Developers' Trust Company PLC

The Dow Jones Industrials are selling at approximately 24 times earnings; the broader based S&P 500 Index is selling at 38 times earnings (just as 6 mo ago!). Prior bull markets rarely went beyond that. It is an area from which bull markets have generally turned back. It is not an area from which to expect a stock market recovery, especially after the recent rebound.

Continuous fall of the dollar will result in a surprise increase in interest rates in the environment of weak business conditions internationally. A further drop in general equities will be followed by further declines in the US dollar.

Finding scapegoats after the fact is common. In the 1930's there were many. The then president of the New York Stock Exchange, Richard Whitney, served over 3 years in Sing Sing prison in the 1930's stemming from activities which occurred years before. During the bull market of the 1920's when so many people seemed to be making money, improper and illegal activities were not scrutinized and often overlooked. When the market went bad however, the public and government officials, like now, blamed others, rarely finding fault with themselves. A little perspective may be helpful.

Richard Whitney (1888-1974)

Richard Whitney (Aug. 1, 1888 - Dec 5, 1974), banker, investment counsellor, and embezzler, was born in Beverly, Mass. He was descended from immigrants who arrived in Massachusetts in 1630. His father, George Whitney, was a leading Boston banker. Whitney graduated from Groton and from Harvard, where he was elected to the prestigious Porcelland Club. He moved to New York City in 1910 and became a member of the New York Stock Exchange in 1912, at the age of twenty-three. Soon afterward he was principal broker for J. P. Morgan and Company, of which his brother, George, was later vice-president. During WWI, Whitney was a dollar-per-year executive for the Food Administration, headed by Herbert Hoover, in Washington, D.C.

In the 1920's Whitney was a member of every major club and organization, which a member of the eastern aristocracy should belong. He was treasurer of the New York Yacht Club. He had large and opulent estates; he bred horses; and he was reputed to spend $5,000 per month on maintenance alone, a huge figure for that time. He was married in 1916 to a young widow, Gertrude Sheldon Sands; they had three children. Whitney took over her father's investment business, Cummings and Markwald, and immediately renamed it Richard Whitney and Company. In 1919 he was elected to the governing board of the New York Stock Exchange.

Whitney epitomized the "old guard" of the New York Stock Exchange, a loose grouping of wealthy individuals who acted as leaders in its affairs. At the height of the panic on Oct. 24, 1929, as representative of this group, he moved onto the floor of the exchange and placed purchase orders in an effort to stem the rush of selling. The story of his arrival at the floor location for transactions in the share of U. S. Steel, and casually placing an order for ten thousand shares at 205, forty points above the market price, elevated him to public fame. He also placed orders that day, acting for the governing consortium, for from fifteen to twenty other blue-chip stocks, in an attempt to stabilize prices. These orders were estimated to amount to $20 million to $20 million during that single afternoon, the largest personal trading episodes of all time. Everyone on the exchange assumed that he was trading in the Morgan interest, and the effort did help to stabilize tradin g for the time being, at least in the blue-chip share accounts.

Whitney served on virtually every significant committee of the exchange, including the business conduct committee. At the time of his efforts in 1929, he was vice-president and acting president. He served five terms as president of the exchange beginning in 1930. During this time he was the spokesperson for "the Old Guard," which came increasingly under attack from the newly created Securities and Exchange Commission, a part of the New Deal of Franklin Roosevelt. He appeared as a witness at congressional hearings throughout the period from 1932 to 1935.

Whitney chose not to run again for the presidency of the exchange in 1935, as reform elements, become more active in its affairs, indicated that he would be opposed. He was heavily involved at this time in speculative investments in firms manufacturing apple brandy, peat fertilizer, and marine colloids. In order to keep these companies afloat, he borrowed heavily from friends and acquaintances, using his ties with J.P.Morgan as a sort of collateral. In March 1938, his world collapsed. New and tighter reporting regulations on personal finance revealed that Whitney had been a terrible manager of his own and other people's money. Investigation of his affairs demonstrated that he had been borrowing against funds in his trust since at least 1926.

