June 28, 2003     Home  l  Broadcast  l  Expert Archive  l  About Us  l  Contact Us

FSN Roundtable with
Kennedy Gammage, Richard Russell, Peter Eliades and Tim Wood

"A Technical Perspective of the Markets & Gold"
with your host, Jim Puplava, and four wise men

Editor's Note:  We have edited the interview in this transcription for clarity and readability.
The original real audio interview may be heard on our Roundtable broadcast page.

JIM PUPLAVA: Welcome again to a special edition of Financial Sense Newshour. As many of you listening to the program are familiar, we normally have one guest on each week. We are going to do things a little differently this week. Joining me on the program are four special gentlemen in the financial markets. My guests this week include Richard Russell, Kennedy Gammage, Peter Eliades and Tim Wood.

Richard Russell	Kennedy Gammage	Peter Eliades	Tim W. Wood

Richard Russell began publishing his Dow Theory Letters back in 1958 and has been writing the letters ever since. Dow Theory Letters is the oldest service continuously written by one person in the business. Russell gained recognition via a series of 30 Dow Theory and Technical articles that he wrote for Barron’s during the late 1950s and 1990s. Russell was one of the first to recommend gold stocks and he called the tops in the market in 1949 and 1966.

Kennedy Gammage is editor and publisher of The Richland Report. He is familiar to viewers of CNBC and readers of Barron’s and as a panelist, lecturer and commentator nationwide.

Peter Eliades began his financial career as a stock broker and appeared as a stock market analyst on Los Angeles television. He has been writing a publication The Supermarket Cycles which began in 1975. In 1985, the first year he was rated by the independent rating service, Mr. Eliades earned the Timers Digest “Timer of the Year” award.

Tim Wood has been following the Dow Jones Industrial Average, the S&P 500 and the gold market. He writes, Cycles News and Views. He also has a website called cyclesmen.com. Tim’s technical studies are based on his knowledge of both the market cycles and Dow Theory. His knowledge of cycles is based on methods he learned from Walter Brussert. His knowledge of Dow Theory has come from studies of original works of Charles Dow, William Peter Hamilton, Robert Rhea, George Schaffer and Richard Russell.

Gentlemen, welcome to the program! I would like to start our discussion with something that we hear constantly in the media today and in the financial press,

Is this a bull market, a bear market or what John Murphy has called a "cyclical bull within a secular bear?"

RICHARD RUSSELL
I got my Dow Theory bear signal back in September 1999. That was my signal for the beginning of a bear market. And as far as I am concerned, it has been a bear market ever since. We have never had anything resembling a real bear market bottom. In the absence of a bear market bottom, you have to conclude that the bear market continues. I said at the time that I thought this bear market could resemble, to some extent, the 1966 to 1974 bear market in which we had a number of mini-bull and mini-bear markets within the ongoing bear market. Finally we got the conclusion in 1973-1974. We had the huge collapse of stocks, taking the Dow to 577. I think that is probably the way this bear market will end. When we get the big slide down, I don’t know, but it will come and I am afraid it is going to be one of the worst we have seen. I say worst because the Feds have been fighting this thing for so long. And the more the Fed fights, the more they hold back the bear forces. The worst it will be when they are finally expressed.

PETER ELIADES
Backing up what Dick has said, I wrote an article in Barron’s in April of 1998. It was somewhat premature for the popular averages, but it happened within a week or two the exact top of the advance decline line. It is an indicator that I call "the sign of the bear." It is something that I have developed after a lot of research in the markets going back over the last 60-70 years. The sign of the bear was given in April of 1998 and the second sign of the bear was given in September of 2000 within about two weeks of the all-time high in the New York Stock Exchange.

The history of the signs of the bear, especially when given in sequence like that, is that they tend to occur near very important market tops. But more importantly, they tend to be what one might call a secular bull market top, one that is going to last for a long period of time. One of the great problems that we have here—I think everyone will agree—is that we have been in one of the greatest bear markets in history, if one looks at something like the NASDAQ composite. The big problem that we have here is we have just not seen the kind of sentiment that is required historically to mark a bear market bottom. Having not seen that, my analysis has developed that we are still within the realm of a bear market that might get pretty ugly.

TIM WOOD:
If I can add to that, I think we are definitely in a bear market as well. I think we have seen a surprising bull market rally within the context of the bear market. The reason I say we are in a bear market still is based on price and time and my study of the averages. One thing I realize as I go back and read these old writings that you mentioned early on is that back in the early days, is in the early days that the bull market—from a cyclical perspective—was the upside piece of a four-year cycle and the bear market was the downside piece of the four-year cycle. A bull-bear market event, if you will, was a four-year cycle event.

Then I found that by the time we got into the early 1920s, that these bull and bear market cycles started stringing together into multiple four-year cycles. By the time we got to 1921, there were of course two four-year cycles that ran to the 1929 top or the bull market from 1921-1929. The interesting thing I found was that bull market carried the averages up 568% over that eight-year period. Then we got into the second great bull market from 1942-1966, which was a period of six four-year cycles. It carried the market up an average of 1076%. This last bull market period, from 1974 as a cyclical low to the 2000 top, was a period of seven four-year cycles and that carried the market up 2061%.

The interesting thing I found there was that each one of these great bull market periods has doubled in intensity. Of course the length of time has also lengthened. The other thing I found that was interesting was confirmed from the original bull and bear market period. If you look at the period of 1929 to 1932 we have a period of three years, which was 37½% of the time of the preceding bull market. Of course, the bear market in 1966-1974 was a period of eight years and that was 33% of the time of the preceding bull market period from 1942 to 1966. If you look at it just from a time prospective, I hardly think we have corrected a 2061% advance in the course of three years.

JIM PUPLAVA
Let me just interrupt there. It's something that you wrote about, Richard, which I have found all the more surprising given our knowledge of the financial markets today. Typically when a bear market ends, it ends when valuations are so compelling, when dividends are high,  and when P/E ratios are so low. As I look at my Bloomberg today, we have a P/E ratio of 32 on the S&P 500 and a dividend yield of less than 1.7%. The Dow is selling at 29 times earnings, with a dividend yield of 2.2.

Richard, you wrote recently that in 1949, the Dow P/E ratio was 5.4 and the dividend yield was 7.4%, which almost sounds astronomical today. In 1974 the P/E ratio was 7.5 and the dividend yield was 5.1%. In 1980, the PE was 6.8 and the dividend yield was 5.7%. Contrast that to today, where you have dividend yields below 2% and P/E ratios at actually where other bear markets begin.

RICHARD RUSSELL
Right, the ultimate real test of the bottom of the bear market is always valuations. Incredibly I looked up in October 2002, which was the recent low for this bear market, the S&P was still selling at over 30% trailing earnings. We have never come even close to what I would have expected at a bear market bottom as far as valuations are concerned. My guess is this bear market, because it is so extended, will possibly give us new extremes in bear market valuations. It wouldn’t surprise me, when this bear market is over, to see the S&P selling at less than five times earnings and maybe as far as dividends possibly even 10%.

KENNEDY GAMMAGE
I remember back in 1974 that we briefly saw a P/E of 6. I remember in 1982 seeing a P/E of 8 on the S&P. We have had an incredible bull market. It has been one of the great bull markets in history—if you measure from 1974 or I prefer 1982—because that is when the shift in valuations or the shift in investor preference from tangible into paper financial assets took place. If you measure from that, we have a move from 770, up 550 if you want to take 1974, but 770 in 1982 on the Dow up to 1170. And it seems to me, to work off of the excesses that were built up, not only in terms of the economy and the bubble in the economy, but also the mania in the stock market -- to work those off in such a short period of time would be ridiculous. It is not going to happen, to envision a bull market beginning with P/Es up there with interest rates where they are. Interest rates are usually around 6% or 7%. We have interest rates down around 1% or 2%. This is not the beginning of a new bull market.

