The Dow Theory Letters' Richard Russell on Stock Values

Friday morning presented one of those very special moments that I will treasure for the rest of my life. The occasion was my first one-on-one discussion with the legendary Richard Russell (having only met in groups previously). I am visiting La Jolla, San Diego to attend my partner John Mauldin’s annual investment conference and couldn’t let the opportunity pass by to look up the 84-year old author of the Dow Theory Letters in his office in La Jolla Village.

Mr. Russell hardly ever takes appointments, but I had the perfect excuse: I have just acquired a copy of the first edition of his book “The Dow Theory Today,” that was first published in 1961, and he kindly consented to autograph the book.

Images of the cover and the autographed (and personalized!) page are shown below.

click to enlarge

This was a truly memorable encounter as I have been subscribing to the Dow Theory Letters (which have been published since 1957) for the past 25 years, and I consider Mr Russell as my mentor (albeit not in person), in the common-sense faculty of investment.

We shared a few stories as I was sitting next to him in front of the computer screen on which Friday’s newsletter was taking shape. Although the visit was brief, and we did not get to discuss markets in any detail, I thought a few paragraphs from Monday’s Dow Theory Letters would provide readers with an apt summary of how Mr Russell sees the outlook for the stock market at this point in time.

Question: Russell, please answer this, at the January 2008 lows, stock values never came close to what we expect at a primary bear market bottom. What do you make of that?

Answer: I’ve thought about this situation, just as I thought about this same situation at the October 2002 lows. My answer is the following – neither October 2002 nor January 2008 represented a major or primary bear market bottom. Both, I believe, were important secondary or cyclical correction-bottoms within a continuing primary bull market. I see no other explanation. Remember, one of the most important Dow Theory concepts is that bear markets end with stocks at great values. Stocks were not great values in the classic sense at October 2002 or January 2008.

Question: Wait, Russell, whoa – are you telling me that we’ve been in a primary bull market ever since the early 1980s, and that we’re still in that same primary bull market?

Answer: That’s correct. That’s what I’m saying. Somewhere ahead we’re finally going to enter a true primary bear market, maybe one of the greatest and most tragic in history. That future bear market will end with something we haven’t seen since the 1980 to 1982 period, and I’m talking about great values in stocks. And when I say great values I’m talking about blue-chip stocks selling in single-digit price/earnings ratios while at the same time providing dividend yields of 6-7-8%, the kind of yields we last saw at the lows of the early 1980s.

Question: What do you think could bring stocks down to those levels? What might the market be discounting?

Answer: Here I’m only guessing, but I think it could be the dollar losing its reserve currency status. If that happens, the US would no longer possess the incredible and singular privilege of printing the same money in which it is indebted. In other words, the dollar would no longer be accepted by the rest of the world as the reserve currency. And the US could no longer print itself into solvency.

Question: Russell, to get back to your previous statement, you said that we are still in a primary bull market – the same one that started from the lows of the early 1980s. If that’s correct, if we’re still in a bull market, then almost by definition shouldn’t we see new highs in the major stock averages somewhere ahead?

Answer: Strange, almost impossible as that may seem, yes I think there’s a definite chance that somewhere between 2008 and 2010 we will see new highs in the major Averages. The stock market occasionally does the totally unexpected, and you can put ‘new highs’ in the major stock averages on that list.

Consider the following – pessimism has now enveloped almost the entire nation. Estimates of home foreclosures are running into the millions of units. The American consumer is buried in debt and stranded with little or no savings. Manufacturing is slowing down in the US. Leading analysts are competing with each other with bearish forecasts. People are calling the Fed impotent or even helpless in the face of the enormity of the problems we face. On top of everything else, the unfunded liabilities in Medicare and Social Security are running into the multi-trillions of dollars. The presidential candidates do not even want to talk about the nation’s potential liabilities. And on top of everything else, we’re mired in one of the longest and most expensive wars in US history.

Yet slowly, almost imperceptibly, the major stock averages have been building huge bases. Since January 22, the majority of stocks have stopped going down – in fact, they’ve been rising.

In the face of these improving market conditions, the short interest on the NYSE continues to build. The latest statistics, covering the latest two-week period to March 31, show that the short interest on the NYSE has risen to an all-time record high of 16.142 million shares sold short. If I’m correct, if we have concluded a correction in an ongoing bull market, then this is an explosive situation with a record number of shorts locked in on the wrong side of the market. As the market slowly builds strength, these shorts will be forced to cover.

Question: Russell, what kind of fundamentals would you expect to accompany a resumption of the primary bull market?

Answer: An incredible amount of fiat paper (currencies) is being injected into the world markets. There’s also a mind-numbing amount of currency on the sidelines. There is more than $3.5 trillion parked in money market funds in the US. Trillions of dollars are now lodged in the so-called sovereign wealth funds. Arab coffers are bulging with dollars waiting to be spent. I’ve yet to see a figure covering all the currencies that are parked in banks, equity funds, mutual funds, pension funds, and in private hands. The sum total must be almost beyond belief.