When the final investigations were made public, it was estimated that Whitney had borrowed over $30 million from his friends, his family, and the accounts in his trust. When he declared bankruptcy, he owed approximately $6.5 million. He was indicated on one count of misuse of funds, from his father-in-law's estate, and pled guilty as charged. He served three years and four months of a five-to-ten-year sentence in Sing Sing. His brother eventually paid all of his debts. When Whitney was released from prison, he moved to a family-owned dairy farm in Barnstable, Mass., where he dropped out of public view. His wife stood by him during his problems, selling all of their assets, except her personal jewellery. Whitney died in Short Hills, N. J.

Much of the reform of the practices of the New York Stock Exchange and other bond and share money markets can be dated to the events of Richard Whitney's life. His activities on the exchange, which had shocked the world of the wealthy-Franklin Roosevelt came close to breaking down when he heard of the defalcations-provided the impetus to reform and reconstruct the money market. In a sense, then, his life ultimately had a substantial positive impact.

The current example is the dimwits of Congress "fixing" the problems of corporate misdeeds, although it is just a pale reflection of the insane unreality that infests the US Congress. This august body of knot heads, liars and morons are the ones who invented off-budget accounting, massaging numbers to make things look rosy, creating fictitious "plug" figures to make it's books seemingly balance, and in general lying and committing felonies left and right, secure in the knowledge that they can't be sued for their roaring incompetence and that the dimwits that constitute the American electorate will always mindlessly vote for a pretty face, a winning smile and a message that the government should "do something." But the Senate, with all the straight-faced hypocrisy for which it is so famous, passed legislation making it against the law for any corporate manager to contemplate emulating even one of the government's monumental deceits and blatant frauds. "Do as we say, not as we do."

The problem with fractional reserve banking is that the capital is lost at the time that it is lent. Panics do not cause the destruction of wealth. Panics are the realization point. Panics start at the time people realise that the wealth is gone. But it was lost at the time the fractional reserve banker took the depositors money and lent it to a borrower while booking the loan as an asset. This double counting did not create new wealth. It merely transferred the wealth. It follows, as an iron law that the corrective phase must of necessity be proportional to the bubble being corrected. These are not new concepts,

All of Mr. Greenspans' efforts will in the end prove to be futile. In time most people will realise them to be counter productive.

To answer the question of why the Credit-Expansion Boom Cannot Be Sustained a quote form an article on Mises.org may provide a useful perspective.

One reason why the credit-expansion boom is not sustainable is that many of the projects financed by credit expansion are doomed to suffer major or total financial loss. This outcome follows from the very nature of their financing, which to be understood requires that we first consider a market without credit expansion.

In a market without credit expansion, the source of all capital investment is saving and accumulated savings. Savings are typically difficult to accumulate because, first of all, the income out of which they are accumulated is difficult to earn. In the absence of credit expansion, money is not "easy" and it does not come easily. It has great and probably growing purchasing power. (This assumes, of course, that inflation is not present in forms other than credit expansion, i.e., that the money is gold or silver.) Every piece of money earned by virtue of the sale of goods or services to others must pass the test of those others having to value the goods or services one offers above the money they pay for them. The only other way that money can be honestly obtained in these circumstances is by laboriously digging it out of the ground, in mining operations.

Thus it all must be earned, and large sums especially come only with great difficulty or uncommonly great ingenuity. And once any money is earned, the temptation to consume it all must be overcome by definite acts of will. In this environment, investments are almost always made judiciously and with careful deliberation, for if there is a loss, something of great value will be experienced as having been lost.