You have to remember in all of history great bear markets have been punctuated by bear market rallies, which convinced everybody -- that's their purpose, that's what they do -- that this is a new bull market. Barron’s has recently fallen into that trap with the cover on May 16^th. I think that all of those people are unfortunately going to be confounded and as Richard says, the pendulum always swings too far. This time we will see the market end with valuations that are excessive on the upside. Just as they were excessive, we will see them excessive on the downside unfortunately. I don’t see an end to this until the cyclical end in 2006 and the secular end maybe in 2010, but there will be a period of bumping along the bottom between 2006 and 2010 I think.

RICHARD RUSSELL
I will tell you a story of how bad it was during 1974 at a real bear market bottom. I had wanted to buy General Cinema, which is selling at ten in a row, I put an order in with my broker to buy 500 shares and he called me up and said you got it at five. I asked how could that have happened? He said, “Somebody put an order in to sell at the market, and the only order was your order and they took it at five.” That is how bad it was near the bottom in 1974.

PETER ELIADES
Kennedy just mentioned bear market rallies of the past. I think it might be interesting to note that on April 16, 1930, the Dow Industrials had rallied 52.2% from its post crash low of November 13, 1929. At that time, I want to read you just two sentences that come from Barron’s, courtesy of my friend Bob Prechter. I think it was in one of his recent publications. This is word for word what was written on April 16, 1930 in Barron’s,

“It is apparent that the public preference for stock is not only as marked as ever, but also the world is speculative and is still a speculative factor not to be overlooked. The prompt return of huge speculations and the liberal manner in which current earnings are again being discounted indicate that it will be difficult to quench the fires of stock market enthusiasm for long.”

That was April 16, 1930 at the exact high of the market in 1930, prior to the real bear market beginning. It might be interesting to note that the NASDAQ Composite—as of June 6^th when it hit its first of its two highs that it made recently—gained 51.9% from its October 2002 lows. Almost exactly the same percentage gain as was seen from the Dow Industrial from the 1929 low to the 1930 high.

TIM WOOD
I have something I would like to add to that as well. In reading some of the Rhea material, Rhea made the comment about each phase of the bear market. There are three phases of the bull and bear market. But the point I want to make here is that he said that each phase of the bear market was divided by these important rallies, which are often mistaken as the beginning of new bull markets. I think that is exactly what we have seen here.

Why is Public Sentiment so high?

JIM PUPLAVA
Has it surprised any of you gentlemen that if we go back to last October—given the size in the loss of let’s say the NASDAQ, the S&P and the Dow—public sentiment is as high as it is today? I don’t recall seeing this much loss in assets and yet sentiment remains so high. In fact Tim, you and I had a conversation on an earlier show that despite 13 years run up in the Dow leading up to about 2000, I don’t think sentiment figures were as high then as they are now after three years of decline.

PETER ELIADES
When the history books are written about this market, the most incredible statistics will end up being the sentiment statistics. It has always been my belief that the one thing that is missing from most of the sentiment statistics that we read is the background of the market as those sentiment statistics are taken. For example, people would say these are the highest, bullish/bearish readings since 1987 and indeed some of them are. Some of the ratios for investors intelligence.

The important thing to remember is we have just seen a namby-pamby bear market rally. This rally on the Dow and the S&P is not much greater than the two or three that we have seen already in the last couple of years. Yet, while that is happening, we see this incredible amount of bullish sentiment and this incredible lack of bearish sentiment in the market. Nothing could be more bearish than to have great bullish sentiment build without any great underlying market move. I will point out to you that some of the other great differences between bulls and bears in the past occurred after the market has moved to new all time highs or at least multi-year highs. Nothing like that has even occurred here. The sentiment is that as bullish as it is now, in light of the market action underlying, that sentiment is truly remarkable.

RICHARD RUSSELL
I think one reason for this bullishness is almost this religious faith in the Federal Reserve, in particular with Greenspan. My guess is that before this bear market is over, the Federal Reserve is going to be completely disparaged. And Greenspan is going to be a dirty word before this thing is over. He'll be demonized. He has added over a trillion dollars in the last year to liquidity and he is literally on the way to destroying the tower before this thing is over. I do think this almost insane belief that the Fed will save us and nothing can happen as long as the Fed is in charge, which has kept this extreme bullishness going.

TIM WOOD
I have a question for Mr. Russell. Schaffer described the three phases of the bear market where the first phase is the abandonment of exaggerated hopes upon which stock prices were based when they reached their bull market tops. I am of the opinion that we are still in the latter phases, if you will, of the first stage of this bear market. I would like to hear your opinion on this.

RICHARD RUSSELL
I agree. I don’t think we have abandoned the extreme bullishness that accompanied the previous bull market. These phases can very tremendously—sometimes classically—the second phase has always been the longest phase of a bull or bear market. I think we are just in a very extended first phase. I think it is because the Fed is fighting this thing tooth and nail, which I always thought they would. I think that the Fed will have to almost fail. We could be seeing that now, before we move into the second phase of this bear market, when people say, “Oh my gosh, the Fed couldn’t do it.”

KENNEDY GAMMAGE
I think the evidence that was just cited of the bullishness pretty well validates that we are still in the first phase of this euphoria of a bear market rally. I honestly believe that the nastiness, which I anticipate will begin shortly within a few weeks after the July 4^th holiday, that the nastiness that occurs between now and the five year lows, which cycles tell us are due roughly around the 10^th of October or there about, somewhere around in there. If we have drop from July down into October with a little desultory rally in between from August 1^st into the latter part of August into early September, then the rest of the drop. To me, that is going to go a long way to destroying the euphoria that consists of that first phase. We will see how it goes. I think that what you just said tells us that we still are the first phase as you said, Tim.

RICHARD
This is something of a phenomenon now that has never happened before. That is, I don’t have the figures of how much trading done each day is run by the fund rather than the public. Right now probably 70%, 80% even up to 90%. These guys are playing with other people's money. In the old days you didn’t have that. You didn’t have the pension funds. You didn’t have the bulk of the trading going on with other people’s money. All they want to do is beat the S&P. The S&P is down 10% and they are down 7%. It's a victory. I think that is one of the reasons these valuations are staying so high. It is basically because these guys are playing with other people’s money.

TIM WOOD
I would like to add something to the sentiment discussion as well. In the last newsletter, I went back on June 6^th, Investor’s Intelligence Data came out with 58.7% bulls and 16.3% bears. I use those numbers because the ratio between bulls and bears was 3.6 and that is what I based the study on. I went back to the beginning of Investors Intelligence data that I had, which was 69 and I have found that there has been a dozen times we have been above that 3.6 threshold and every time it has been in either a seasonal cycle top or a four-year cycle top. We could be at a four-year cycle top, I don’t know, but we are certainly at a seasonal cycle top. Looking at it cyclically, it is very dangerous as well.

Investors aren't feeling any pain because of the Real Estate Bubble?

JIM PUPLAVA
Let me throw something out here that I would like all of you to comment on. If we take a look at the flooding of the financial markets with credit by the Fed fighting this tooth and nail as you said, Richard. In that process, the Fed has managed to create, in my opinion, some bubbles in real estate and the mortgage market. Do you think that perhaps the rise in housing prices—you commented the other day, Richard, that the mean price of a house here in San Diego selling in the last month was half a million dollars—that if an individual has seen perhaps his 401(k) program drop 50%, but his house has gone up 50%, perhaps he is not feeling the pain as much as he would have in 1973 and 1974 where both real estate and everything came down?

RICHARD RUSSELL
Actually, the public has more of its assets in housing now than they do in the stock market. With this huge liquidity being created, you have to ask yourself, “Where is it going?” I think it basically has been going into housing more than any other area. There are a lot of bubbles. I think there is a bubble in the bond market. I think there is a bubble in real estate. And I think they are actually trying to recreate the bubble in the stock market. Basically the Fed is trying to bring back a bubble that it never saw in the first place. The liquidity is going somewhere and I think basically it is so far going to the largest extent into housing.

