Bears are becoming harder to ignore

Tom Petruno:
Market Beat

Bears are becoming harder to ignore
November 24 2007

Peter Schiff and David Tice don't do what they do for the love it gets them.

They are two of the most bearish investment professionals in America. Their outlook for the U.S. economy and stock market is beyond grim.

Schiff, who heads brokerage Euro Pacific Capital in Darien, Conn., sees the dollar and stock market collapsing and the value of American per-capita economic output falling below that of Greece.

Tice, who manages the Prudent Bear mutual fund in Dallas, likewise predicts that U.S. markets will crumble and says the economy could face something akin to the Great Depression.

Of course, forecasts like these aren't the way to make a lot of friends in this country, let alone on Wall Street. Some would call being bearish on America unpatriotic, even treasonous.

And that means many investors long have automatically tuned out the likes of Schiff and Tice. Besides, the doomsayers have been wrong forever, haven't they?

Yet this year, with the debacle in housing and its toxic fallout in markets and in the financial system, the bears' warnings about the future may no longer seem quite so far-fetched. The risks to U.S. prosperity have risen markedly -- even many stock market bulls will admit that much today.

Schiff, 44, and Tice, 53, have no connection except for their outspoken pessimism about where the U.S. is headed.

They share the same basic thesis: America is facing its comeuppance for 25 years of borrowing and spending, saving little and relying increasingly on foreign capital to support its standard of living.

Now, the bursting of the housing market bubble, the surge in mortgage defaults and the plunge in the dollar have exposed what Schiff and Tice believe are serious structural weaknesses in the U.S. economy.

"Our economy is going to be a mess at the end of this," Schiff says. "Our assets are going to get very cheap."

His tactic for preserving his clients' wealth, he says, is to send it all abroad. He hunts for dividend-paying stocks of large foreign companies that are focused on their home markets -- names such as Swiss telecom giant Swisscom and the parent firm of Hong Kong utility China Light & Power Co.

In theory, Schiff's strategy will protect the purchasing power of the money if the dollar follows his script and continues to melt down.

A former Shearson Lehman broker, Schiff went into the business for himself in the mid-1990s in Southern California and moved East in 2004.

He concedes he was too early with his overseas-only stock strategy in the late 1990s.

With the dollar's slide since 2002, however, foreign stocks have been spectacular performers for U.S. investors. Schiff says his firm's client base has grown to more than 8,000 individuals with a total of $1 billion in assets. He and his brokers make money off the commission income from the trades they make, he says.

The idea of global portfolio diversification is one that many people have taken to heart in the last few years. Month after month, the lion's share of Americans' net new investment in stock mutual funds goes to foreign portfolios, not domestic.

Even so, most U.S. investors aren't abandoning their domestic holdings. That's where Schiff's acerbic views diverge from the mainstream.

The common perception is that the rest of the world needs the U.S. economy as a growth engine. Schiff says that is outdated thinking, given the rise of emerging-market economies such as China, India, Russia and Brazil. Because of America's heavy borrowing needs, "We're a burden on the rest of the world," he asserts.

"China is not export-dependent," he says. "They're exporting because Americans are consuming." Ultimately, Schiff says, "the Chinese are going to buy more of their own products." As their consumption rises and their savings rate falls, "they're not going to lend to us anymore."

If foreigners stopped exporting so much of their capital to the U.S., Schiff says, "they'd have more to spend themselves. And there are a lot more of them than there are of us."

One potential flaw in his strategy, however, is that a U.S. market and economic crash could drag the entire planet into recession or depression. Schiff thinks the rest of the world can overcome an American economic decline, though he says that, initially, foreign stock markets probably would fall along with Wall Street.

Tice's survival scheme for the U.S. economic and stock market downturn he foresees is to go "short": borrowing stock and selling it, betting the price will fall. If a short bet is correct, the seller eventually can repurchase the stock for less than the sale price and pocket the difference.

Tice has been a well-known short seller since the mid-1990s via his Prudent Bear fund. He earned hefty returns in the bear market of 2000 to 2002. But the bull market since 2002 has made life tough for short sellers: They can lose big if the stocks they're targeting rise instead of fall.

This year, Tice's $800-million fund is raking it in again. The portfolio is up about 15% year to date, compared with a 4.2% rise for the average U.S. stock fund. Tice has shorted stocks such as Starbucks Corp. and Harley-Davidson Inc. as well as many banking issues, he says.

He believes the American consumer is tapped out. "Real estate is just imploding," Tice says. Hundreds of billions of dollars in home equity have been pulled out in recent years to support Americans' spending, he notes. That binge now is over.

"The consumer looks like he's dying a slow death," Tice says. He expects that to lead the economy into a morass that will feed on itself.

"This is the big one," he says.

Wishful thinking on the part of someone who stands to lose a lot if the stock market zooms anew? Maybe. If money exits his mutual fund, Tice's management-fee income will dive.

Tice has two daughters, ages 18 and 21. He admits they don't share his dismal view of the future. "They say, 'It can't be that bad,' " he says. "They think we'll muddle through."

The majority of Americans probably share that sentiment. The U.S. economy is, after all, very dynamic. We may well look back on this period in a few years and marvel at how well it all worked out.

And even if the bears' darkest predictions come true, the performance of your investment portfolio may be the least of your worries. The more important question may be whether you have stored enough canned food and ammo.

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