Bullion Fund (CEF)	10%	37.8%	3.8%
Pimco Commodity Fund	15%	50.3%	7.5%
Prudent Bear Managed Short Fund	15%	-7.1%	-1.1%
Total	40%		10.2%
Grand Total			22.0%

Please do not expect this portfolio to gain this well every year. Five of the six funds had very good gains. The new Pimco fund got off to a good start as commodities had a boom year. We feel that this would be a fine portfolio for some of the more adventuresome readers, but that most of them would be more comfortable in the 20% to 40% volatility range.

The CEF bullion fund is red hot right now and must be trading higher than its net asset book value which happens near market highs and lots of buyers. Eventually it will trade below the NAV at a time when buyers are scarce.

I am not sure whether the precious metals are included in the commodities fund, but all of the other five funds have the right to own gold and silver and at least 3 of them do now hold gold. This is really a wonderful advantage for the investors based on everything I have learned about gold and silver since 1970. In the super bull market that will happen some day in both gold and silver, average investors will be much better served with the fund managers making decisions than the investors. These markets are incredibly volatile. The day silver was dropping from its peak of $50, I placed a market sell order on 1,000 ounces and got a price of about $30 as an outsider, quite a way below my expectation.

Depending on where your portfolio is in the 20-40% volatility asset range, you will probably need to rebalance this portfolio at least once a year. As long as the short position is not over 15%, I believe you can keep it permanently for the duration of the bear market. This is because David Tice fully manages the portfolio and can go to zero shorts any time he wants to do so. This is definitely not true for the reverse index funds which are short at all times.

Ultimately, the answer is up to you. Two funds would be appropriate for an investor with limited assets or learning to invest. Some of our readers are responsible for assets in 7 figures which need very careful management in the troubled times ahead. The problems that may arise during coming decades are almost completely unknown at this time.

In past essays, I have suggested portfolios ranging from 2 to 15 different asset classes. I am currently managing a number of portfolios holding about 20 different asset classes and am watching a group of a dozen more. All my portfolios are well balanced and do not need frequent attention, so I have plenty of time to discover other interesting funds. My watch list now includes a total of about 30 stocks and funds.

The Permanent Portfolio Fund PRPFX, with six selected asset classes, has demonstrated the ability to survive over the past 33 years with only 3 losing years. In our recent essay, we suggested a portfolio we expect to be considerably better in an uncertain future. It is made up of 50% PRPFX and smaller percentages of 5 other selected funds.

There is little question in our mind that safety and stability can be improved by carefully adding more asset classes to a small portfolio. Since there is very little addition to the already small amount of management time, I tend to favor large, well balanced portfolios.