KENNEDY GAMMAGE
That is destined to pop without any question, it seems to me, because we are still loosing jobs. Factories are still shutting down. Small businesses are still shutting down. With employment, we have very low capacity utilization. One factory in four in the United States is flying idle. Our manufacturing base has moved to China. As a consequence of this, the manufacturing that we had was largely in terms of telecom and that kind of thing and there the overcapacity was just so huge that I don’t see people being interested in building new factories and hiring new people to man those factories when we have that capacity already unused here. All of which simply indicates to me that this is going to eventually be reflected in the housing market, since people who are out of work don’t buy new houses, they don’t buy new television sets and they don’t buy new automobiles or washing machines.

RICHARD RUSSELL
Actually, one of the big questions I'm asking myself is that I am beginning to think that the consumer is finally starting to cut back. I felt all along that the one thing that would scare consumers—even more than the market going down—is unemployment: you're losing your job or your neighbor is losing their job. I think here in La Jolla, I noticed just recently that the restaurants are emptying out. All the storekeepers are complaining and it does seem to be slowing down, at least here. The other thing I am watching is the almost collapse of the Transportation Average. This tells me what we are probably seeing now is the manufacturing going on, inventory building and so forth, but the goods are not being shipped out. I think this is a beginning of a real slow down in the economy. I am convinced that Greenspan sees this and it is really scaring him. That is why he continues to drop the rates and that is why he continues to surge the liquidity and the money supply.

KENNEDY GAMMAGE
The interesting thing, concomitant of that, is that you can increase the money supply and it can go into the banking system. But, how do you get it out of the banking system? That is the problem that Mr. Greenspan faces now.

RICHARD RUSSELL
If you look at velocity, it is going down. The money is not turning over.

KENNEDY GAMMAGE
If you have a lack of velocity, then you can keep pumping the money supply up and you can keep pumping the reserves. But if the reserves don’t go out into the system, then you've got a problem. I think that is one of the problems that he faces right now.

PETER ELIADES
Jim, if you put all these mixtures together that Ken and Dick were just talking about and add them up, when you and I spoke a few weeks ago, I expressed the opinion that the one thing perhaps that had been helping the stock market in the last couple of years, despite some of the incredible declines, was the wealth effect that people still felt with their real estate. Especially out here in California, where four of the five of us in this conversation live, in Northern and Southern California, where real estate values are really a world apart from the rest of the country, even though they are inflated in other large cities too. I would maintain that the things that Dick and Ken have just been talking about, such as the swelling in the economy, are now going to be about a bursting of the bubble in real estate or not, I am not sure. But, if it brings about any kind of decline in real estate, that goes along with what people are seeing in stocks so far. That is when the real panic can begin in the stock market, because all of a sudden people are going to sit up. Right now I think they are saying, “You know honey, we lost a lot of money in the market, but look at our house. We bought this thing for forty thousand and it is worth half a million dollars now.” They have a good investment there, so they don’t feel quite so bad about their stocks. What if that home starts going down 10, 15, 20, 30, 40 percent and the market is still going down too? Then you are going to see the kind of panic I think that brings about the kind of stock market bottom that will mean something, that will have some significance. That is not going to happen in the next five or six months. It might not even happen the next three, four or five years. But believe me, it is going to happen.

RICHARD RUSSELL
As long as my wife doesn’t lose her job, I don’t worry.

PETER ELIADES
That is exactly what everyone is saying.

RICHARD RUSSELL
Here in La Jolla, every house is a million dollars to two or three million dollars. You look around and you ask yourself, can all these yo-yo’s be millionaires? It is impossible. It is a ridiculous situation. I have seen it before. It is absurd. And before this is over, we will see, I think, a real collapse in housing values.

TIM WOOD
One study that I saw was quoting housing prices around the turn of the century in 1900. It said that a five-room house someplace in New York was approximately $1,300 in value. By 1929 the price had appreciated to $5,700. In 1932 and 1933, the price had collapsed to $1,600 to nearly where it was some 32 to 33 years earlier.

PETER ELIADES
They asked me to do a speech in real estate in Los Angeles back in 1989. I don’t know why because I didn’t claim to be an expert on it, but Mayor Bradley’s office called me and asked me to do a speech on it. I did a lot of study on real estate and some fellow in Southern California had written his Masters thesis or Doctorate thesis on the long-term history of real estate. He actually went to San Diego and did some real detailed research going back to as far as the 1860s and 1870s time period. You would be amazed at the kind of cyclical movement that was seen in real estate. If you look at a chart of real estate now, from 1932 to the present, it has been virtually a straight up move. Yes, there had been a stall in 1974 and there was a stall in 1989. We saw a little stall at the end of this decade by a tiny bit, but real estate has gone straight up. If you look at the history of real estate in San Diego, from say 1860-70 to 1932, there were declines of 50, 60, 70 percent in the value of homes. We haven’t seen anything like that for a long, long time. It all goes back to our old buddy Joe Granville saying, “Markets don’t just breathe out, they breathe out and they breathe in.” And if you don’t breathe in and you had the kind of market that we saw in the stock market from 1974 or 1982 until the top in 2000, or the kind of real estate market that we saw from 1932 to the year 2000, it barely took a breath. That is when you see the most damage potentially being done in a market like that, that has not breathed in the natural and normal fashion.

KENNEDY GAMMAGE
Earthquakes help us to breathe.

TIM WOOD
One of the things I have to wonder about—and this is something I know Kennedy has written about and so has Mr. Russell—that is the debt. I see that around my area as well. People are biting off an awful lot of debt to buy these houses. I have to ask myself, what is going to happen as this market continues down and this bear market continues to some of these people that are up to their eyeballs in debt. Like one of the spouses looses their jobs as someone made the comment a while ago. I think the potential is there for this to get real ugly.

RICHARD RUSSELL
What will happen is people will just walk away from their mortgages. The banks will own the real estate.

KENNEDY GAMMAGE
That is what happened interestingly enough. That is when condominiums were born out of the coops in New York. If you recall, in a cooperative in New York City, everybody owned the whole building cooperatively. If one person left, the debt was assumed by everyone else. Of course in 1929, 1930 down to 1932, people literally walked away from it and let the banks own it. Out of that came the idea that we would have a condominium, whereby the ownership was only common within the commonality portions of the building. Each individual owned his own condominium and the other owners were not responsible for that. That all came out in the 1920s, isn’t that right Richard?

RICHARD RUSSELL
My father was a real estate man. He said, “Don’t ever buy a co-op because if a couple of people crap out on the thing, it is yours baby!” Stay out of the co-ops.

KEN GAMMAGE
That is interesting. That is what will happen. The bank will take it all back.

Consumer Consumption

JIM PUPLAVA
I was shaving the other day while I was watching the cable channel and I saw a television ad and I thought it was rather interesting and rather indicative to the whole American economy. It was a young married man. He was bragging about how he just bought this new house and then said, "I just bought this new car and I also belong to the best country club in town." Then he looks at the viewer and says, “How can I afford all this? I bought it all on credit. I'm up to my eyeballs in debt.” Then the ad goes on for a credit consolidation program based on the equity of your house. Gentlemen, it seems to me like the only thing holding up the economy and Greenspan’s only hope is keeping this housing bubble alive so people can extract—as they have here in the last month or so—more equity out of their homes in order to maintain consumption.

PETER ELIADES
That is something we all agree with. I think whether we call it cycles or not, it really is a long-term economic cycle. My father was born in 1901 in Europe. When he came to this country in the 1920’s he had learned from his father that one should save his money and certain lessons that children learn from their father. Then my father went through the depression in this country. He made sure that he told us as young children, growing into adolescents, “If you want to buy anything, you sure as hell better be able to pay cash or not buy it or you can run yourself into a lot of trouble.” As it turned out it, that was probably the worst advice my father could have given me, as someone who came into his adolescence in the 1950s and 1960s or '40s or '50s. Of course I should have listening to someone like Donald Trump, who would have told his children, "Leverage yourself to the hilt and you'll do just great in this world."

