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Why Doesn't The Fat Lady Sing?

01/14/03 03:51:05 PM PST
by Bruce R. Faber

When the stage is obscured by smoke and mirrors, how can you know when the last act is finally over?

Even though the bear market has been eating investors' lunch since early in 2000, there has been no sign of the capitulation that usually accompanies a market bottom. As I write this (December 30, 2002), the Nasdaq is down about 73% from its March 2000 high of 5048. The Standard & Poor's 500 index is down from 1527 to about 880. The Dow Jones Industrial Average (DJIA) has suffered the least, but it is still down about 29% from its peak in January 2000 at almost 11,723.

In spite of the terrorist attacks in September 2001, there have been some substantial bear market rallies since the markets' fall began. The timing and the strength of these rallies have been curious, to say the least. Maybe one of these unexplained rallies will start us back to new highs. Perhaps this time it really will be different. Who knows what's possible?

Even though investors in the long bull market of the 1980s and 1990s were indoctrinated in a "buy-the-dips" philosophy, how that mindset continues to survive in the face of these huge, recent stock market losses would be beyond the comprehension of an impartial observer. That philosophy's survival could be partially explained by the actions of a White House gang formed by Executive Order 12631, signed by President Ronald Reagan.


Officially, this committee is known as the President's Working Group on the Financial Markets. The group is made up of the chairman of the board of governors of the Federal Reserve System, the chairman of the Securities and Exchange Commission, the chairman of the Commodity Futures Trading Commission, and the Secretary of the Treasury, who is also the chairman of the group. Each member of the group may be represented by its designee.

Unofficially, this group is referred to as "The Plunge Protection Team," or PPT. Go to a good Internet search engine and enter "Plunge Protection Team" — with the quotes — and you will find amazing amounts of information on what the team has accomplished. However, you will not find a lot about how they accomplished it. Most of what is available on the "how" side of their work is speculation. Under the purposes and functions section of EO 12631 is the team's assigned goal: "Maintaining investor confidence." So far, they have performed their assignment remarkably well. For the full story on the PPT, visit the links listed at the end of this article.


The PPT was signed into existence in March 1988 by then­President Reagan. Its mandate was to protect against another plunge like the 1987 market crash, and overall, the team has done a brilliant job. Without this team's effort, investors might have just given up and gotten out months ago. However, with the PPT fulfilling its mandate in such grand style, getting to a real market bottom could take a while.

Just as there is almost always a "blow-off" top when markets reach their peak, there is almost always a total investor capitulation as the market touches bottom. But with the PPT hard at work, the investors do not feel the pain as badly as they might if the market was left to deal on its own. Many of those who study the market most closely believe that one of the big reasons for the investors' lack of fear necessary for a capitulation is the mysterious, and sudden, recovery of the markets after a very bad day or week. The long bull market repeatedly reinforced their "buy-the-dips" investing practices. With the PPT's success, investors are having a difficult time unlearning their bull market lessons.

Everyone knows the story about the frog that jumps to safety when dropped in a pot of hot water. That same frog gets cooked if the water starts out cold and is heated with the frog in it from the beginning. There could be a parallel in today's market conditions, only it is the investor who is getting cooked. Investors accept the stepped-down losses more readily as long as they have the hope that comes with each unexplainable market bounce. Those investors continue to hope that the low point of the bottom has finally passed, and a new bull market has sprung to life. Investors still seem to be more afraid of missing the upturn to new fortune than they are of losing what money still remains in their hands. Most gamblers reach the depths of their losses in similar fashion.

Another possible explanation for the delayed appearance of the market bottom — the fat lady to you and me — may be in the continued high valuation of equities. Some investors may believe that with valuations still relatively high, the bull is not completely dead, just resting. At the market peak in spring 2000, the price to earnings (P/E) ratio of the S&P 500 was something just over 43. As I write this, the S&P has a P/E close to 26, a sharp decrease in the ratio. To be sure, however, at previous market peaks, the P/E ratio was an even lower 21. In the past, before new bull markets were born, the markets' P/E ratios had to get well down into single digits. As big as the drop has been, if history is any guide, we may still be at the upper steps on the trip to the basement.


Other factors slowing the ultimate drop could be the effect of the PPT in conjunction with the proliferation of mutual funds since the last time Mr. Bear came a-calling. Mutual funds often have a charter that calls for them to be largely invested in the market at all times. Fund managers must put money into the market as long as they have cash in the fund.

It is not an easy task for investors to get their money out of all of their 401k investment funds, or even their individually held mutual funds. Keep in mind that a lot of that fund money is in Individual Retirement Accounts (IRAs). Early withdrawal of funds from IRAs can be a personal financial bear of Kodiak stature. In previous bear markets, individuals and institutions owned stocks. When those earlier institutions and, more important the individual investors, could just bail out when things got sticky, that is exactly what they did. And they did so in massive numbers when investor confidence was scarce.

Now, there are trillions of dollars in must-be-invested mutual funds. Until those funds are depleted, the same kind of capitulation we have seen in the past may be difficult to discern. The PPT's job of maintaining investor confidence is being achieved with gusto. Their unprecedented success makes it more confusing than ever to the investor who is trusting both their government and their money manager to take action in their best interest. The longer that hope glimmers through mutual fund charters and inspirations generated by the mysterious market bounces, the longer it will take for any sign of investor capitulation to become obvious. Given the power of the combination, capitulation of the magnitude previously observed in bear markets may be difficult to distinguish.


If investors finally do throw in the financial towel, that ultimate tossing may yet be several floors below. We would all give the fat lady a standing ovation if, instead of singing, she just slipped out the door toward the unemployment office.

However, those thinking the contralto closer should be out job hunting might do well to remember the following. In February 2000, The Wall Street Journal saw a "clearly amateurish" Fed as part of the reason for the 1929 market crash, and seemed confident enough of their assessment to comment, "It's hard to imagine that happening again — we understand the business cycle better." And they printed that august opinion after the DJIA had already peaked and barely three weeks before the Nasdaq started its 73% drop.

George Santayana's oft-misquoted line says it best: "Those who cannot remember the past are condemned to repeat it." The President's Working Group on the Financial Markets seems determined to maintain market confidence at a height that will block the investors' ability to clearly see that past. All the same, if you check the backrooms of some Wall Street brokerages, chances are fairly good that you will still find a voluptuous vocalist warming up her voice.

Staff Writer Bruce Faber can be reached at

Washington Post: srv/business/longterm/blackm/plunge.htm

WSJ Quote:

USA Today:

"Not a New Bull":

"PPT: Fact or Myth":

P/E Ratios:

And, just in case you wondered:

Executive Order 12631:

Bruce R. Faber

Title: Staff Writer
Company: Technical Analysis, Inc.
Address: 4757 California Ave. SW
Seattle, WA 98116
Phone # for sales: 206 938 0570
Fax: 206 938 1307
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