NOT MANY PEOPLE ARE JUMPING OUT OF WINDOWS on Wall Street or selling apples on corners, but investors are getting a bitter taste of what happened in the aftermath of the 1929 market crash.

The brutal 2008 bear market deepened last week as the Dow industrials fell 451 points, or 5.3%, to 8,046, despite a sharp rally Friday that lifted the benchmark average 494 points. The S&P 500 slid 8.4%, to 800, amid deepening fear about the global economy and financial system. Citigroup tottered at week's end after it plunged 60% in the five sessions to just $3.77 a share.

At Thursday's low, both the Dow and S&P had erased more than a decade's worth of gains. If the markets end the year where they finished Friday, both the 39% drop in the Dow and 45% slump in the S&P would mark their worst yearly decline since 1931. The current bear market, which has brought the DJIA down 43% from its October 2007 peak of 14,164, now rivals any decline in the 20th century, save for the loss of 83% from the peak in 1929 to the market depths in 1932 when the index bottomed at just 41.

A philosophical Warren Buffett told Fox Business News Friday morning that slumps worse than this one have happened before, referring to the 1929-1932 crash. Buffett noted that markets and the capitalist system overshoot and that this seems to be one those times. He said the markets are in a "negative feedback loop" as bad news becomes self-reinforcing.

It's tough to say when the markets will bottom, but unless the world is entering an economic depression, history suggests that stocks don't have much further to fall. Save for the 1929-1932 crash, no downturn in the 20th century exceeded 50%. One of the many ironies about this year's setback was that it was largely unanticipated because major averages began 2008 selling for a seemingly modest 16 to 17 times projected earnings, versus a peak of 25 in 2000. It turned out that profit estimates for this year were way too high.

Bear markets since 1929 usually have been followed by fairly quick recoveries. The average time to recoup a bear-market loss has been 22 months, excluding the 1929-1932 collapse, according to AllianceBernstein, which examined the S&P 500's total returns (stock-price gain or loss, plus dividends). Based on prices alone, the Dow didn't recover to its 1929 peak until the early 1950s.

"Large market dislocations usually have been resolved pretty quickly," says Lewis Sanders, the chief executive of AllianceBernstein, the New York asset manager. "The only time that you had an extreme dislocation was the Depression itself." He notes that the average post-World War II recession has lasted less than a year. The markets often anticipate the end of a recession before it officially concludes. As Buffett wrote recently, "If you wait for the robins, spring will already be over."

Another encouraging sign is the shrinking value of U.S. stocks relative to nominal U.S. gross domestic product. At the market peak in 2000, stocks were valued at twice the size of the economy, but the relationship has adjusted this year to an estimated 59%, well below the long-term average of 79%. To get back to 79%, the S&P 500 would have to rise 36%, to 1,090. The relationship got as low as 40% in the late 1940s, when investors feared another depression, and in the inflationary 1970s.

Sanders says that many assets other than stocks, including commercial mortgages and junk bonds, appear to be priced for a depression. This is remarkable because as recently as 2007, these markets were priced for an economic boom. Not long ago, Barron's Roundtable member Marc Faber argued that there were "bubbles" in virtually all asset classes around the world.

Commercial-mortgage securities with triple-A credit ratings now yield 15% or more, while junk bonds yield an average of 20%. The junk market has collapsed this year, falling 32% after interest payments, by far the worst decline in its 25-year history, according to Merrill Lynch. So-called leveraged loans -- bank loans made to junk-grade companies -- yield 15% or more and trade for an average of 70 cents on the dollar.

Many pros argue that the best risk/return trade-offs lie not in stocks but in the credit markets, given the off-the-charts yields now available. With credit scarce and hedge funds under massive pressure to unwind leveraged trades in a wide variety of bonds, unusual market dislocations are cropping up, including an unprecedented relationship between risk-free Treasury bonds and interest-rate swaps, which are bank obligations. Thirty-year T-bonds almost always yield less than swaps because of their U.S. government guarantee, but they now yield a half-percentage- point more, an event that mathematical models would say is virtually impossible.