Now the interesting thing is that we have finally come to the point, where I believe and I think we can all agree, where we're find that whole thing is turning around again. Everyone in the world now has learned that the easy way to get rich and easy way to have success and material things is to use debt. That is an easy way to do it! You can always pay it off some time in the future and there is nothing you have to worry about—especially if you have inflation because the dollar keeps getting cheaper and cheaper. Well guess what folks? Deflation is rearing its ugly head. All of a sudden the whole debt picture changes completely. Once again, the advice my father gave—which no one would be willing to listen to now—would be great advice. That is, you sure as hell better be able to pay cash or you are going to get into a lot of trouble.

RICHARD RUSSELL
I remember in the 1930s and 1940s. Everybody’s ambition was to own a house with no mortgage. Get rid of the mortgage. That has changed totally. The other thing I want to say is this. I think what Greenspan is really concentrating on—I don’t think he gives a damn about the cost of living— I think what he mainly is concerned with is asset inflation. I think he wants asset inflation to keep going. That means number one, housing, and number two, the stock market. I think those are the two things he is really concerned with. I don’t think he cares whether it costs you more or less at the grocery to buy a loaf of bread. It is asset inflation, housing and the stock market that he wants to keep going. If they turn down, we are in major trouble, basically because of the huge, historic debt. Everything in the country, everyone is loaded with debt. Corporations are loaded with debt. People are loaded with debt and they cannot deal with any deflation in assets.

KENNEDY GAMMAGE
Jim, you and I were talking the other day over the telephone about the fact that when you go into the supermarket to do the shopping, you see how the cost of foodstuffs and other things, your can walk into the post office and all sorts of goods and services are going up in price. But as Richard says, Greenspan doesn’t care about that. It is asset deflation that he is really concerned about.

RICHARD RUSSELL
That is the one thing that scares the devil out of Greenspan is the possibility of deflation in assets.

TIM WOOD
Wouldn’t you think that the deflation would begin once we enter into the second phase of the bear market?

RICHARD RUSSELL
Right. That will be the real horror, when asset deflation occurs. This is the one thing about gold now. I think as gold doesn’t take off here, I think that bothers Greenspan very much. I think he would love to see gold push up towards $400. That would tell him that we are starting to get asset inflation. So far we haven’t had it. I am sure that worries him.

Aren't there striking anomalies today?

JIM PUPLAVA
I want to talk about something we see and I want to get you gentlemen’s opinion in this from a technical perspective. I see from my limited knowledge of technical analysis all kinds of anomalies. You have a falling dollar, but rising CRB. You have rising gold prices, but falling interest rates. Doesn't that strike you as odd that some of these anomalies exist today?

RICHARD RUSSELL
I think again you go back to the Fed. It is the Fed putting tens of billions of dollars of liquidity into the market. It is creating bubbles in certain areas. You have a mixture today of inflation in some areas and deflation in other areas. It is very unusual, but we have never had a Fed that is this wild and this determined to avoid asset deflation.

PETER ELIADES
The interesting thing is Greenspan is aware of what some of us call the long wave or the Kondratieff Wave and has written tomes and books about it in his younger days. He is very much aware of the long economic cycle, the so-called Kondratieff wave. And yet, he seems to be in the position now, the thing I can’t believe is that he didn’t retire in the last year or two and come out smelling like a rose. He has to know…

RICHARD RUSSELL
He would have been a national treasure if he'd retired then. From canonization to demonization, that's his fate. Well, he's got a big ego.

KENNEDY GAMMAGE
He would have to in order to be able to do that job, the pumping up of the money supply. As you say, Pete, he is well aware of that with his classic essay in the Statesmen on gold and statism and so forth and so on. He was a disciple of Ayn Rand. He knows full well all those things. You are absolutely right. And yet, he sold his soul to the devil. It's just that simple.

RICHARD RUSSELL
It is interesting. I went to New York University and he was a year behind me at NYU. He was a saxophonist in the band and he got his start by doing income tax work. He would make up income taxes for the boys in the band. That is how he really got started in this whole money picture. Ten years later, he went back to NYU, got his MA and PhD and he was off.

KENNEDY GAMMAGE
He's been off ever since!

JIM PUPLAVA
I hope he has maintained his sax playing abilities.

KENNEDY GAMMAGE
I thought he was a clarinet, Richard?

RICHARD RUSSELL
Actually he was sax and probably clarinet too. Unlike Woody Allen, he has dropped it.

KENNEDY GAMMAGE
Well, Woody doesn't need it either.

PETER ELIADES
I would like to make a comment about sentiment because it goes in more directions than one. I have a chart that I have pinned up to my wall right near my computers here. It comes from the great charting service that Met Davis provides. It is Stock Mutual Funds, Cash to Assets Ratio. The history of this chart goes back to 1966, but they have it going back further than that. The current cash to assets ratio for mutual funds is incredibly low—in fact, almost an historically low, somewhere between 4% and 4½% I think. In other words, virtually every manager of a mutual is what we would call completely, fully invested to the tune of about 96% or 95½% invested.

I was going to write something about that in the last couple of weeks. I was severely lectured by a younger market letter writer (no one that's present here) and he said, "You better not write about that because those statistics are not significant anymore. Those guys have to be fully invested or else they'd be fired." I thought to myself, wait a minute, doesn’t that exactly prove the point we are making here? They would be fired by whom and for what reason? They would be fired because of what Richard spoke about before, when he said that it is the common perception now not just a belief, not just the little guy, but the money managers heads saying that this is a wonderful time to be in the market, there's never been opportunities like this, and we have to be fully invested.

Now playing devil's advocate, these people could come back and say of course we are at 96% invested. Where else can we put our money? Interest rates are so low that we can’t put our money anywhere. One of the reasons we look at market sentiment as analysts is we want to know, how much money is available to come into the market that could spark a further rally? One of the reasons why a completely bullish sentiment leads to a down market is the fact that the money has dried up. These guys are completely invested. In the mutual funds I believe the data says that as of the end of May, after that nice rally we had, these mutual funds are tapped out. There's no more money left.

RICHARD RUSSELL
Of course they are not that worried because they are playing with other people's money, not their own.

KENNEDY GAMMAGE
The other aspect of it is that it's a “begger my neighbor” situation. As far as they are concerned, all they want to do is to beat the guy who is in the next office and make sure their record is better than his. If he is down 20%, they want to be down 19. As long as that is the case, they consider themselves winners, even though and it's because of that syndrome you mentioned, Richard, it's because of that word, OPM, the fact that it's somebody else's gold.

Media "Coverage"

PETER ELIADES
The whole relative performance thing. And doesn't this tick you off? Listen to this everyone. This is what I wanted to throw out. Once in a while I turn CNBC on just to get an idea of how market sentiment was running. But doesn’t this tick you off, to the whole heart of this great bubble, especially in 1998, 1999 and 2000? This is what you would'd hear, “Hold on now because IBM’s earnings will be out right after the next commercial.” What do they say? "IBM, They beat the analysts predictions by a penny!” Isn't that wonderful? Wait a minute now! I am not a fundamentalist, but didn’t I learn when I was four years old before I knew anything about the stock market, that when you report earnings, you compare them to the last quarter or the last year at the same time. They never did that. They never once said, "This is what the earnings report is compared to the last year. It was always how they were versus analysts' estimates.

RICHARD RUSSELL
Remember for awhile that said, "What do we need pennies for? Let’s get rid of the pennies." Now you know why they want the penny!

Banter…..nickel and penny humor

PETER ELIADES
When they write these books about market days in retrospect, it is just going to be unbelievable. I don’t know if any of you gentlemen have experienced the same thing. Here is an indication of market sentiment. I am not convenient to a large media area now. I live in Petaluma, California, which is about 40 miles north of San Francisco. I used to do both FNN and CNBC. Every four weeks or every month or two, they would call me up and ask me to come on. Some time about three years ago, I stopped getting phone calls. I got very curious and I called them up once and said, "I am going to be in New York because I have written a chapter for a book for Bloomberg and you guys said you always wanted to do an interview with me if I was in town. The guy said, "Well who is this I'm talking to?" I told him. He said, "Well, hold on." He came back two minutes later and said, “You know, we're all booked up for that time period, but if you are going to be in town again, Peter, you give us a call.” What happened with CNBC was they stopped interviewing anyone with a bearish opinion.

