Cabot Wealth Advisory 5/18/09 – Draco vs. Machiavelli
Featuring Lutts’ Logic:
Draco vs. Machiavelli
What’s Right With America
Poised for a Breakout
Last week’s email brought this from a reader.
“Dear Mr. Lutts,
If the market was allowed to correct itself, I would have confidence in its eventual, measured and genuine recovery.
“But markets the world over are being hugely manipulated in draconian fashion by colluding politicians with no training in, and little understanding of, economics and foreign affairs.
“The USA is impaled on the debt of meaningless wars and massive non-self-liquidating credit hidden behind Credit Default Swaps. From the outside it looks like a recipe for, at best, a protracted five-year recovery with a greatly reduced-value U.S. dollar.
“Please may Cabot Wealth strive harder to maintain credibility in these turbulent times by presenting a realistic take on the underlying market situation, with full caveat, before urging small investors to buy into these manipulated recoveries.”
First, J.H. in Malaysia, I must congratulate you on a letter that’s better written than most I receive from America. I appreciate it.
Second, I must correct your misuse of the word, “draconian.”
A little research reminds me that Draco was the first legislator of ancient Athens, Greece, in the seventh century BCE; he’s remembered chiefly for producing the first written legal code, which was notable for its extreme punishments. According to Plutarch, “It is said that Draco himself, when asked why he had fixed the punishment of death for most offences, answered that he considered the lesser crimes to deserve it, and he had no greater punishment for more important ones.”
The word to characterize market manipulation as you see it is “Machiavellian.” after Niccolo Machiavelli, the Renaissance Italian most famous for “The Prince,” a treatise on gaining and maintaining political power by whatever means was necessary. Today the word means “characterized by subtle or unscrupulous cunning, deception, expediency, or dishonesty.”
Third, and most important, I must address the content of your letter.
I don’t think the market is vastly more or less manipulated today than it has been in the past. Most manipulation is legal, done by experienced institutional investors who use their assets to nudge stocks this way and that so they can acquire–or unload–their positions at favorable price levels. There’s not much you can do about it, save learning to understand charts and striving to avoid being an easy mark.
I do agree that many politicians in recent months have been making decisions for which they are ill-qualified. I also agree that our growing national debt load is a problem. In fact, I wrote about it last year, when the problem was not so obvious to all. But these problems are well-recognized today, and thus they have been factored into the market … at least to some degree. And all the other problems we recognize have been factored in, too.
So let’s look ahead. Most investors, remember, look to the future, and they buy and sell according to their perceptions of the future. You, for example, have a perception that the U.S. economy is in for “at best, a protracted five-year recovery with a greatly reduced-value U.S. dollar.” So you invest accordingly. Three months ago, when the market was nearing its bottom, I heard many people express the opinion that we were in for a rough 10-year period. Now I hear fewer of them; the rally that boosted the Nasdaq Composite in nine of the past 10 weeks improved their mood a bit. But the news is still pretty awful, so a projection of five years of trouble may reflect the average perception about the economy today.
The funny thing is, no one knows what the economy will do. Two years ago, life seemed pretty good to most of us. The number of people projecting a major global recession and a loss of more than 50% of the market’s value could probably have been contained in one small conference room. They would have been laughed at. But they would have been right.
Today the same room might hold all the people predicting a major boom. They too, would be laughed at. Yet they might be right.
I’m not predicting a boom. But I am confident that growth investors will make money by investing in market uptrends when they come along. I think value investors will continue to succeed by buying stocks of good companies when they’re cheap, and selling when they’re fully valued.
And I think brave individuals who uncover and invest in the stocks of little-known small-cap companies with great growth prospects–and then sit patiently–will do very well.
Meanwhile, the media will continue to focus on the news of the day. Most people’s perceptions of the future will be deeply colored by the news of the day. And this is despite the fact that any careful analysis of history can remind us of how difficult it is to connect the dots to see where the trends of today will take us.
For example, nearly two years ago, when subprime mortgages began to go bad, did anyone look ahead, connect the dots, and conclude that it would end with Washington Mutual, AIG, Fannie Mae, Freddie Mac, Merrill Lynch and Lehman Brothers all collapsed in a heap on Skid Row? No.
And last summer, when gasoline prices topped $5 while the credit industry was imploding, did anyone connect the dots and conclude that one result would be the mass closing of 789 Chrysler dealers and 1100-plus General Motors dealers? No, we’re just not that good at looking ahead.
And just six months ago, could anyone have predicted that President Barack Obama would be increasing the troop count in Afghanistan and defending the practice of keeping confidential the details of the previous administration’s torture practices? Of course not.
In short, for anyone to pretend they know where the economy is going in the next five years is ridiculous. The same goes for the stock market.
I do worry that the folks currently running the show in Washington, D.C., are spending too freely and digging our prison of debt deeper and deeper. On the other hand, the best time to borrow money is when it’s cheap … and it’s dirt-cheap today.