There have been almost no places to hide in this year's bear market, as value and growth strategies both have been bashed, unlike the situation after the market peak in 2000, when value dramatically outperformed other approaches.

Wal-Mart Stores (ticker: WMT) is the only one of the 30 stocks in the Dow that is higher this year and just 10 of the 500 stocks in the S&P are above water.

There has been some logic to the recent losses as credit-market woes have led to particularly severe declines in many industry groups with high leverage, including real-estate companies, casinos and financials. Real-estate investment trusts endured a terrible selloff lately, falling, on average, 28% since Nov. 13 and 60% since Jan. 1. Well-regarded REITs like Simon Property Group (SPG), Boston Properties (BXP), Vornado Realty Trust (VNO) and AvalonBay Communities (AVB) now have dividend yields in the 7% to 10% range.

The "capitalization rate" on REITs has risen to 8%-to-10% from 4%-to-6% earlier this year. This measure is derived by dividing operating income by enterprise value, which is equity market value, plus debt. The rise in cap rates is bad news for leveraged investors who bought real estate in recent years because their equity probably is worthless unless market conditions improve.

FINANCIALS GOT WHACKED last week as Bank of America (BAC) declined 30%, to 11.47; Morgan Stanley (MS) was off 16%, to 10.05, and Goldman Sachs (GS) slid 20%, to 53.31. Morgan Stanley now trades at just 40% of its tangible book value of $26 a share, while Goldman fetches 64% of its tangible book of $82, after briefly falling below its 1999 IPO price of 53.

In the days when Goldman was a partnership, employees toiled for years to make partner and have the opportunity to get Goldman equity at book value. Now, any investor can buy into the company at a fraction of its stated net worth. Citigroup languishes at about half of its tangible book value. There are obvious risks in the financials, but it's rare for investors to be able to buy so many companies -- life insurers, property and casualty insurers, banks and brokers -- below book. Financials within the S&P 500 are down 67% this year.

It has been perilous to call a bottom in financials and the overall stock market this year, but history at least is encouraging.

November 17, 2008

By Aleksandrs Rozens

John Bogle founded the Vanguard Mutual Fund Group in 1974. He served as its chairman and chief executive until 1996 and remained on as senior chairman until 2000.

Recently, he wrote "Enough: True Measures of Money, Business and Life," which was published by John Wylie & Sons.

To call it a business book—a how-to or memoir—would be too simplistic. In fact, it is far from the typical business book because it offers some interesting life lessons on dealing with people, especially clients and customers.

John Bogle When it comes to clients, Bogle refers to "The Odyssey," where Homer suggests that "Take it to heart, and pass the word along: Fair dealing brings more profit in the end."

In his volume, Bogle also reveals how he started Vanguard. (He named it after one of Lord Nelson's flagships, in a nod to his first place of employment, Wellington, which shared the name of the famous British general who defeated Napoleon).

Bogle spoke with IDD last week, offering his thoughts on long-term investing and how it may come back—as opposed to rapid-fire maneuvers in and out of a company's shares—and his thoughts on PE fund managers as well as hedge funds. Not surprisingly, they are not positive.

As Bogle sees it "we have made Wall Street too much of a casino. It is totally dominated by speculation ... we are engaged in an orgy of speculation the likes of which has never been seen in the history of this country."

His rule of thumb for investors: your bond position should equal your age. "I'm about 80% bonds. I started 65% about 15 years ago," says Bogle.

Following are excerpts from the interview:

IDD: How do you think the credit crisis will play out?

BOGLE: The market can't bail itself out of this mess. Wall Street has a lot to answer for to Main Street and yet Main Street, which is really where the tax base is, is going to have to bail out Wall Street for Wall Street's errors. And that is, of course, a tragedy--an economic tragedy. But I am persuaded because I respect people like Larry Summers, I certainly respect Ben Bernanke. I am not so sure about Hank Paulson. I suppose I respect him in a way, but his issue is that he is an investment banker. So it should come as no surprise to anybody that he looks at these things from an investment banker's perspective. How else can he look at them? It [the bailout] has to happen. I think it is too bad it has to happen, but I think we ought to get ready for building a better financial system, which means building a smaller financial system because what is going on on Wall Street is a casino and our croupier has raked too much off of the table before we get paid.