KENNEDY GAMMAGE
That's exactly right. That's what happened to me also.

TIM WOOD
I have got to comment on that. Early on when I first started my letter, Peter had given me some names and email addresses at CNBC and told me to get this out. This is when I made the call with the four-year cycle popping in less than twenty months and calling the decline we saw last year. Peter encouraged me to send that to CNBC. So I did. After some period of time, this was in last June, they had been following the letter and I will leave the folks nameless, but I had followed up with one of the guys and they acted like they were really looking for some answers. I made the comment, “Look, you've seen my letter and I know you've been reading it because it had come back to me by some folks on the floor that they were getting the letter and that they had really liked it. How about a shot? The idea about going on TV is kind of spooky, but I feel like I've got some answers here.” He said, “Look, I've been reading your letter. You're right. It is amazing the accuracy you have had, but there is no way I can have you come on the air and say what you have had to say.”

KENNEDY GAMMAGE
They are owned by GE.  I used to spend three hours on the freeway to spend three minutes on camera each week. I did that for a number of years up to the first of the old FNN, out of Santa Monica in those days and then later on to CNBC. The idea was they don’t like to do remotes. So they finally said, “We don’t like to do them from down there in San Diego and can't go to the local station, NBC. We want you to come up here.” I would drive up there each week. I did that for many years. Then all of a sudden I became concerned about what was going on in the market, I am no longer persona gratis there. John Murphy who is a crack Technician and a friend also felt rather disillusioned by the fact that they are basically concerned because Ron and Bill and Sue and all those people get phone calls and hate mail when people come on who make ugly comments, bearish comments about the market. The viewer reaction is the thing you have mentioned so many times before, Peter. It is the cut-off-the-head-of-the-messenger syndrome. They just don’t want bearish comments. A mutual friend who we all know, Ike Iossif, got the same treatment from Martha McCallum on that. They literally do not want to have bearish commentaries, because they get adverse viewer reactions. People don’t like to hear bad news. It is just that simple.

RICHARD
One thing we haven’t talked about and it is a huge problem is the disparity of wages between the US and other countries. So far that's hit manufacturing very tough. One of the reasons for the layoffs and the 74% factory usage in this country. What is also happening in service? I am looking at a chart now regarding salaries of technical programmers, IT programmers. Listen to this. The average annual salary in the US is $63,331, in Poland and Hungry $4,800, India $5,880, Philippines $6,564, China $8,952. This is all against $63,331 in the US. It is an almost impossible situation. We just bought some Dell computers. If you call Dell, you are immediately connected with India. You don’t even talk to anybody in this country. That is hitting the whole service industry. It is going to hit it increasingly harder as we go along.

The Inflation/Deflation Debate

JIM
That brings me to an interesting question, Richard, which is the inflation/deflation debate. One of the things that struck me about the US and Japan today, is that there are a lot of comparisons about deflation made here in the US. Looking at the US in the 1930s and Japan in the 1990s, this country is a different country today than where we were in the 1930s. We are not self-sufficient in energy anymore. We import 60% of our energy needs. We are not self-sufficient in manufacturing. Our manufacturing and now even part of our service base is moving overseas. We are no longer self-sufficient in capital. What happens when things break down? Could you not, for example, see deflation associated with anything with credit or what credit is used to buy: a home, a car, luxury goods, assets? And inflation in things we need? I find when I go to the superstore, I can buy a Microsoft X-Box and they'll give me a $50 free game to buy it. So the things that I don’t need are going down, but things that I need such as milk, potatoes, groceries, my food bill, what I pay my doctor, my workman’s comp, all of those things are going up. What happens? Can we see both?

RICHARD
I think you are seeing both deflation and inflation. But as I said before, I don’t think Greenspan cares a bit about whether your doctor bill goes up. The only thing he is really concerned with is keeping asset inflation going. That is the economy. Unfortunately most people are getting squeezed now, but I don’t think he cares about that. He cares about your house staying stable or going up. That is why he is feeding the economy the way he is doing with constant lower rates and huge infusions of liquidity.

TIM
I would like to pose a question to these guys as well. In implying, looking at history and seeing that the bear market generally lasts about a third of the duration of the preceding bull. Like Kennedy mentioned a while ago, you look at the applied percentages. I can see this market ending somewhere between 2006 with that four-year bottom and or possibly as late as 2010. But the question is with the Fed fighting this, I think it is very possible, but I want to compare notes here, that could be extended further because of them continuing to fight this thing instead of letting nature take its course.

RICHARD
I think one huge possible problem is the dollar. To me it is a miracle that the dollar is holding up as well as it is, which is another way of saying it is a miracle that the rest of the world keeps feeding us their merchandise, their services, their goods and taking our dollars that we grind out at no cost. How long that is going to last, I don’t know. I have felt all a long that the Achilles Heel of this whole situation now is the dollar. The dollar, of course, is at a real downtrend.

TIM Right.

Euros Over Dollars For Oil

JIM: What happens, for example in reference to the dollar, if OPEC or other nations refuse to accept dollars in terms of payments for energy? Let’s say they get denominated in Euros or some other currency?

RICHARD
I think that would be war. I think if Saudi Arabia refused to take dollars, we would probably move into Saudi Arabia. Some people of course claim that is why we moved into Iraq. I am not convinced of that. But that would be a catastrophe, if OPEC decided to go to for euros instead of dollars. I don’t know if it is true or not, but I just heard that Venezuela is now demanding euros rather than dollars.

JIM
Yes, there was a Stratfor.com report on that.

KENNEDY
A similar situation occurred in 1971 when we had supposedly a gold-backed dollar and countries refused to take dollars and began to demand gold in exchange for it and that's when Mr. Nixon slammed the gold window shut. Ever since then we have been in a fiat currency. A similar situation would occur, it seems to me, if all of a sudden people began to say, "Look we would prefer to be paid in some currency other than dollars." As Richard said, that kind of situation would be unacceptable to any administration, be it Democratic or Republican, in this country and I think that strong measures would be taken to combat that. What they would be exactly of course is problematical, but I don’t think that it could possibly be acceptable to say, “We will not accept payment in dollars for energy.” I just don't see that as being acceptable.

RICHARD
My guess is that it would be a national emergency. My guess is that there would be quiet threats of war. They wouldn’t take it. I think it could come to that.

JIM
Where does this all end though, gentlemen? When you take a look at the four of us who live in California, we had a 35 billion dollar deficit, we are borrowing 11 billion and we could run out of money this September. Next year we are projecting 38 billion dollars. What happens, let’s say as we enter into this second phase of the bear market; when you've got real estate values destroyed, people walking away from their homes, and more rising unemployment? Does this whole thing implode? I shudder to think of what direction this country will head.

And What About Gold?

RICHARD
That's when gold comes in. What will happen to gold in a deflation? In a deflation, there would be mass bankruptcies and the viability of everything would come into question. People would go for the one asset that has no debt against it and that's gold.

JIM
Gentlemen, we do need to do a station break here, as we do have some hour commitments. The second hour is coming up next. You are listening to a special two-hour roundtable discussion of Financial Sense Newshour with Kennedy Gammage, Richard Russell, Peter Eliades and Tim Wood. As we get into the next hour, we will pick up on that discussion of where the gold market is heading right after this.

2nd Hour of Roundtable

JIM
Welcome back everyone. You are listening to Financial Sense Newshour. And we begin the second our of this roundtable discussion. My guests joining me on the program today are Kennedy Gammage, Richard Russell, Peter Eliades and Tim Woods. Gentlemen, before we went into that break, we were talking about gold. I would like to bring up or pose the question right now, we all agree the stock market is in a bear market in its early stage, just phase one. Where is gold in all this? Are we in a new bull market on gold? Is it just the early phase or is this just a bear market rally as some contend?

PETER
I tend to be short-term oriented on gold. I wish I could be as objective on the stock market as I try to be on gold, because I sometimes carry some of my ___ and emotions with me on the stock market.

RICHARD
Funny, I am just the opposite.

