Wall St. and Business Wednesdays: A Conversation With Richard Russell, Editor-Publisher, Dow Theory Letters, Inc.
Monday morning, while listening to Bloomberg Financial News, I caught an especially powerful presentation by Mr. Richard Russell, Publisher and Head of Dow Theory Letters, Inc. He was being interviewed about a variety of topics related to the stock market and economy. Essentially Mr. Russell’s argument was that the stock market is grossly over valued and the U.S. economy is in bad shape despite the appearance given by a Dow above 10,000 and the latest GDP numbers.
Mr. Russell told Bloomberg that he was very concerned about the housing market (specifically mentioning that seven out of the eight home builder stocks he follows were down at the time of the interview) and the effect that oil was having on the overall economy. He also expressed his view that "gold prices had not even seen their day yet". Finally when pressed for a prediction, he told Bloomberg that he believed that possibly within three years we will see a Dow at 5,000.
That was enough to grab my full attention.
I visited Mr. Russell’s informative Dow Theory Letters website and learned more about the worldview and model through which he analyzes the stock market and U.S. economy. Mr. Russell, is a tremendously respected and controversial figure in financial markets - a ‘dean’ of sorts, having published his views since 1958. To say the least he has seen quite a bit of economic and financial history and observed first-hand, the evolution of the capital markets.
Late Monday evening I spoke with Mr. Russell to learn more of the basis of his views expressed on Bloomberg, and their greater detail, as well as some of the elements of the Dow Theory, which has been a staple of Wall St. analysis for over 100 years. What follows is a transcript of that conversation.
Cedric Muhammad: Much of the background to the Dow Theory is articulated quite clearly on your website. But just if you could, succinctly, and in a nutshell, outline what the core tenets of the Dow Theory model are, as you have evolved it?
Richard Russell: It is kind of hard to do it in a brief way, but basically it has to do with the fact that the markets and economies move in broad trends. The trends usually move from the downside – depression, gloom, unhappy thoughts all the way up to excessive happiness and optimism. And back again to gloomy thoughts. So that’s a brief description of the cycles the Dow Theory is concerned with and the rest of it is basically how we get there. In other words, the steps, how long it takes, and so forth.
Cedric Muhammad: Now, do you subscribe to ‘irrational pessimism’ and ‘irrational exuberance’ existing in the markets or do you think the markets are 'efficient'?
Richard Russell: Uh, no, I ultimately think the markets – on both extremes - run on emotions and preferences. Right now, the housing and condominium picture is a picture of a frenzy and emotions. It is not a picture of intelligence based upon what we know from history.
Cedric Muhammad: Now I heard you today speak about the housing stocks on Bloomberg, and I believe you said that as of the time you were speaking, seven of the eight homebuilder stocks you look at were down…
Richard Russell: Down, for just a day.
Cedric Muhammad: Right. What are some of those stocks and what is your overall view on the housing market?
Richard Russell: Well some of the stocks are Toll Brothers (stock symbol: TOL), Ryland (stock symbol: RYL). I am talking about the big ones. The very big home builders. And I think what we are seeing now is sort of a frenzy. Everybody wants to buy a condo. People are buying condos off of floor plans before the ground is even broken on these condos. It is sort of a state of madness. It will end the way all of these frenzies do end and that is with either a long decline or a quicker collapse. But it will end. And it won’t end happily.
Cedric Muhammad: What do you think is the source of it? Some people blame the capital gains tax provision of the 1997 Taxpayer Relief Act. Others say it is low interest rates.
Richard Russell: First of all, the stock market hit its high in the year 2000. Since then, people have basically not made money in the stock market and they got discouraged with stocks. Against that, you have got very low interest rates and you’ve got ample credit. I get three or four calls a day from mortgage outfits trying to sell me and put me into mortgages. You have got a situation where it is very easy to borrow money and its cheap to borrow money. And that’s made people - instead of thinking of investing in stocks – go into condos in a massive way.
Cedric Muhammad: You know you perked my ears up and I am sure that of many other people when you mentioned that possibly within a three-year period you thought the Dow may be at around 5,000. And I know that is not a level that I have seen since 1995 and 1996. So I wanted to know what is the basis of that view and what has been the reaction that you have gotten to it?
Richard Russell: Well there are a lot of problems, anyone of which could trigger a real decline and collapse in the Dow. One of them of course, and I’m sure a lot of your readers know about it, is the wage problem - this fierce competition from China and Asia which is preventing wages from going up. The second thing is the price of oil. Now, usually when oil goes up it takes two months after the price of oil rises before it filters into gasoline (prices) and the economy. And I think looking ahead, people are going to be forced to cut back because of the high prices of gasoline coming up. And against that you have zero savings in this country. Whereas the Chinese save 40% of their income, people in the U.S. save zero, nothing at all. And on top of that they are going into debt.
Under that condition, we can’t take any kind of contraction (in the economy) or sudden hit. And we are getting hit by the price of heating oil and gasoline coming up. That could tip this economy over into the down side. And housing is the biggest thing in the country right now. Probably 50% of the housing is financed very poorly so prices usually change at the margin and I am afraid we are going to see something trigger a real slide in housing prices and that could send the whole country into a recession.
Cedric Muhammad: Now, Mr. Russell is a 5,000 Dow a depression or a very, very bad recession?