IDD: When you say our financial system gets smaller, what do you mean by that?

BOGLE: Revenues will be less for a whole bunch of reasons. First, they are never going to be allowed—with the government being part owners of them—to have 35-to-1 leverage. Number two, we're going to have better disclosure about what is on that balance sheet. When you think about it, if you are leveraged 35 to 1 and all your assets are Treasury bills I don't see that as much of a problem. The problem is that none of them are Treasury bills. They are toxic mortgages and we need much better disclosure of that. The third thing is that they are going to have to be content with less revenues.

IDD: You like the idea of keeping things simple in business and investments; what do you think about the credit default swaps market?

BOGLE: It's a modern day version of quantitative insanity. A completely obvious example of the way that speculation has over run financial investment in our financial markets. An easy way to look it at is this. Suppose you have a house and you insure it against fire for $200,000. Now, suppose that you have 130 neighbors, 65 of whom are betting that it will burn down and 65 of whom are betting that it won't. And, that's approximately the ratio we have got here. It's supposed to be about $2 trillion debt instruments covered by CDS and $62 [trillion] or $65 trillion of credit default swaps. Half of them are in one side and half of them are in the other. So, you could say "well what's the matter with having your neighbors insuring or betting your house will burn down or betting it won't burn down?" What's the matter is you have to keep a close eye out for arsonists. So, we have arsonists out there playing the CDS market, to sink your firm, make money for themselves and their hedge funds. They want those premiums to go way up and playing games like that—we don't know how much because the market is totally opaque and volume is not recorded—and these are the things that have to change.

IDD: I thought your observation that the stock market is a giant distraction to people was interesting.

BOGLE: It is a giant distraction to the business of investing. And the word "business" was not lightly chosen. Investing is owning businesses and hanging on to them so they can earn a return on your capital.

IDD: This runs counter to the short term idea of playing in the CDS market?

BOGLE: Absolutely.

IDD: I noticed that you traced the history of the introduction of futures and options on stocks. It seems like another toy to tinker with taking away from the true essence of buying into a business and its future.

BOGLE: When you buy an option or a future you are making a bet on the future price of the stock or the derivative or the index.

IDD: Is there no room for that kind of financial tool?

BOGLE: We do need speculators. The market might not trade every day. I'm not sure how bad that would be. That's another story. But if nothing traded you would not have a way to value securities or anything else. The reality is not that speculation is inherently bad or investment is inherently good, but rather we have lost the balance. If I had to guess, it would be my druthers that the market be 80% investment and 20% speculation, or something like that. That's really what it was when I came to this business. The turnover of the market wasn't that 345% [of] this year. It was about 30% a year for 15 years.

[In his latest book Bogle points out that the annual rate of turnover of stocks—that is, the number of shares traded as a percentage of shares outstanding—was about 25%. In 1998 this turnover rate rose to above 100% and last year it rose to 284%.]

IDD: I found the data interesting, how much paper was held for the long term and how, today, 100% or more of the shares are changing hands.

BOGLE: The turnover rate is now 345%. That is astonishing.

IDD: What do you think about this idea of computer program trading? It sort of goes counter to what you say about not relying too much on past events or history for expectations about the future.

BOGLE: Any kind of algorithm or any kind of trading based on a single philosophy is only its worst enemy. I talk the same way about indexing based on earnings and revenues rather than indexing based on market cap. The problem with it is a very simple one. If it works, it won't work. There will be periods of time where it did better and there will be periods of time where its done worse. The algorithm guys, the quants are having bad years this year.

IDD: What is your view on the idea that Wall Street has prop desks active in equity and bond markets? Did you and your colleagues change the way you view Street firms because of this?

BOGLE: The only thing I can say is there is a quote from Mr. Buffett and that is: "any new idea goes through three phases: first the innovator, then the imitator and then the idiot." You know where Wall Street is on that scale.

IDD: They are late in the game then?

BOGLE: Yes. We always copy what's done well in the past and I don't know how we can be so dumb to be honest with you.