PETER
With gold I am able to stand back. I tend to believe that long-term, gold is going to be the asset to own right now. I am very short-term on gold. I have a short-term downside projections. We were in a gold position that we just got out of in the past couple of days. I am looking for an opportunity to buy. On the short-term, I think there is a little volatility to gold. For the long-term, I think it is one of the few places that people can make money over the next several years.

RICHARD
My feeling on gold is that you buy as much as you can sleep with and forget it. You don’t quote it any more than you quote the price of your house everyday. It is just an asset you hold as insurance. You don’t buy so much that if it goes down 15%, you can’t sleep at night. You take your position in gold. I think it is a bull market. The bull will always try and shake you out and go up with as few people as possible. You take your position in gold and that is it. You don’t look at it.

TIM
Looking at it cyclically, I had a trading cycle bottom that was due in late June and early July. I think we are moving into that bottom right now. I am with Peter, short term bearish. I think that is also probably, I am going to mark the ten-week cycle bottom that is due in here as well. Then from there, the stage should be set for us to rally again. Again cyclically, in order for it to stay bullish, we need to see it rally above the March highs to keep the cyclical structure bullish.

KENNEDY
I think it is important to distinguish between the ways to own gold. To me, ownership of gold is possible in many forms. I think that it is essential to own the physical metal as well as the mining stock. To me the ownership of the physical metal means you buy it and you forget about it. You put it away as Richard suggests. You buy as much as you can afford so you can sleep at night. You don’t look at it, you don’t price it and you don’t worry about it. That is the physical.

The stocks on the other hand to me are for trading. They are trading vehicles. They are extremely volatile. They are subject to all sorts of forces that are not present in the physical itself. The movement of the water flooding of mines and so forth. The taking over, expropriation, the Communist people -- that is why I would never touch a _____. Those people are Communist down in South Africa and I don’t want any part of it. They will expropriate those mines. You can’t move a mine from one part of the country to another. I would stay away from those that you have a political risk. That would be all of the mines you have in South Africa. On the other hand, those that are located in West Africa, those are extremely good trading vehicles and all over the world. I think that you differentiate between the stocks and the physical metal and you have to own both. The physical metal is an insurance policy and you don’t sell your insurance policy just because you wake up feeling good one morning. You hold that. You put it away and you forget about it. That is the physical. Incidentally on that score, there is a way of owning a physical metal by owning a stock. You can buy Central Fund of Canada which is CEF on the AMEX and that is a stock, 98% whose assets are gold and silver bullion in a ratio of 50 ounces of silver to one ounce of gold stored at a Canadian bank vault.

RICHARD
It sells at a premium now.

KENNEDY
About a 5% now, Richard. It has come way down. It was up as high as thirty recently. You can’t touch it at thirty. But at five, it is comparable to what you would pay to a coin dealer. It happened to be founded by an old friend of Richard's and mine, Ian McIvity, up in Canada. And I think it is a way to own both metals without having to take delivery. You get the bang for the buck in silver, but you get the stability of gold. That is one way of owning the physical without having to worry about storage or _____costs or all of that nonsense.

RICHARD
Another point on physical gold. If you hold it, eventually it comes out of the system. You forget what you paid for it. The government doesn’t know about it. It is something you can hand down to your kids and grandkids. It is outside the system. It is the same extent as a good diamond is. That is really important. It is one of the few ways you can hold an asset that is totally outside of the system.

PETER
We are spoiled in this country, Dick. We haven’t had great currency problems. Although one could argue articulately as you did that we are about to get some. You go to some of the European countries or any of the countries who have seen currency problems. My father’s two sisters spent all of their lives in Greece. We went to visit them and they had a lot of gold set aside and they always wanted American dollars. Countries that have had currency problems, which is virtually every country in the world over the last one hundred years or so, most of those people are well aware, they would want to have some of their insurance money in gold.

I would like to make a technical comment on gold. I think all of us here are somewhat technically oriented. I like to play with moving averages, such as the 200-day or maybe the one-year or two-year. If you look at a four-year moving average on gold, the metal itself, you will find out that the moving average has been declining and declining. This past year, in late October and the beginning of this year, the four-year moving average of gold has finally turned up, right around in the $311 area. I guess you could argue that if we had a really big pull back, we might come back to that level. Gold has really made its case for the first time in a couple of decades here.

On a technical basis, which I think is really important, it is about ready to do something. If you go back to the big rallies we had on gold in 1993 coming into 1994, it stopped right at this declining four-year moving average. It would get above it for a day or two, get above it and go below it. Finally in 1996, gold made a big move in February 1996. It got right up to the four-year moving average again and then fell apart coming into its final bottom here. When we finally broke above that four-year moving average in earnest, in April of 2002, we came back and tested the four-year. Once again in August in 2002. And it made that big move up to $380 and move backed, almost back, to the moving average now. When it came back to $320 back in April, now we have moved up again. I would say that gold has shown itself, for the first time in a long time, for being in what we would call a long-term bull market.

RICHARD
Along those lines, I am looking at a chart of a 20-month and 40-month moving averages of gold. On May of 2002, first of all 20-month that broke below the 40-month back in January 1997. It continued down and more recently in May of 2002, the 20-month moving average finally moved above the 40-month moving average. Right now, as of today, the 20-month moving average is $320 on gold. So gold is substantially above the 20-month moving average. I call this really a primary movement when the 20 moves above the 40. We are in a primary movement very much so today. I am looking at the monthly charts and it is very bullish on a monthly basis. That is why it is so difficult to trade gold, even gold stocks, because it is such an emotional item. It is better to use long-term moving averages rather than short-term when dealing with gold. Otherwise you are going to be out of the gold and out of the gold stocks when the big move comes along.

JIM
Let me add something to that, Richard, because Marc Faber has written something, “If you can get on board of the beginning of a trend in its early stages and stay on board that trend and ride it until it completes itself...”

RICHARD
That is the hardest thing in the world to do.

JIM
When it comes to gold, I can’t help but think, given the large amount of money that is circulating in the financial system, the trillions of dollars that circulate each day let’s say in the interbank market, what happens to the gold market or the silver market (which we know is running deficits) when some of this money gets scared and begins to turn its attention to the only real money that has ever existed?

RICHARD
You will have an explosion. By the way speaking of these long-term moving averages, I am looking at the S&P right now. In October 2001, the 20-month moving average of gold broke below the 40, which is a confirmation that we are in a bear market. Right now, the S&P is sitting almost exactly on the declining 20-month moving average. Looking at this chart, it is laughable to call this a new bull market. As I said it is very difficult to get on early in a new bull market and ride it through. I liken it to a bull in a rodeo. He is going to try and throw you off every way he can. It is very difficult. I remember in 1949 on the basis of George Schaefer, who is a great Dow theorist. He called the bottom about four days after the ultimate the June 16^th bottom in 1949. About three or four months later, I bought ten stocks on the basis of this being a new bull market. In 1950, we had a very violent decline, about 15% within a month, and that scared me out. I sold my stocks back out. It took me about three or four months to get enough nerve to come into the market. That is a good example of how hard it is particularly in the first phase of a bull or bear market. Either get in or stay out. I think it is interesting, I think we are in the first phase of this bear market, how quickly the public came back in. They can’t stay out of this market.

KENNEDY
It is pretty scary.

PETER
I am fearless you know Richard.

RICHARD
It is just as hard to stay out of the early phase of a bear market as it is to stay into the early phase of the bull market. A bear market will do everything it can to get you back in. A bull market will do anything it can to keep you out.

KENNEDY
 It is so true. Emotions take over.

RICHARD
It is said that 90% of all decisions of all areas are made on the basis of emotions, not on intellect.

PETER
Any of us could analyze the market. Whether you use cycles or Dow Theory, all we are attempting to do is to measure the psychology behind what is happening. I haven’t spoken to any analyst that has dealt with the market over any period of time that does not admit to the psychology of the market is what makes the market move.

KENNEDY
It is the perception rather than the reality.

RICHARD
It is included in every area of business. Look at the emotions in Iraq right now. Emotions run the world.

