Ron Ellison: Conventional Wisdom
By Ron Ellison
Conventional wisdom is similar to good intentions: Results often don’t match expectations.
Back in March we wrote about Latin America and the Argentine crisis. Conventional wisdom at the time, a point we questioned even then, held that the risk to the region from Argentine contagion was non-existent. Now with Brazil’s recent troubles and neighboring Uruguay letting its currency float to counter market turmoil, pundits are less sanguine. Paraguay recently lifted a state of emergency following protests that caused two deaths. Peru’s pro-business president just sacked his investor-friendly finance minister along with other officials to accommodate the country’s leftist-ruling party.
Conventional wisdom during the great bull market preached that baby boomers had to plan for their retirements and equities offered the only road to retirement nirvana. Since the stock market rolled over, however, U.S. households have been persistent net sellers of stocks. And a similar pattern has turned up among U.S. mutual funds; they’re either selling or no longer buying large amounts of U.S. equities. According to a recent Financial Times report, the average U.S. equity mutual fund recorded losses for the last three years. The last time that happened was 25 years ago, the report noted.
In early January of 2000 when Alan Greenspan set off the first of what would be many 50 basis points cuts in interest rates, conventional wisdom insisted a v-shaped recovery was a done deal. Well, it’s now 11interest rate cuts later and few see recovery, particularly in equities, anywhere on the horizon. For the most part, these were the same pundits who also predicted capital spending and technology shares would quickly recover.
Before the Asian tiger economies bombed out in 1997-98, amid claims of cronyism and lack of transparency, conventional wisdom suggested the region’s growth was not only sustainable, many discussed the area in terms of the Asian miracle. As t turned out, the only thing miraculous about it was the speed with which those economies tanked.
During the bull market run in the U.S. from 1995
to 2000, conventional wisdom tossed around similar claims
about a new paradigm, low inflation justifying lower equity
risk premiums and traditional longer, painful economic
slowdowns were a thing of the past.
During the same period conventional wisdom dictated that the Internet with its point and click culture would superannuate the old world of bricks and mortar.
Economists hailed the new age just-in- time inventory system as one of the economic panaceas for low corporate productivity and profits. Keeping inventories lean was the epitome of efficiency, conventional wisdom claimed, guaranteeing against any big buildups witnessed during recessions. Today, however, the evidence suggests just-in-time delivery not only creates volatility and uncertainty, it also is slowing down any expected recovery.
According to conventional wisdom, much like astrology, previous parameters and historical comparisons applied to the stock market or the economy guaranteed all the wrong answers. When Federal Reserve Chairman Alan Greenspan in 1996 made his now famous “irrational exuberance” comment, investors interpreted it as a green light. Between 1996 and the market’s peak in 2002, the NASDAQ increased almost sixfold, while the more staid S&P 500 merely doubled. Yet these two indexes, given the vicious sell-off in prices, remain more than 20 percent above where they were before Greenspan uttered those memorable words.
So what is conventional wisdom saying today? Here are a few examples.
- Consumers will not, voluntarily or under duress, cut back on consumption anytime soon.
- The current projected $100 billion budget deficit (now projected to be more like $200 billion) is a one-offer.
- A return of capital spending will automatically revive the economy, corporate profits and the stock market.
- Inflation is DOA and a weaker dollar, if it declines gradually, poses no threat to consumers and the economy.
- The euro will remain weak against the U.S. dollar.
- The big U.S. trade deficit, currently at 4% and likely on its way to 5% of GDP, is a non-event.
- Foreign investors will never take their money and run because there is no other place as attractive as the U.S. to invest.
- Despite the rash of corporate malfeasance and greed, individual investors will return to the market once these scandals are put to rest and somebody goes to jail.
- The U.S. will continue to grow faster than any other areas of the global economy.
- The recent run-up in the price of gold and silver is just the proverbial flash in the pan.
- The boom in housing has to and will continue with no bubble in site.
- Most commodity prices have been dormant for the last 20 years and will stay dormant.
- Globalization is both new and inevitable.
- Stocks at current levels are undervalued.
Don’t misunderstand our point. Conventional wisdom is not always wrong. Always suspect, yes. Always wrong, no.