IDD: There is a number in your book that was interesting. In 2001 we had over 6,000 mutual funds and by 2008 half of those are still around. What's the common denominator behind their fall? Is there a common theme behind this and should we expect that to accelerate now because of what is going on this year and last year?

BOGLE: It will accelerate, inevitably. If you have a fund that can't perform or doesn't beat the market, people forget about it pretty quickly. Or a fund that performs and can't beat the market and does not get very big, the economics of this business are [such that] a $10 million fund is not really worth running. So, [with] the combination of limited size and bad performance the manager says "I thought it was a good objective in the first place, but it is just not working for the company and not working for investors."

That's a really bad fund that doesn't work for investors [and] it does not work for the managers either.

IDD: One of the suggestions you make in "Enough" is that investors should go for not-for-profits because their interests are aligned with the investors.

BOGLE: Exactly. Just read [David] Swensen on that point. He [Swensen is the chief investment officer of the Yale University Endowment] is probably the most respected investor for his personal integrity, his unwillingness to get paid what he could earn somewhere else, his success up at Yale and doing all this hard work to improve the quality of education in New Haven, Conn., first, but also ultimately in America.

IDD: Where do you think the S&P 500 ought to be or do we have a further way to go down for the S&P 500 and the DJIA? Do you have an outlook on where they may be by year end and when do we see a turnaround in either one of those indexes?

BOGLE: I have absolutely no idea because the market is being driven by emotion. In the long run—I think we discussed the fact that I think stocks ought to be able to produce the returns of 8 or 9% over the next decade—and I think the probability for that is good.

But where it will be by the end of the year has nothing to do fundamentals and reminds me—I think this phrase may be in the book—the daily moves in the market are like a tale told by an idiot full of sound and fury, signifying nothing. So, there is no point in predicting. If you are investing between now and the end of the year, I would say get out even though it may go up a lot, who knows? Between now and the end of the year, what will drive the stock market is speculation. It is investment that drives the stock market and speculation contributes zero to the long-term returns in the stock market.

IDD: What do you think about PE firms? Basically these are people that are not in it for the long term. Some of them have run into trouble because they leverage up their companies. I'd say their methods of investment run counter to your ideals.

BOGLE: I think David Swensen has in his book some data that shows they don't add much value. If they do, it is simply by leverage. If you put enough leverage on a moderately performing company, it becomes a high performing company so long as times are good. I don't want to gamble on that.

IDD: Today the credit markets are shut and banks are not lending. Loan officer surveys are showing they have become very restrained.

BOGLE: The system may be getting some sense after all this time.

(c) 2008 Investment Dealers' Digest and SourceMedia, Inc. All Rights Reserved.
source:http://www.iddmagazine.com/issues/2008_44/187499-1.html?type=printer_friendly

Warren Buffett’s track record is unmatched. His recent bullishness on stocks has been unmatched as well. Over the past few weeks, the market has made him pay for being bullish in a bear market.

Whether it’s justified or not, Berkshire Hathaway (NYSE:BRK.A) has finally started to get hit by the sell-off. On Wednesday, shares of Buffett’s holding company slid 11% and fell another 12% in early morning trading Thursday morning. The most cited reason for the slide was nervousness over Buffett’s recent $40 billion gamble.

You see, Buffett’s not just buying stocks he likes when they’re undervalued. He’s doing quite a bit more. He’s taking advantage of what the market is offering up to investors with the capital and the time to make an absolute killing here. In fact:

So far, Berkshire cut a deal with Goldman Sachs (NYSE:GS) that will likely go down as one of the greatest deals cut during the financial crisis. Whether Warren Buffett’s Goldman Sachs deal works out or not, the risk/reward ratio was, and still is, stacked in Berkshire's favor. It has done a similar deal with General Electric (NYSE:GE) and took some big stakes in a few more companies.

In addition to that, he’s taking full advantage of the Bull Market in Volatility we talked about a month ago. Many investors have used the S&P 500 Volatility Index (VIX) as a gauge of the amount of fear built into the market. In early October, when fear was at unprecedented levels, the VIX was setting new all-time highs.