Methods of Technical Analysis

JIM: One thing I would like to bring up now and introduce in this discussion is all of you are primarily technicians following the market. Each of you have some unique indicators that all of you have developed with years of experience. I wonder if each one of you might comment about some the methods you use and what those methods are telling you about where we are today.

KENNEDY
I have a crystal ball I look into. It is slightly cracked at the present time and it kind of clouds over frequently, but it seems to do awfully good work. And I also have a parrot that dumps on the Wall Street Journal and in doing so, helps me select the stocks that I use. These are my proprietary tools. I do a little work with Richard who has helped me with this. And I do a little work with tea leaves. All of these are the tools I think one has to have and these are propriety and I prefer not to discuss them.

JIM
You only get that if you subscribe to the newsletter.

RICHARD
To be serious, I use valuations which are the base of the Dow Theory. The only absolute guarantee you have in the market is that it goes from one extreme to another. Super bullishness to super bearishness. The other thing I use above everything else is price, which again is the Dow Theory. To give you an example, right now I think the most important thing in this market is the fact that the transports did not confirm the recent high in the Dow and the transports are now falling apart. To me, that is critical. It has got to mean something. I am not sure exactly what it means, but it is a huge defect in the price structure. I think that a week, a month, three months from now, we will know what it means. But there is no question about it, the transports as of today are two hundred points below their June high. There is no way they are going to confirm. They are what I call ‘crapping out’ here and there has got to be a reason for it. My guess is that the transports are telling us the goods are not being shipped. There is something wrong.

PETER
Jim, in answer to your question, I will discuss this as briefly as I can. One of the indicators I have been playing with, I guess I have invented about twenty to twenty-five years ago is called Complicated??? CI-NCI Ratios. CI standing for cycle indicator and NCI standing for neutral cycle indicator. Basically what it does is simply measure the daily advances and declines in the New York Stock Exchange over a nine month period or 189 trading days which comprises nine months worth of trading. It is fascinating. I first started working with that because I found that if you kept that as an oscillator, it would go to certain levels, close to where the market tops out and starts coming down close to where the market would bottom and goes up and down, usually on the same levels. The problem you run into with an indicator like that, which is similar to the McClellan Oscillator problem that a lot of analysts run into, is it really needs to be ratio adjusted. You can’t compare this period of history with a period of history forty years ago or even twenty or ten years ago, because the number of issues traded on the NYSE is so much greater.

But what I do is measure how many advances there have been on a ratio adjusted basis on the NYSE over a nine month period. When that ratio reaches 1.035 or higher, you usually are in the area of some kind of market top, even in a bull market I might say. It doesn’t make a difference if you are in a bull or a bear market. Usually, I should say historically, at bear market bottoms for the last sixty years going back to the 1920s bear market bottoms, the average reading has been .927 I believe.

Listen to this, in July of last year, when everyone thought the market had bottomed, that ratio was at a neutral reading of 1.0. At the October bottom of that year, that ratio was at a .98, which is just below the neutral level--no where near the historic low that has been seen on that indicator over the last seventy or eighty years going back to the 1920s. That is one of the reasons that I have felt so very strongly that there was no way that the October bottom would be an important stock market bottom. We have rallied a little further up that low than I thought we would, but the fact that we never saw the readings that we have seen historically over the last 80 years tells me with a great degree of confidence that no way was that an important market bottom.

KENNEDY
That CINCI ratio of yours, that was very convincing to me as well. When you told us that it had not reached any kind of a level there, that helped to solidify my own belief. It was not much more than that at that time, but I was very impressed by the fact that that thing did not reach anywhere near the kind of levels it should have reached at a four-year bottom.

PETER
If I can play devil’s advocate against my own indicator for one second. One thing that scares the bejeebers out of me is the fact that what is happening to advances and declines in the NYSE. Of the approximately 3600 or 3700 issues that trade on the Exchange every week, close to 2000 of those issues are now non-common stock related issues. Probably 50% are bond related issues. One of the reasons I contended that we have seen such incredible numbers on the advance decline line and on the McClellan Oscillator, both the old fashioned one and the ratio adjusted, could very well be this bond related advance decline numbers have nothing to do with reality. That scares me a littlie bit because if that is true, I am not quite sure what the advance decline figures would have been common stock only. Barron’s does do a common stock only indicator, but I don’t trust theirs very much. The one that I want to see Paul Desmond has--pares it down to about 1500 issues I think.

KENNEDY
I call it the Nuvene Effect and I called Tom McClellan about it and asked him that very thing. It came in conjunction with an article I think in Thom Calandra's CBS Market Watch column that dealt with the fact that Mr. Desmond down in Florida was concerned about this very same thing. I asked Tom about it and he concurred that it was a problem, but didn’t know exactly how to handle it. I think that perhaps Paul Desmond has the right idea.

PETER
I know how to handle it. I am going to break Paul Desmond’s fingers off, if he doesn’t show me that data. I spoke to Paul a couple of weeks ago. We are pretty friendly. I said, “Paul, I really need to have that data. It is really important. As a market historian, you owe that data to me.” He told me he would send it to me and then a week later he called me back and said, “Peter, I have spoken to the guys here who have worked so hard to prepare that data over the years, they feel that it is somewhat proprietary. They have a problem sending it out.” I promised him I would not expose the data to anyone else if he would just send it to me. I was able to work my CI-NCI ratio on it and I haven’t heard from Paul yet. So now, I am sending the Greek Mafia after him within the next week.

KENNEDY
That is a good idea. Talk to him about it and immediately share it with us. Break the code of emeritus and share it with us.

RICHARD
It is interesting because I have been following Larry since the 1960s and right now the weakness has been mainly the lack of buying power. He said the buying power has twice as fast as selling pressure has risen. He has been constructive on that basis. I am sort of suspicious. My experience is that when stocks start to fall because of lack of buying power, at some point people holding the stocks get scared and that is when you get the selling pressure going up. I think that is just starting now. I got the latest figures in ___ and we are beginning to get some selling pressure, which tells me that not only are the people holding stocks are getting worried about the situation, but they are starting to sell. That is when you get the big decline. To get a major decline, you have to get major selling pressure coming in. We haven’t seen that yet, but it might just be starting.

KENNEDY
Of course it builds on itself through margin calls and so forth.

RICHARD
There is an old stock market adage, “At the lack of buying, stocks fall at their own weight.” That is what you have to watch right here, to see whether the lack of buying power turns into a rising selling pressure.

TIM
The cornerstone of my work at this time is cycle quantification. I learned after I got into the Dow Theory heavily, all it is, you can call it cycles or put whatever label you want on it. Really what it is, from a Dow Theory perspective, is looking at primary swings and secondary reactions and quantifying them. Looking at that, I think that this secondary reaction is basically over. I talked with Kennedy some about this and I think we are on the same page cyclically. What I am seeing, if I can go through it, is a long discussion, but I think it worthy of making a point. In going back to 1896 and looking at the seasonal cycle, what I found was that 73% of all seasonals that have topped in six months or less have turned and taken out the previous seasonal bottom. If you filter that bucket again, if you will, I have found that 97% of all seasonals that have topped in six months or less took out the previous seasonal bottom if you had a four-year top in place. But if you hadn’t declined into the four-year bottom yet, of course, now we are kind of in this no-man’s land.

Russell is going to love this expression, but where is the cycle when you need it? We are a little bit lost here. There is no confirmation about the four-year bottom. I had the Desmond Data that I overlaid with my four-year study and I also have Peter’s data, so I think that October is suspect. There is no question about that. Then, I looked at the cycles from a different perspective. I looked at all the seasonals that have topped in seven months or more and what I found seemed to back up that first statistic in that there were some 60 cycles and 88% of them held above the previous seasonal bottom.

Where I am going with this is from the October bottom, we are now in the eighth month. So it appears that you would expect to see a decline into the seasonal bottom hold above the October bottom. I am not so sure of that because there is a big exception. The exception that I found was out of those cycles that topped in seven months or more, there was a basket of seven exceptions. Those seven exceptions were all declines, but one of six were declines into four-year bottoms. That gets back to the discussion I had with Peter and Kennedy. I think there is a strong possibility that we may not have seen the four-year bottom and it may be extending to a five-year cycle--which is not uncommon and I have statistical data as well.

