Beyond Bearish: Why the Great Bears Are Wrong Even When They’re Right (Part I)

by Alexander Green, Chairman, Investment U; Investment Director, The Oxford Club
Friday, August 3, 2007: Issue #698

Usually at investment conferences, I like to highlight a particular investment idea and explain the opportunity and risks involved.But I felt the time was right for this particular talk about investment gurus that are beyond bearish. Here’s why

Bearish On China?

Last year I helped lead a financial expedition to China. Our group toured the country’s major cities, talking to businessmen, investors, entrepreneurs, money managers and everyday people.

We came away mighty impressed. Not just because China is the world’s fastest-growing economy. But because everyone in China, it seems, is interested in three things: getting educated, getting a job and getting rich.

This is not true of some other emerging markets I’ve visited. In some areas, for instance, the average worker seems more interested in getting a siesta than getting rich.

(And, who knows, maybe these folks will have the last laugh and outlive us all.)

But I came back more excited than ever about China’s economic prospects and the investment opportunities developing there.

However, on another tour this spring – this time to Italy – I bumped into a couple from Alberta who had been on that same China tour. They noted that the Shanghai market had nearly tripled since our visit.

Yet they told me they hadn’t invested a dime. “We take an investment letter,” the husband told me, “from a guy who’s predicting that the world economy is going bust and financial markets everywhere will collapse.”

The Flimsy Argument of the Perpetually Bearish

A financial crash is always a possibility, of course. However, I’m familiar with the investment editor he was referring to. And I didn’t want to burst his bubble, but this editor has been saying much the same thing for the last 25 years. He’s what’s known in the industry as a “perma-bear.” He’s perpetually bearish.

Of course, there are always people who are down on the market at any given time. Today, for instance, market bears will base their negative views on problems like the housing slump, high energy prices, a looming credit crunch, etc. However, a perma-bear doesn’t make his case on factors like these.

How could he, really? Sure, he could say he was bearish because the housing market is weak. But he was bearish when the housing market was strong. He could say he’s bearish because energy prices are high. But then he was bearish when energy prices were low. And he could say he was bearish because credit is tighter. But he was bearish when credit was easy.

So perma-bears make a different argument, instead. It goes like this:

It’s not that they have been dead wrong on the market the last 25 years, the world’s greatest period of economic prosperity. It’s that investors have simply lost their senses. The growth in U.S. economic power and personal prosperity is simply a Fed-induced bubble of titanic proportions.

I’m a great believer that everyone is entitled to his own opinion, but not to his own set of facts.

The growth in U.S. GDP the past two decades is real. Net wealth in the U.S. – the total value of all assets, including stocks, bonds, bank accounts, houses and retirement funds, after subtracting debt – is approximately $54 trillion today. That’s $16 trillion higher than it was four years ago. And it’s nearly 10 times what total net worth was in the U.S. in 1980. American wealth is real – and rising, thank you, not falling.

The perma-bears often counter that slips of paper – like stock certificates – have no inherent value, unlike their favorite tangible asset – gold.

But stock certificates are hardly paper alone. They represent fractional ownership in a business, including all its assets.

Corporate Profits Are Worth More than Gold

History demonstrates that owning businesses, not gold, is the best route to financial independence. Dr. Jeremy Siegel, a professor at the prestigious Wharton School and author of “Stocks for the Long Run,” has tallied the return of T-bills, bonds, stocks and gold over the past couple hundred years.

The results are definitive.

Thanks to inflation, the value of the dollar since 1802 has fallen to approximately 6 cents, as of the end of 2006. The value of a dollar’s worth of gold over the same period has risen to $15.02.

Clearly, as a store of value, gold trumps paper currency every time. But as an investment asset, it’s a tortoise – and not the one that won the race.

According to Siegel, during the period above, the same dollar invested in T-bills turned into $2,830. A dollar invested in bonds turned into $6,920. And a dollar invested in stocks – drum roll, please – turned into more than $3 million.

In short, owning a portfolio of profitable businesses has historically given a higher return than cash, bonds or gold over the long term.

And, for reasons I’ll explain in Monday’s column, this is likely to be the case in the future as well.

Good Investing,

Alex

Editor’s Note: Business is particularly strong at the company Alex recommended in his August 1st letter to Oxford Club members – a commodity producer with double-digit sales growth, a robust 113% increase in earnings, and a rock solid balance sheet. Learn more about a membership to the Club.

Today’s Investment U Crib Sheet

More than two-thirds of the companies in the S&P 500 have now reported earnings. And despite a one-week, 4.9% selloff of the S&P 500 in July, “profit growth stands at more than twice the average of analysts’ forecasts heading into this earnings season,” according to Reuters.

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• Why the Gold Rally Has Some Feeling Cheated
• The Credit Crisis: Just How Bad Is It?
• Jim Rogers: China Still a Buy

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