Richard Russell: Well I think it would be very tough. You know, people don’t realize it. I have five kids and I often think about them. The last two generations are the only two generations in the history of this country that have never seen hard times. I think my kids and your kids are going to see hard times before they are over. I think we are going to make up for two generations of very good times.
Cedric Muhammad: Now there was another statement you made on the radio that got my attention - and I was really riveted by your whole presentation. I’m a gold bug. A sound and hard money man. So when you mentioned that ‘gold hasn’t seen its day yet’ and I see where you are going with your argument about a 5,000 Dow, (I thought to ask you) where do you see gold going over the next three years and maybe in the short term?
Richard Russell: Gold’s time has not really come yet. The average person doesn’t know where to even buy a gold coin. I was around in 1980 when gold went to $850 (an ounce). I think we are going to double that before this is over. And when you talk about where gold is going what you are really asking is where is the dollar going. I think the dollar, like all paper currencies is a doomed currency. It really is a question of at what point the dollar really collapses. When I got out of the Army and Air Force in 1945, I could buy a good dinner for a dollar and a half. I could buy a loaf of bread for eight or ten cents. Since then, the 1945 dollar has lost 95% of its purchasing power. And that is going to continue and at some point the dollar is going to collapse and at that point the sky is the limit on gold because gold is real money. The dollar we have today is really a Federal Reserve note. It is not even a dollar. It is ultimately going to go out of existence the way all paper currency in history does. And at that point you are going to have a panic. The same way people are disinterested in gold now, you will see just the opposite. There will be a frenzy for people wanting to own real money.
Cedric Muhammad: Now, possibly back through the paradigm of the Dow Theory or whatever analysis you would like to use, I would like to ask you a question. I heard you mention today the overvalued nature of the market. Now is this in terms of Price to Earnings ratios (P/E) and historical highs?
Richard Russell: Right now, the S&P 500 which is the standard, is selling slightly over twenty times earnings. And it has a dividend yield of 1.8%. Historically that is above where previous bull markets have tapped out. In other words, on the basis of history, the S&P and stocks in general are very, very expensive.
Cedric Muhammad: And where do you think the Dow should be right now? Where should we be? Should we be at 8,000 or…
Richard Russell: Well, you see that is a good question. My feeling is that following the year 2000, following the big blow-up particularly in the NASDAQ, stocks we should have then had a major bear market. But Mr. Greenspan decided he was going to fight the bear and not allow it, so he let interest rates - short rates - down to 1%, and he flooded the market with liquidity and held off the bear market. He didn’t erase the bear market, he held it off up until now. But in my mind, holding it off that way is like holding a man (together) who is sick, by loading him up with drugs. Sooner or later he is going to have close to a fatal collapse. And I think that is what’s going to happen to the U.S. economy. We are going to make up for lost time.
Cedric Muhammad: Now where do you see the values in the stock market? Do you take it on a stock by stock basis or do you look at sectors where there might be undervalued stocks that could appreciate?
Richard Russell: One way of looking at it is through the whole picture. In other words, the market in general - and I am talking about the S&P 500 - is overvalued. There are certain sectors that are less overvalued than others. For instance oil right now. The oil stocks may be values because I see oil going much higher. So if I had to pick one sector that could be a decent value and may be worth buying now, it would be the oil sector. Other sectors – for instance, the tech sector – is overvalued. Utilities are probably expensive but still values. Retail stocks, I think, are overvalued. You could talk about sectors or you could talk about the whole picture. The important thing to me is that the whole market in general is overvalued.
Cedric Muhammad: OK. So now what in the way of a policy prescription would remedy this? I’ve got some of my friends who are economists saying, follow the gold standard or a gold-price target. Others say lower taxes and some say raise interest rates. What do you think? Do you even get into that with your Dow Theory thesis?
Richard Russell: Yeah I do. I think the best thing to do - but I don’t think it will happen - would be to go back to the gold standard, which is real money. In other words, all of this paper money really revolves around gold and we either trust gold or we trust the politicians. I would trust gold rather than say the Federal Reserve. To me the Federal Reserve equals inflation.
Cedric Muhammad: So how do you see it ending up? Is there another policy blunder on the way? A shock other than oil? Or is the dye already cast?
Richard Russell: I think the dye is cast. It is only a question of how it works out. Ultimately I can guarantee we will have great values again. How we get there is the question. One way of getting there is these markets will collapse. The markets always go down to real value, and then below real value. In other words, they go too far on the down side just as they have gone too far on the up side.
Cedric Muhammad: And you have been at this since 1958?
Richard Russell: Yes. I have been writing my reports for almost half a century.
Cedric Muhammad: Congratulations first of all on that and the contribution you have made to the field. What other era does this remind you of, if any?
Richard Russell: I think you have to compare it pretty much with the late 20s. 1928, 1929. The Jazz age. And this feeling that ‘this is a new era and nothing can happen. We have got it made. These are good times that will last forever.’
Cedric Muhammad: Thank You. You have been so kind with your time Mr. Russell. How can people go about subscribing to your service? Is it just through the website?
Richard Russell: The easiest way is my website, www.dowtheoryletters.com. Or they can call at (858)-454-0481. Either way. Or they can go to Google and look up "Richard Russell" and "The Dow Theory".
Cedric Muhammad: Thank you so much Mr. Russell and we look forward to amplifying your voice.
Richard Russell: Thank You very much Sir. Take Care.
Wednesday, August 24, 2005