Surf's Up ... Someplace

There is always opportunity, even in overheated markets.

The movie theater near you probably didn't even exist in 1967 when the film "Endless Summer" was making the rounds of American neighborhoods. As I was thinking about the topic for this month's column, images from that movie flickered in my imagination; scenes of lithe and beautiful young people astride their surf boards, chatting idly as they paddled about in calm ocean waters, straining their eyes toward the horizon in earnest anticipation of the perfect wave.

I was musing on waves and surfing on a recent Friday afternoon at the office as I watched the slow trading activity on the NYSE wind down to a quiet close of what had been a hectic week. I was all alone; our staff had been dismissed a little early as a thank-you for managing an extraordinary volume of new client activity during the past few days. Suddenly, my reverie was shattered by a vigorous "Hello, anybody here?" from the reception area.

The voice was vaguely familiar. Sitting upright, I put my feet back on the floor. Leaning toward my office door so I could see into the lobby, I was thrilled to behold, replete with an unfamiliar shock of silver hair, a friend and fellow analyst from my Wall Street days whom I hadn't actually seen in 20 years. "Bob, you old rascal, I can't believe it! What in the world are you doing in Maryland? It's so great to see you!" "Nancy and I are in town for a family wedding and I couldn't resist the chance to look you up. Got time for a glass of wine with an old buddy?" "Your timing couldn't be better; Mary Liz is having dinner with her sister tonight. I've got just the place for us to have a long visit."

Amid a flurry of catching-up chatter, I shut down the computers, threw some weekend reading into my Land's End tote, locked the front door and guided Bob across the mall to the Iron Bridge Wine Bar and Restaurant, where I knew we would enjoy some memories and swap investment ideas for a couple of hours.

Facing Our Elephant

We arrived in time to get the last table. In no time we were pouring from a chilled bottle of Kanu Chenin Blanc (South Africa) and sampling the restaurant's signature brochetta. "Mike," Bob began, "I've been reading your column in Financial Advisor, and I must say you are starting to get to me with the concerns you have been writing about; especially the acceleration of credit and the high valuation levels of both stocks and bonds."

"That's a pretty succinct summary of the key issues, Bob. Loose money, a bunch of exciting new technologies and a classic dose of speculative fever spawned a spectacular stock market boom; and the cheap equity capital funded enormous malinvestment at the turn of the millennium. On top of that, reduced credit standards and falling interest rates ushered in a housing price boom that fostered a credit-based consumption boom. When the stock bubble finally burst in 2000, and jobs started disappearing, the Fed and Congress poured on the monetary and fiscal fuel to "save us" from a natural correction. Corporate debt, consumer debt and government debt all rose at the same time.

"I have a chart in the office that I call 'the elephant in the living room.' It shows total debt in the U.S., as a percentage of GDP, zooming in 15 years from a normal 125% to an unprecedented 310%."

"Yeah, I think I saw the chart in Barron's. But what do you mean by 'elephant in the living room?'" "It's an expression from AA, referring to a family member's drinking problem. Everyone in the family knows it's a problem except the person, but nobody wants to talk about it. It's like having an elephant in your living room, and everyone is trying to ignore it. It's not going to go away, and if you don't do something there's going to be some damage. As professionals responsible for clients' nest eggs, I don't think we can safely ignore the potential consequences of huge debt."

"Yeah," my friend agreed again, "the mediocre growth we have been able to generate has come at a high price. At some point the cost of carrying all this debt has to start pulling down consumption, doesn't it?"