19 Years-"Irrational Exuberance"

But how do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions as they have in Japan over the past decade? (…) ("The Challenge of Central Banking in a Democratic Society” (http://www.federalreserve.gov/boarddocs/speeches/1996/19961205.htm), December 5, 1996)

The markets shook off the debacle of Long Term Capital Management {LTCM}and continued on its merry way. Stocks rallied from the bottom of that crisis almost 25%. Again most of this gain came in a 30 day trading period beginning in mid October, 1998. The SPX added almost another 20% in 1999. But the overall market labored, trading in a 200 point range for most of the year. In fact by mid October the SPX was only 20 points higher than it had been in January. Most of 1999's gains came in a 20 day trading period from the end of October to mid November. In general individual stocks began to experience higher levels of volatility-higher price swings both intraday and over longer trading periods.

Investors seemed different after LTCM. Share valuation became a major issue. Bearish investors pointed out that stocks were absurdly priced based on most traditional metrics. The cheerleaders believed in a new economic paradigm-that technical advances in productivity and new invention justified current prices. Federal Reserve Chairman Alan Greenspan seemed to be on the side of the bears. He had publicly worried about stock's valuation in a famous speech. His “irrational exuberance” quote was by the end of 1999 very well known. But it had been uttered in December of 1996 and the SPX was 500 points or almost 70% higher in between.

The new issues market churned out deals as fast as companies could put the ink to paper. The quality of most of these companies was less than ideal. Most of the initial public offerings of stock in this era had little in the way of operating earnings or corporate history. Most were just concepts on pieces of paper and in reality nothing more than exit strategies for the owners who had created them. It was as if the corporate finance departments all around Wall Street sensed that a marvelous door was creaking shut and it seemed everybody wanted out before it was locked closed perhaps forever.

Corporate profits were booming and corporate spending on technology had never been higher. This was largely the result of fears of massive computer infrastructure failure on January 1st 2000. This so called “Millennium Bug”-the fear that archaic computer code would crash on this date had been the subject of much speculation in the press for at least two years. The hype plateaued as the world closed in on the century’s turn. But the new year/century/millennium came and went with nary a tweak in global computer networks.

The big bad investing event that most of us worry about usually isn’t the ogre that ultimately attacks us in the dark. Almost unnoticed, buried underneath the headlines, was that customs authorities had uncovered and stopped a car full of explosives at the US-Canadian border. The driver's destination had been the Los Angeles International Airport and his goal had been to disrupt the millennium celebration by blowing up the main terminal at midnight. He was affiliated with a terrorist group named Al-Qaeda.

At any rate the New Year came without incident. The SPX staged a last gasp move and managed to crest the 1,500 level in March 2000. It made one last high when somebody printed 1552.87 on March 24. From its lows in December, 1994 to its high, the SPX was up over 240% {excluding dividends}. Mark Twain supposedly once said "never confuse brains with a bull market. In this kind of advance geniuses were being created daily. March, 2000 saw the largest percentage influx ever of new money into mutual funds passing the previous monthly record set in October of 1987. Most of that money went into technology which was hottest and most visible sector at that time….. To be continued.

Note: The next post on this blog will be after the Memoral Day Holiday. Have a safe weekend.