Back to "normal"?
How the Bubble Legacy will create profit opportunities in the sideways markets of 2002

Assume, if you will, that you had fallen asleep in March of 2001 and, Rip Van Winkle-style, snoozed until March of 2002. (I know it’s a stretch. But certain events… such as blunt-impact trauma or watching Dame Judy Dench do “The Vagina Monologues,” are rumored to have just that effect.)

You would have slept through the Recessionette of 2001-02. Missed 9/11 and its sledgehammer impact on world markets. And the Enron debacle, accounting jitters and all, would have occurred off your radar screen.

As you wake up, you find that the Dow’s (again? still?) oscillating between 10,400 and 10,600, the NASDAQ between 1,800 and 1,900. And Hollywood clowns like Alec Baldwin are still nattering about the presidential election of 2000…

Of course, it’s been a heck of a ride since last March. Markets plunged by 50%, only to rise 60-70%. A recession began a year before even the bean counters noticed it, only to “end” as Chairman Greenspan tapped on the microphone on March 7 to make the rumor official: “Economic expansion is already well underway, although an array of influences unique to this business cycle seems likely to moderate its speed.”

Great expectations

Everything seems perfectly normal. The augurs at the Commerce Department reported that orders to U.S. factories rose by 1.6% in January—the third increase in the last four months. Transportation equipment rose 4.1%. Orders for cars went up 0.8%. (Good news for Toyota (TM:NYSE), whose stock price briefly rose to over US$59. Too bad we cashed out with 10% profits back in January!)

Orders for computers went up 4.8%. And—music to our ears—orders for semiconductors increased a whopping 14%. That’s great for the tech sector in general… but particularly for those of you who followed our advice in the e-Dispatch and bought TSM:NYSE as a “right-time investment” proxy for the semiconductor market. As I type this, the stock is trading as high as US$20.11, or 12.85% above our e-Dispatch entry price.

A veritable Mona Lisa of happiness was painted by the Institute of Supply Management (ISM), whose key gauge of manufacturing activity jumped to 54.7 in February from 49.9 in January, ending a continuous contraction that had lasted for 18 months.

Even the twin engines of economic stability, the American consumer’s indefatigable urge to whip out his checkbook and her charge cards, appear to be well lubed: the Commerce Department said consumer spending rose 0.4% after a revised (and unchanged) December reading. Spending on construction projects even jumped 1.5% in January, the biggest gain in a year. Personal income also rose 0.4%, the largest upturn in eight months.

Back to normal

But before you grab your top hat and tails to jitterbug down the street, ask yourself what it actually means if the U.S. economy didn’t go into a technical recession.

Not even terror and war could keep consumer spending from staying relatively strong throughout the downturn. (And after staying a steady spendthrift course throughout the chaotic events of the past year, I find it hard to imagine the American consumer ever trading in his or her ingrained proclivity for excess in favor of frugality.)

But can the consumer rise to the challenge of supporting 2% or better growth throughout 2002 and beyond? After all, with the stock market bubble showing no signs of re-inflating, any real gains would have to be based on honest-to-goodness earnings.

Not a chance. Corporate America has to help, either with an increase in capital expenditure or by improving profits. But the two seem mutually exclusive: in this recession, profitability—or at least decreasing losses—has been achieved by cuts in capital spending, by drastically slashing the workforce, and by eliminating fad and vanity projects.

The expected recovery in corporate earnings over the next three quarters will be modest. And consumer spending will remain a wild card in the equation.

Trampling out the vintage…

Even if the U.S. economy manages to pull out of the slump, what does “normalcy” mean to you and me as investors?

Let’s not forget: the market we remember… that heady, sky’s-the-limit bull market of 1995-2000… was a statistical aberration. A “normal” market, one devoid of speculative frenzy, is a dismal thing. Indices may fluctuate a couple of hundred points in any given direction. But at the end of the calendar year, the lucky ones may have 10% average gains to show for their patience and imperviousness to pain. Others will just about break even. The rest will lose steadily.

But I see good news ahead for Taipans. The legacy of the Big Stock Market Bubble will continue to provide opportunity. After all, it has left us with plenty of potential for debacle. There’s Enron-style accounting… which appears to be taken straight from the business and expansion plans of the Internet wunderkinder. A whole generation of nomad MBAs and process managers trading up from company to company without ever attaining a grasp of their core business. And, most importantly, an army of amateur investors driven by the mercenary lust for easy wealth… and punch-drunk with the need to make up for the stomach-churning losses their portfolios have incurred since April of 2000.

Throw the typical industrial, economic, and business cycles into the mix, and you have the equivalent of TNT: powerful enough to implode entire sectors of the markets virtually overnight… yet laden with speculative profit potential for wily investors with a knack for picking the right time to buy (and sell!) the right stocks.

Grapes of Wrath II

Mother Nature is about to present one of these opportunities very early this year. Let me explain:

Ever since mankind climbed down from the trees, there has been a certain futility in talking about the weather. And yet, I feel inclined to talk about just that today. Because, as of late, there have been dreadful portents in my neck of the woods.

You see, Baltimore weather forecasters are ninnies. Their forecasts are wrapped in hyperbole and sensationalism. Every patch of morning mist harbors horrors reminiscent of John Carpenter’s “The Fog.” Every snowflake hides the makings of a blizzard. And every drop of rain becomes a storm to be bemoaned as if it were Nature’s equivalent of cod-liver oil.

But this last weekend, it rained. And not a single TV newsperson complained!

That’s because Maryland is already feeling the first pangs of what is shaping up to be a major water shortage. Governor Glendening, having just bedded, knocked up, and then wed a thirtysomething assistant, is about to institute voluntary water restrictions for large parts of the state, which is already operating under an official drought warning.

And we’re not alone. Drought conditions prevail in nearly a third of the United States. New York and Baltimore are already pumping water from temporary supplies that the resource managers usually don’t like to touch because of their iffy color and taste. Wells in New England and Georgia are running dry. Southern California has had a feeble wet season. And in parts of the Midwest, ranchers have to decide between trucking water in or selling off cattle.

And all those water-guzzling trees and flora have yet to come out of hibernation…

According to the Climate Prediction Center of the National Weather Service, drought conditions now run along both coasts, “from Maine to Georgia and Montana to Texas.”

High and dry

The Drought of 2002 could turn into the story of the year. Not only because it will inevitably come to affect the prices we’ll have to pay for our vittles this summer. It’s a story of shrinking supply and increasing demand, plain and simple. Add a dash of speculative lust, and you have the makings of beautiful profits.

I asked my associates in the office this morning how they would play the situation, and this is what they came up with: Western Water (WWTR:OTC). While most other water companies are trading at, above, or just a smidgen below their 5-year highs, WWTR is a penny stock.

As such, it has explosive speculative potential. When I first mentioned the stock in the e-Dispatch on March 4, it was trading at 22 cents a share, and was among the few stocks that didn’t participate in that day’s rally. Just a day later, the stock opened at US$0.32-0.35 and began a steep climb that resulted in an intraday high of US$0.60 on March 6.

This, of course, was mostly speculative hot air. As you read this in the waning days of March, the picture will probably look quite different. And yet I believe this is one of the last undiscovered profit opportunitie