Ironically, the longer this recession or whatever you want to call it lasts, the more money will be pumped into both the US and the world economies. Here in the US it now requires over five dollars in debt to generate one dollar of GDP. The creation of new money is massive, with the Fed and world central banks running the printing presses overtime as they seek to ward off recession and bring back prosperity.

Once it is recognized that we are in a bull market and that the market is headed considerably higher, a goodly percentage of this money is going to pour into the various stock markets of the world. The result should be a bull market speculative phase of epic proportions.

And that, according to the venerable R man, is the lie of the investment land.

Just a last thought: I paid $295 for the first edition book in 2008 compared to its original price of $3.95 in 1961. Any chance of another 47 years of a compound growth rate of 9.6%? But, then again, I am now the proud owner of a priceless item that, as a result of its author’s special place in my life, is not quantifiable in terms of money.

Comments

[jjason]

Thanks for the article. I hope he is right about the coming short covering rally.

[Adan]

if we get a merging of some of mr russell's predictions above, and elliott wave's contemplation of a counter trend move up, it would finish off my poor attempts at trying to understand this new (to me) field, the market - or is that (the market) us, anyway? :-)

[vaduz]

i find that too optimistic given the ongoing recession

[Roger Beep]

Hi Prieur,

If the dollar looses its reserve currency status the Euro will become the world's base currency. Would you propose that one sell long positions and go to all cash sometime prior to that event? How can one determine this unlikely event on a forward looking basis and ride out the pending storm?

[nukldrager]

Great article. Can anyone say what impact globalization has had on Dow Theory? From a neophytes point of view, to read an opinion that say's we've been in and are still in a bull market since the 1980's, also the definition of the end of a bear market, and that the basic forces naturally asserted on money will force money back into the markets, well... it's very interesting.

[deuxsous]

vaduz....it seems probable that first quarter US GDP will be positive once it is totalled up, and we're only two weeks out of first quarter. EVERYONE wanted to the the first person to anounce a recession, but we aren't in one yet on a nation-wide basis. Bonds and stocks have forecasted a recession for a year, but stocks are starting to have "second thoughts".

[Pobrito]

As good as Mr. Russell's book is, it is not "priceless". For as you state a first edition can be had for $295.

And while not central to your article, it is interesting how often one selectively ignores the impact of inflation. If one were to take that into account, then in constant 1961 dollars the value of the book has risen from $3.95 to about $54 - a real return of about 5.6% after inflation.

Just a pet peeve of mine when discussing returns but ignoring inflation. If financial writers more religiously factored in inflation into their calculations, the general public would become more cognizant of what an insidious "tax" inflation is and how poorly our central banks have done their job.

That said, thanks for sharing the interview! Russell is quite a legend.

[authentic]

Legend or not, I for one do not buy the Dow theory.

[d_teller]

"the LIE of the investment land" = Lapsis linguis, et caveat investor!

[market skeptic]

Mr Russell, though he did call some great turns in the 70s and 80s, has not been flawless recently. He was generally bearish during the 03-07 rally, and threw in the towel right before May 07, saying we were on the cusp of "unprecented boom times". Then the markets began to turn...the other way.

I have not looked at all of the stocks on the NYSE, but the Dow and the S&P has already breached their Jan 22 cyclical bottoms to the downside. The rebound failed to breach the last cyclical top of late February. Looks to me more like the next cyclical leg down in the primary bear market that started in 2000...

[Pangaea]

Well, this chart has been pretty informative to me:

100 Year Dow Jones Industrials Chart
bigpicture.typepad.com/comments/2005/12/...

[Moby Waller]

I personally think the great 1980 -1990s bull market in U.S. stocks ended in 2001ish. We began a new bull market for many commodities and futures around that time, similar to the 1970s. If you look at the NASDAQ chart from 1980 to present vs the NIKKEI chart, we appear to be in the midst of a long-term sideways trading range for that index, and we will likely not reach the 2001 highs any time soon, just as the NIKKEI has not approached its 1989 highs.

The great financial boom of baby boomers funding 401ks, buying 2nd homes, etc, is slowing down, demographics are not on our side. I think the U.S. is heading towards being similar to Europe ... somewhat old, stodgy, bureaucratic, but still wealthy. China clearly has demographics on its side. The main factors that may change the big picture equation in the future are the continuing immigrantization/Hispanicization of America (which I view as positive for our economic growth), and if the world can somehow reduce its dependence on oil.

[User 134217]

Okay, okay, I get your attachment to this book; I'll give you 10X the original price for it (you can do your own compound return).
Well done, btw.