Your Gut Instinct?

JIM
Do you ever get to the point, any one of you, where you follow indicators and your indicator is telling you one thing, but there is something in your gut that tells you not to trust it or it doesn’t feel right.

TIM
I was at that point until this last week or so. One of the things I am watching is my intermediate term indicators have all turned. I am very close to issuing a sell signal myself and watching the transports that Mr. Russell talked about. I am watching that very same thing. Actually, I will have a sell signal on a break below 8945 as the market structure is today, so we are very close.

RICHARD
I have always said that the hard thing in technical analysis is to throw out at any give time. Nothing works all the time. Maybe if your instinct tells you this isn’t working, I throw it out.

PETER
What I would like to do--this is something I was amazed by and it actually got me very angry, but I was amazed in reading it--I would like to read just a couple of sentences here. I am not going to mention names, but this comes from a well known author and has been quoted in Barron’s quite often, but again I don’t want to use his name. This is what he says and this is what we face. I think it points a lot of things out, but particularly the market sentiment and the cockiness of the bulls right now. He starts out, this is a flash alert and this was published by Bloomberg and this gentleman says,

“I have a few friends in this business who remain bearish, but these are fellows and gals who are always bearish. They continue to cite the 33 times S&P earnings to justify their belief that there are no values in this market. As you know we were correctly bearish beginning the ___ *fit early in the beginning of 1999 and we left the bear camp last November. The current bears are ignoring reality. Based on conservative projected earnings, we show the S&P trading around 18, it now appears that business activity is really revving up and that engine will likely carry the S&PP ratio to 15 or so. Understand one thing; our bear/bull model has never failed us. The bear market is without a doubt, dead. We have entered a new bull phase that will likely bring us several thousand points higher in the next few years. If you want a sure way to lose money in this market, stay bearish and sell short. You will be eaten alive! …. The odds are close to 99% that this is a solid, real honest to goodness bull. I have been at this game for so many years and only one real absolute truth has emerged. The analysts will forecast worldwide economic collapse, the diminution as the United States as a source of economic strength, the end of the dollar as we know it, damning pestilence etc, among so many other dark scenarios have always been wrong! Don’t buy into this stuff. Believing in the worst will frustrate you and drain energy from important activities like trying to make money in the market. This is a bull market period! Get into a good mutual fund, heavily weighted in equities and stick with it until our model flashes a bear signal again, which at this point appears to be many years away.”

KENNEDY
Peter, please give me his name. I need to subscribe to his letter. I just can’t wait.

TIM
I have to comment on that. To me the only bears that have remained bearish in this, in my opinion are right, are market historians. I feel that the technicians that are bearish today are the true market historians.

PETER
Shame on this guy because he is one of those market historians himself. Do you believe what he just said?!

RICHARD
When he talks about projected earnings, that is when you run into trouble. Do you remember Abby Cohen?

PETER
I don’t want to read anyone’s projections. I want see what the last four quarters were!

KENNEDY
Now you are talking.

Banter…

PETER
Barron’s did a study several years ago. They came up with a publication of actually how the earnings forecasts have performed and it is the worst possible performance in the history of the world. These guys don’t have any idea what the earnings are going to be.

Pro-Forma Economy

JIM
Do you think that is a reflection of what I call the pro-forma economy? Does anybody believe the government numbers anymore? So then, can they believe these earnings numbers?

KENNEDY
It is a fraud and it is totally false. They are bogus. It is what we used to call the ‘finagle factor’ and of course they are largely politically motivated. I used to suggest that the Bureau of Labor Statistics or BLS should remove the middle initial, because as far as I am concerned, that is really what those statistics consist of.

RICHARD
I think the one guy who doesn’t believe the governing statistics is probably Greenspan.

KENNEDY
I imagine so. As I said, he sold his soul to the devil. That is the way that is going to go. Jim, you are right, these figures are not to be believed and of course after they come out, then they are amended and modified and seasonally revamped and the truth is not in them.

JIM
Richard, I think it was in your Newsletter, I think it was last November, we actually had heating prices jump 21%, but in the government statistics we had heating prices drop for the month.

RICHARD
This fellow, Jack, the guy who actually computes the Consumer Price Index, said himself that the index is probably much higher than they are showing. I think figures suggest that Consumer Price Index could be up as much as 5%.

KENNEDY
The CPI is a joke, a farce. They take out anything that indicates what they don’t want it to. They remove it from the index. The idea that you have cars, which are basically four wheels on four pieces of rubber meeting the road and a steering wheel, that these are not inflationary when the prices go up? Please! They may have improved somewhat but it moves you point A to point B. It is not a technological marvel. Perhaps as a computer or something else that can do wondrous things? And yet the price is going up and they pretend that they are not. Look at housing and how it is represented in the CPI. It is a joke. All of it is a joke and not to be believed. Once again it is the opiate of the masses. But the statistics that come out of the government are the opiate of the masses and fodder for nobody except the nobodies who are brainless among the economists.

JIM
Have we actually gone so far in the financial industry to have sold our souls? I find it very hard today that we cannot distinguish between earnings according to GAAP or earnings reporting (what I call CRAP, Cloudy Reporting Accounting Principles).

PETER
You can’t do the generally excepted earnings things. Now you realize what a huge bubble you are in. You can’t rationalize those away.

KENNEDY
Good gracious yes, we can’t face reality for heaven’s sake.

RICHARD
They are still talking pro-forma earnings in some cases. It is unbelievable.

JIM
What happened to the industry? When I got started in this business in the late 1970s, the bond market was a vigilante on the Fed. We would watch the money supply figures. Ad if the money supply figures would shoot up like they have here in the last year, almost a trillion dollars, interest rates would be going up, gold would be going up, and the stock market would be going down with the bond market. Now you have the bond market sort of in the cheering section for more liquidity in the market. We have analysts that can’t tell a P/E of 32 between say three or four.

PETER
Those aren’t important anymore. This is a new paradigm remember?

KENNEDY
It all boils down to a lack of integrity. I forget who it was that said it, but if you look at a nation’s money, you can judge that nation’s integrity. We have none anymore and we have lost it all. It has gone the way of the Dodo bird. As a consequence of which we have very little integrity in government, it has been washed out in business, and academia is teaching things that are not true. There is a falsification all across the board and it has winded its way off course, as you point out Jim, into the accounting system. We are using fraudulent notes and measures as the Bible warns us against.

RICHARD
That is why we are in the first phase of a bull market in gold. Gold is real. There is no faking gold.

Derivatives

KENNEDY
Yes. You can’t fake the metal. You can fake the derivatives, but you can’t fake the metal.

PETER
There is a word we might discuss for a while. The derivative picture in our financial markets is something that is a huge accident waiting to happen. The derivatives starting in futures, options on this, on that, a new market on this and that. It is simply incredible what they have done with the markets now. And we have all these derivatives just waiting to... I mean it has to be one of the hugest accidents this country faces.

JIM
If you look at Peter, at the OCC report for the first quarter, derivatives grew by 5.3 trillion dollars to 61.4 trillion. Most of that is owned by three large banks. Those banks are hedge funds in my opinion.

PETER
Exactly.

KENNEDY
Actually they are floating casinos.

TIM
One thing that is suspect, that I hit on earlier, is it all really centers around--if October was a four-year low--as to where we go and what the magnitude, in one sense, the decline, will bring. In looking at the seasonal world, you can make the argument now that we have a seasonal top that has occurred in more than six months that we should see the October low hold as we roll over into this seasonal. But there is also, if you are suspect that October was a four-year bottom, then I also have statistics that we could see that low violated with this coming seasonal low. So, it really is a mixed bag. But the bottom line is this. I don’t think it matters if the seasonal holds, not at this point, because the next move of any duration or intensity I think is going to be to the down side when this seasonal rolls over.

KENNEDY
I was extremely interested Tim, in your scholarship in finding those six exceptions where they were broken. I thought that was extremely