Thoughts from the Frontline

This week we will visit one of my main themes for the last two years: the Muddle Through Economy. This is a summary (and first draft) chapter on the topic from my book-in-progress. I also, with a great deal of trepidation, set out my thoughts on the US economy for the rest of the decade. Making predictions is a scary thing. (To those who sent in book title suggestions, we are slowly sifting through the almost 1,000 book titles that were submitted. In a few weeks, I will narrow them down to three and let you decide which is the best.)

This week we look at trends and how to make them your friend. Whether its stocks, the dollar or interest rates, getting the trend right is a cornerstone of successful investing. I finish up this week's letter while flying back from DC. On Monday, I was invited to testify before the Congressional sub-committee which is looking into hedge funds and the role they play in the markets. My testimony centered upon my belief that hedge funds should be made available to all investors and my proposal for a new type of investment company which would allow (not require) hedge funds to register with the SEC (or CFTC) in a manner similar to the way mutual funds (which are investment companies) do today. This new type of regulated fund could then offer their fund to the public, with some very specific suitability limitations for a period of time to allow investors to become familiar with the different set of risks involved in hedge funds.

The topic du jour is deflation. I must have read 40 or so treatises on the deflation debate this week alone. Some are rather lengthy and boring (some economists must intentionally try to be obscure and hard to read - you can't be that bad without really trying), and others are quite thought-provoking. I have written at length on deflation in the past, but from the volume of questions I am getting, it seems time to charge once more into the breech. I will try to come at the debate from a rather different point of view, lay out the risks, and see if we can find some investment insights.

This week we take a look at the dollar and global trade imbalances. I will use the draft chapter from my book-in-progress on the topic. I need to thank so many of you for your book title suggestions. We have had almost 1,000 proposed titles come in over the last two weeks. Some of you put in a great deal of thought, did cover designs and detailed analysis. I wish I could write each one of you personally, but I need to keep writing on the book. I want to finish this month. Let's go straight to the book.

This week we briefly look at a few choice economic insights, and then I once again will close with a portion of my book-in-progress about how to successfully invest in secular bear markets. Despite some non-writing business issues which are eating up a lot of work time, I am making good progress (finally) on the book, which I hope to have finished in less than a month and with some hard work on the part of my publisher available in bookstores and over the internet this summer. My intention was to call the book Absolute Returns, but it seems someone has just beaten me to the title. At the end of this letter, I will initiate a contest to help me find a new title.

This week we will look at why and when stock markets go up and down over long periods of times, and how to use that knowledge to your advantage. We will examine how to find the next "New, New Thing" as we look at something called the Innovation Cycle. I must confess that this week's letter is actually a chapter in my book-in-progress. It does contain some material from a letter I wrote a year or so ago, but I have added and edited it considerably. While it is a little longer than most weekly letters, I think you will find it quite valuable.

I wrote about a study last year that suggested corporate earnings in the US could not grow by more than the growth of GDP. "Our median estimate of the growth rate of operating performance corresponds closely to the growth rate of gross domestic product over the sample period ....the growth in real income before extraordinary items is roughly 3.5% per year" (after inflation and dividends. Before them it is about 10%.) "This is consistent with the historical growth rate in real gross domestic product, which has averaged about 3.4 percent per year over 1950-98. It is difficult to see how over the long term profitability of the business sector can grow much faster than overall gross domestic product. " (From a National Bureau of Economic Research Report by three economics professors: Chan, Karceski and Lakonishok).

I have had so many letters of late asking me what I think of and/or know about the existent of the so-called Plunge Protection Team, that mysterious group of government officials who secretly prop up the stock market when it drops too much, that I am going to jump in where wiser minds would just leave the subject alone. It will offer a good opportunity for you to understand concepts of arbitrage and how the markets really work. Plus, if you can prove me wrong, I will show you how to get a quick $100,000.

The past two weeks I have had so many people email me an article by one Geoffrey Heard of Melbourne, Australia that I am going to comment on his nonsense. Because it is so wrong and yet his arguments seem so seductive, it offers an excellent opportunity for us to learn how world currency transactions really affect the price of gold and oil and other commodities. Warning: I am taking off my gloves in this letter. This is one of the more boneheaded pieces of conspiratorial economic garbage that I have read in quite some time. I normally don't respond to such ranting, but because it is seemingly being read and repeated in a lot of places, it deserves some attention.

This week, it is hard to sit down and think about anything other than Iraq, especially given the circumstances in which our troops and those of our allies and the citizens of Iraq find themselves. Our prayers are for all those and their families involved. Last week, I wrote that it was likely that the war would have begun before the next weekly letter. I hope that next week's letter finds the war is over.

Each week, I typically sit down at noon on Friday to write this letter. Quite often I stare at a blank screen pondering what to write about. Last week, and this week, my task has been to decide what NOT to write about. There is just so much that is worthy of our attention: pensions, indexing, Iraq, the drop in gold and the rise in stocks, international turmoil, the misleading headlines in the investment media and more. I have to leave the office without fail at 5:30 (kids come first), so let's see how much we get covered.

I am writing this week's e-letter early, as tomorrow I travel to speak at an investment conference in Florida. As I review the articles and reports of the last few weeks, I am struck by the number of very interesting topics which deserve their own letter. There is truly a lot happening, so like the billiards player trying to make a difficult four bank shot, we will go from one side of the table to another and hope we end up making the shot, or at least making a point or two.