I worry that the well-intentioned efforts to reform our healthcare system will result in rationing, will diminish the incentive to innovate, will remove further our sense of personal responsibility for our health, and will constrain doctors and their patients to a government-mandated system that is no more effective than our current centrally controlled elementary education system. On the other hand, I have high hopes that if the three-fourths of Americans who are overweight simply cut back on their consumption of bacon double-cheeseburgers, Big Gulps and mocha frappuccinos, the problem will be half-solved.
I worry that our continuing dependence on foreign oil produced in countries that are not pro-western democracies could lead to serious trouble as outputs slow, global demand rises, and prices rise, too. On the other hand, I’ve very optimistic that with the political willpower and the economic incentives, we will eventually get plenty of non-polluting “free” energy from solar and wind.
In other words, for every big worry, there’s the prospect of a big wonderful solution. In the history of America, the solutions have normally won, and as long as Americans are allowed to innovate, I believe they will continue to win; it’s part of our culture.
One hundred and one years ago, Henry Ford produced the first Model T, the first affordable automobile, the car that “put American on wheels.”
Eighty-four years ago, Ford Motor built the all-metal Ford Trimotor, the first successful American airliner.
Sixty-four years ago, Americans detonated the first offensive nuclear weapon, helping end World War II.
Thirty-six years ago, the first cell phone appeared, the 2.5 pound Motorola Dyna-Tac.
Thirty-four years ago saw the debut of IBM’s first personal computer, the 5100, retailing at $9,000 and up.
Twenty years ago saw the debut of the World Wide Web, developed by English scientist Tim Berners-Lee but made possible by the U.S.’s Advanced Research Projects Agency.
And less than eight years ago, the first iPod was sold. Since then, the electronic wonder has decimated/revolutionized the music industry, fathered the iPhone and generally brought pocket-sized wireless computing to the masses.
What’s next? No one knows; but I guarantee that it will be wonderful.
We’ve just left behind the biggest, baddest bear market of your lifetime, and we are in the process of leaving behind the greatest economic slowdown since the Great Depression. By no means do I think it will all be peaches and cream from here. But there are great advances happening in medicine, in communications, in alternative energy, and more, and I’m confident that early investors in the right companies will do very, very well.
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Back on May 7, soon after General Motors announced that it had lost $6 billion in the first quarter, I wrote the following in Cabot Wealth Advisory:
“There is, however, one auto stock that’s intriguing. It’s Tata Motors (TTM) of India, with $9 billion in revenues over the past 12 months. Tata acquired Jaguar last June, and we were impressed to read early this year that the top marques in the J.D. Power quality rankings were Jaguar and Buick. And now Tata’s come out with the $2,500 Nano, a car designed for the masses of India that has the potential to succeed like the original “people’s car,” the Volkswagen Beetle. Tata has already received 203,000 orders, including deposits of–brace yourself–77% of the selling price. The first cars will be available in July. And Tata pays a dividend of 4.5%
Furthermore, TTM has an attractive chart. After the market bottom of early March, the stock bounced from 3 to 8, and over the past four weeks it’s built a very nice and tightening base under 8, apparently building steam for a breakout into new-high territory and another advance. I think the odds are pretty good.”
After that, the stock continued to trade tightly between 7 and 8. This past weekend the Indian elections were concluded, and today all Indian ADR (American Depositary Receipts) soared. Tata hit 9.74 and then pulled back a bit. I still like it, long-term.
Another high-potential setup belongs to NetEase (NTES), a leading force in Chinese online gaming that we’ve been recommending for a while.
Back on March 16, editor Michael Cintolo of Cabot Top Ten Report wrote:
“Chinese online gaming is one of the big stories of the past few months, and … back for a third appearance, including one just last week, is NetEase.com, a Chinese Internet portal that gets more than 80% of its revenue from games. The big story is that China, while it has already passed the U.S. to become the world leader in the number of its citizens who are online, is still far behind in percentage terms (North America is over 73% online, while Asia is just 17%). So the potential for growth in China remains huge. The smaller story is that China’s economic slowdown has idled at least 20 million people, and some of them are passing the time in cheap Internet parlors immersed in online role-playing games. NetEase has one of the most popular games in Fantasy Westward Journey and continues to rake in the cash.
“NTES has just topped its high from the beginning of the year on big volume and looks ready to add another week to its string of three weeks with big volume advances. The stock has lost contact with its 25-day moving average, but thus far there aren’t any signs of a correction. You can jump on right here, at least in a small way, but waiting for a correction of at least a point makes more sense.”
Not only did the trend continue, with the usual minor corrections, but a month later NetEase acquired the license to host World of Warcraft in China for the next three years. The game is huge in the U.S. (it’s my 17-year-old son’s favorite) and it’s the fourth most popular game in China.
For the past month, NTES has been building a base at 30, and it seems to me that it’s only a matter of time until it breaks up through its old high and resumes its advance.
Yours in pursuit of wisdom and wealth,
Cabot Wealth Advisory
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