There are always some men with great financial visions that they seriously believe in and do so strongly enough to try to bring them to fruition in reality. In the absence of credit expansion, the only funds available to them are their own and those of the small number of others who can be persuaded after due deliberation to share their vision and are willing to take the risk of loss. Typically, such ventures begin with small capital investments and only after demonstrating their success by being able to earn a substantial rate of profit on the initial investment is more capital forthcoming. And much or possibly even all of this additional capital, will consist of nothing other than the reinvestment of the profits themselves. The effect is that the capital invested in the business grows in line with, and on the foundation of, its already demonstrated success. Additional outside, borrowed capital is attracted only insofar as the growing capital of the original in vestors can provide a substantial buffer of safety for the creditors. With credit expansion, matters are very different. Here huge sums become available overnight, out of thin air. These are sums that have not had to be saved and accumulated and whose loss will not be the loss of anything previously owned nor, therefore, be experienced as the loss of anything of any great personal value. Thus it is not surprising that the funds created by credit expansion are not invested with the same forethought and prudence as funds accumulated by saving. Nor should it be surprising that again and again they are invested in grandiose projects without any demonstration of previous profitability whatever. A record of proven profitability is no longer required when capital funds are created out of thin air and profit ceases to be a necessary source of capital.

Once under way, the rising profits created in the economic system by the process of credit expansion itself appears to justify further credit expansion. Practically everything becomes profitable or considerably more profitable. The rise in stock prices fuelled by credit expansion creates capital gains left and right. Soon hordes of people appear to be rich, with more money available to invest than they had ever imagined, and in more profitable ways than they had ever known.

In the place of the serious visions of the few, that are initially financed on a shoestring and must prove themselves and finance their expansion by earning profits, come the pipe dreams of the many, launched with enormous sums. And as the new firms swarm into the latest investment fad-in one era, canal building; in another, railroad building; in a third, electric power-plant construction; in a fourth, radio; and, most recently, in our day, the "dot.coms" and the Internet-a host of observers is always on hand, in all eras, to trumpet the arrival of the "new era," or the "new economy," or the "new" something or other that allegedly explains why it has become all right to throw all rational principles of investing to the winds and to construct vast new facilities of a kind for which customers will not appear in sufficient numbers for another generation or more to make them profitable.

In the most recent bubble, after such pie-in-the-sky projections as that Internet traffic would double every hundred days were abandoned, it even became acceptable in some quarters to value stocks based on their multiple, not of profits, which did not exist, but of sales revenues. Many of the new "dot.coms" promulgated the concept of the "burn rate," by which they meant nothing more than how long it would take, while waiting for customers who never appeared, before their extravagant rates of expenditure exhausted the capital they had raised in their sales of stock to the public-a public many members of which believed that they knew something about investing because gains had showered down upon them and they had meanwhile learned to utter such impressive-sounding terms as "large caps," "small caps," and "medium caps."

This is the kind of investment (and investors) that credit expansion produces: massive malinvestments and the sheer waste of immense sums of capital. Most of the dot.coms are now largely worthless. The massive investment in telecommunications in connection with the projected growth in the Internet is now estimated to be worth between 3 and 10 cents on the dollar.

In addition to the losses sustained by the malinvestments financed by credit expansion, there is the fact that the additional profits based on a lengthening of processes of production cannot be sustained for very long in the absence of continued, and, indeed, accelerating credit expansion. Any stabilization in the extent to which production expenditures are devoted to years further in the future, must sooner or later eliminate the effect of the reduction in current costs, because the costs previously shifted to the future will become current as soon as that future arrives. And when they do become current, they will largely offset comparable deferrals of cost to the future at that point.

Thus, for example, even though outlays for equipment with a five-year life are going on instead of outlays for immediate expense, once there are five years of such outlays, annual depreciation cost will have risen to the same point as would have existed earlier for current cost on account of immediate expense items. And that depreciation cost will offset the effects of continuing production expenditures of a constant amount for equipment with a five-year life. At that point, the only extent to which there would be any lag in costs would be the extent to which production expenditures for assets of given lives tended to grow from year to year. The special effect on profits of a lengthening of processes of production would be over, unless somehow, they could be made to lengthen further.

A continual acceleration of credit expansion would make it possible both to go on with the effect on profits of a lengthening of the processes of production and, if it were rapid enough, even to avoid the appearance of losses from malinvestments. However, such a policy would be one of hyperinflation and would soon destroy the monetary unit. To prevent this from happening, the government slows or stops the credit expansion.

It may very well be that we have seen the low in the equities markets for 2002. This does not mean however that the bear market is over. This bear market must correct the biggest bubble in all of recorded financial history. It has, in our view, got a lot further to go.

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