This in Wednesday, via a Reuters conference in London: Hugh Hendry, CIO of hedge fund Eclectica Asset Management, declared that financial stocks could take 25 years to recover from the subprime disaster and added that Citigroup Inc. would fall below $10 a share.
His logic: Subprime represents the puncturing of a bubble that began the last time Citi collapsed, in 1991 (bottoming at less than $10 a share). “The origination of the bubble in U.S. financing is circa 1991, with the bailout of Citigroup,” Hendry said. “It is my presumption that we will return to such levels.” Hendry argues that when a bubble is created in a sector’s stock it takes a quarter of a century to return to prebubble levels. Oil stocks, he said, made up a third of the S&P in 1980, then suffered a 25-year period of “scorched earth” before their recent recovery.
There are a number of oddities here, some of which may come from the rather sketchy Reuters story itself. Twenty-five years is a long period in the markets, and over that stretch market fundamentals tend to be swamped by real economy factors. The Japanese bust and deflation lasted more than a decade, despite multiple policy errors. Based on Hendry’s notion, it took until 1954 to recover from the Crash of 1929, with the ultimate real-world event — World War II — playing a small role in the middle. Is our situation analogous to that? What role will policy — good, bad, indifferent — play?
Hendry’s theory raises other questions. Does his 25-year cycle apply to single firms — Citi, say — or entire sectors? Is, say, Morgan Stanley on the same treadmill as Citi? The usual notion is that real economy supply and demand — from OPEC to China — determined the ’70s bubble and our current runup in prices and shares. Did China suddenly get thirsty for oil because 25 years have passed? Why would the subprime bubble have begun in 1991 with the Citi “bailout” — technically it was less a bailout by the Fed than benign neglect — which involved highly leveraged loans and commercial real estate? We’ve had ups and downs since then, including a tech bubble, a recession and down real estate markets, all of which hammered financial stocks. Why is 25 years the magic interval? And what’s so magic about $10 a share? Hendry, a longtime bear, has suggested in the past that there’s a sort central bank conspiracy — he’s not an Alan Greenspan fan — to flood the world in liquidity and that we’ve been living a loose-money, false prosperity for years. Has that now come to an end? Or is he communing with some deeper technical wisdom that’s not evident? Has subprime exposed a fundamental flaw in financial stocks, beside a collective speculative boo-boo, that will keep them prostrate until 2033?
We may well be in for an ugly stretch here, and financials may be down for awhile. But the future is still uncertain, and Hendry is cavalier-bordering-on-the-absurd with his use of the term “bubble,” which, like any cycle theory, can be tossed around so promiscuously because the future is so unknowable. It’s good conference fodder, but just that, particularly in these gloomy times. Maybe Hendry has a quarter-century short on. – Robert Teitelman