But the VIX doesn’t necessarily mean it’s time to buy stocks or there’s no more downside left to go. It’s a direct measure of the cost of portfolio insurance. If the big institutional investors, which are the primary buyers and sellers of the S&P 500 Index options, are all demanding insurance against a market panic, insurance premiums are going to be pretty high. That’s what the VIX measures, the cost of insurance.

So what would someone like Buffett who has been in the insurance business for decades do when the cost of insurance is high? He would sell insurance. And that’s what he recently did that has so many investors worried about Berkshire Hathaway.

About a month ago Buffett sold about $40 billion worth of insurance against the four major indices in the world. The European-style options (which can only be exercised on their expiration dates) were written (sold) are against four major international indices including the S&P 500. The options will expire between 2019 and 2027.

It’s reported Berkshire received $4.5 billion cash for writing these contracts. Considering the contracts don’t start expiring until 2019, Berkshire is free to do what it sees fit with the cash.

The short-term impact of being on the wrong side of the put options has caused investors to flee Berkshire shares. After all, they got the $4 billion cash, but if the markets crash, it could be on the hook for as much as $40 billion.

As a result, creditors are getting very worried. Forbes reports in Betting Against Buffett, the credit default swaps (the cost to insure $10 million against a Berkshire default) is now $440,000. That puts the cost of insuring against a default of Berkshire’s top-rated debt right up there with GE, Goldman Sachs, and Citigroup.

In the long run, this all just shows the absolute short-sightedness of Wall Street. It’s a fantastic move over the long run. Berkshire just collected a $4 billion cash infusion which it can use to buy up great stocks very low prices and wait out the next decade.

It may seem like an exotic move to some, but once you actually look at the numbers and risk, it’s actually much more prudent than investors are willing to give Berkshire credit for over the short-term.

As usual, it looks like Buffett scores another big score in this turbulent market and it’s only a matter of time until the investment community realizes it. At this time, if you’ve got a multi-year time horizon and are using a conservative investing strategy that always keeps cash on hand for the enticing opportunity to buy lower, I’d consider starting to look at shares of Berkshire Hathaway.

Over the past decade they have routinely traded at a 40% premium to net asset value. That is a very high premium to pay. It’s much lower now. The fear and uncertainty over Berkshire and the world’s greatest investor’s moves is unwarranted. Either the U.S. is headed for a decade-long depression or these are going to pay off well.
source:http://seekingalpha.com/article/107341-buffett-s-gamble-40-billion-bet-on-volatility?source=front_page_most_popular_articles

In reality, it is not individual investors meeting margin calls who are bidding down the interest rate on Treasuries. It is institutions being forced to put up collateral on transactions such as credit default swaps.

The main point is not so much that Treasury rates can be permanelty negative--that is an extremely temporary anomaly that can be fixed by adjusting trading practices. The more important point is that Treasury rates are being distorted by the value of Treasuries as collateral. So the spread between Treasuries and anything else (including other Treasuries that are inflation-indexed--thanks to Tyler Cowen for the pointer) needs to be interpreted with great caution.
source:http://econlog.econlib.org/archives/2008/11/morning_comment_8.html

There is an Apple (AAPL) story that I don't want you to miss. It's bigger than the Mac, it's bigger than the iPod, and it's bigger than the iPhone. Steve Jobs briefly mentioned it in the quarterly conference call and it deserves repeating, "We've never seen anything like this in our careers".

Of course, I'm talking about the App Store. This store is causing a sea change in both the mobile phone industry and the gaming industry that threatens the viability of all competitors. There have already been approximately 250 million apps downloaded among the 6000 applications available. Mr. Jobs adds:

Competitors are scrambling to copy our App Store but it's not as easy as it looks and we are far along in creating the virtuous cycle of cool applications begetting more iPhone sales, thereby creating an even larger market which will attract even more iPhone software development. It is clear that customers are now attracted to iPhone not only for its amazing functionality and revolutionary multi-touch user interface but also for its unique ability to let users easily purchase, download, and use thousands of different applications, ranging from free games to financial planning and health management -- all of this in only 102 days.

Apple has brought the Internet to the next level. That level that everyone expected during the tech bubble has arrived. The efficiency of distribution is impossible for the traditional model to compete with. Consumers are eating this thing up. During a quarter in which consumers supposedly quit spending, Apple grew real revenue by 54.5% and grew net income by a staggering 81.2%. That kind of growth is absurd for a company as mature as Apple. That kind of growth is absurd during an economic collapse. But it happened. And it's just beginning. The $199 price tag on the iPhone was a brilliant move by Apple as it allows them to fly below the radar of the economic downturn. The iPhone is the must have item for the holidays; teenagers and adults don't even want any other gifts and they'll be happy as long as they get their iPhone, and it's not just because of the touchscreen or the safari internet browsing. It's because the App store is the gift that keeps on giving.

Apple brought a new twist to an aging industry and it worked. Steve Jobs further remarked on the conference call:

I think the traditional game in the phone market has been to produce a voice phone in a hundred different varieties. But as software starts to become the differentiating technology of this product category, I think that people are going to find that a hundred variations presented to a software developer is not very enticing and most of the competitors in this phone business do not really have much experience in a software platform business. So we are extremely comfortable with our strategy, our product strategy going forward and we approach it as a software platform company, which is pretty different than most of our competitors.

The competition is too late to the party. The snowball has begun. There will come a time when Apple stock will no longer be bogged down by its sector. I don't know exactly when that day is but it's coming. Investors ask, where can I make money? Apple offers the best answer in the market. During the last 13 months of this bear market Apple has proved itself again and again. It maintains record sales even in the worst of times. Modern day society values its computers and phones above all else. These items are more important than cars, jeans, jewelry, entertainment, vacations, etc...

When looking for market leadership, look no further than the App store. Just imagine what is going to happen when this gets introduced throughout China. The iPhone as a $199 laptop will set all kinds of records among the Chinese. Apple in the $80 range offers a unique wealth building opportunity. Definitely time to buy and hold.
source:http://seekingalpha.com/article/106744-apple-s-greatest-idea-yet?source=front_page_most_popular_articles

美国的救市或者由国家控股私人企业，有两个特点：其一，只是在危机出现并且其他补救方式都无效时，政府才出面，目的不是要由政府长期经营企业、银行，更不是与民争利，也不是通过政府经营来实现“均贫富”，只是为了解决危机，或者为了特殊的战时所需；其二，一旦危机过去，市场信心恢复并进入正常运行后，政府就从那些国家持股的银行、金融机构或企业中淡出，将股份转售给私人或私营企业。

这种因危机所引起的国家持股，跟当年中国和苏联进行国有化的出发点完全不一样，不是由国家把民间力量从行业中挤掉，不是要将民间私有财产全面国有化，不是由国家来经营经济，而是在出现市场危机时为民间市场提供援助。也就是说，这种因危机而接管金融机构的手段，是政府基于公众利益对私有制经济的补充，而不是对市场、对私有制的取代。
source:http://chenzhiwu.blog.sohu.com/104566891.html

Here's another look at yield you can get for the TIP maturing in two months.

It's currently yielding 13.73%.
没有看错，09年1月到期的tips的yield rate=13.78%.这说明了什么？

But there's more to the story. John Dizard says that the market is simply becoming less efficient:

What's really going on is another effect of the disappearance of dealer and arbitrageur capital. The dealers can't afford to make efficient markets, given their decapitalisation, downsizing, and outright disappearance. That means anomalies sit there for weeks and months, where they would have disappeared in minutes or seconds.
source:http://www.crossingwallstreet.com/archives/2008/11/heading_towards.html

Inflation Rate............Real Stock Returns (annualized)
Below -5%..............................-9.6%
Between 0% and -5%.............20.9%
No Inflation.............................17.1%
Between 0% and 2%..............10.0%
Between 2% and 5%..............14.1%
Between 5% and 7.5%...........-0.2%
Between 7.5% and 10%.........-2.8%
Over 10%...............................-11.1
source:http://www.crossingwallstreet.com/archives/2008/11/inflation_and_s_1.html