Under What Circumstances Should You Worry That the Stock Market Is "too High"?: The Honest Broker for the Week of August 16, 2014
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Weekend Reading: Josh Brown and Jeff Macke: Joe Granville: The Man Who Moved Markets

NewImageFrom Josh Brown and Jeff Macke: Clash of the Financial Pundits:

Josh Brown and Jeff Macke: Chapter 7: The Man Who Moved Markets: "'There are clear lines separating those who swear by him and those who swear at him.' —LOUIS RUKEYSER ON JOE GRANVILLE...

...It is late in the evening on January 6, 1981, and telephones all over the country are starting to ring. Thirty employees of a Florida-based stock market newsletter business are making out-going calls to deliver a very simple, yet ominous, message to a few thousand subscribers across the nation:

This is a Granville Early Warning. Sell everything. Market top has been reached. Go short on stocks having sharpest advances since April. Click.

Early the next morning, just after the opening bell of trade rings on the New York Stock Exchange, the market gaps lower and sell orders continue to flood into the trading floor. The Dow drops a total of 24 points that day, or 2.5 percent, on historic volume of more than 93 million shares traded, more than double the daily average. The Dow then proceeds to drop another 1.5 percent the next day; a five-week sell-off is soon under way. Traders and business news reporters are pointing toward Joe Granville to explain the sudden, sharp drop in the stock market, and Granville is more than happy to be pointed at.

He tells a news camera from behind his desk in a Daytona Beach suburb that “the market told me, ‘Sell.’ And we do what the market tells us to; we never hedge. Only losers hedge.” Granville’s controversial “Sell everything” call had made instant history, and the debate over prescience versus self-fulfilling prophecy would rage as the losses of the week were tabulated all over America.

It was not the first time that “Calamity Joe” had influenced the price and direction of the market. On April 22, 1980, Granville told his subscribers that he was switching from short to long. Within hours, the Dow had rallied by more than 30 points, an intraday jump of over 4 percent for the U.S. stock market on no other news besides Joe’s bullishness.

To market observers of the time, it was both mystifying and terrifying—the age of the market-moving pundit had officially begun.

How was it possible that one “expert” out of so many could have this much power over the entire U.S. stock market—enough clout to literally will crashes and rallies into being with a few words? It certainly wasn’t the length of his track record, as Granville’s buy and sell calls had performed terribly throughout the secular bear market of the late 1960s and 1970s. Nor could it have been the size of his audience; he had just a thousand or so paying subscribers in the early days, nowhere near the 90,000 people receiving the Value Line Investment Survey or the Merrill Lynch Market Letter.

No, what Joe Granville had lacked in breadth and depth, he made up for with sheer personality and moxie. He had figured out the secret of all punditry, market or otherwise: certitude.

Granville had made a name for himself and rose above the legions of goldbug letters from would-be stock wizards by saying exactly what he thought at the top of his lungs. There was no hesitation and no waffling. He derided Wall Street’s traditional securities analysts as “bag holders” and referred to the Wall Street Journal as “The Bagholders’ News.” His nickname for Louis Rukeyser was “Crab Louie,” and he referred to Alan Greenspan as a “bespectacled prune.” In contrast to the buy-and-hold “losers,” Joe Granville gave subscribers specific instructions to go 100 percent long stocks or sell the market short with all their money. This was certitude writ large; he frequently made predictions for market moves greater than 10 percent in either direction.

The secret to Joe’s influence and rapid rise to the top of market punditry was the absolute resolution with which he foretold the future. It should come as no surprise that he was able to attract such a large following because people have been shown to prefer commentators with unwavering confidence over those who are more reserved and have actually gotten things right. The research shows that in the presence of someone speaking emphatically about events to come, people subconsciously shut off the part of their brain that reminds them this cannot actually be done.

So strong is our desire to know what’s coming, that a newsletter writer from Florida could come along and rock the New York Stock Exchange with a midnight phone call.

In the Spring 1982 issue of the Journal of Portfolio Management, the legendary early quantitative analyst Edward Thorpe posed the question, “Can Joe Granville Time the Market?” He then sought to answer it with two other analysts and a stack of Granville’s newsletters along with his full cooperation.

For Granville, this was a chance to test his intuition and skill at reading his 18 key market indicators, which had become the financial version of Colonel Sander’s secret blend of 11 herbs and spices. Could the Granville edge actually be verified and quantified? If it could, just imagine how much he could charge for his advisory service with actual scientific proof! And if the study could not con- clusively prove his timing ability, well, who the hell was going to read the Journal of Portfolio Management anyway?

Thorpe and the study’s coauthors met with Granville to discuss his indicators and methods. They then got to work testing Granville’s calls from the mid-1970s through the end of 1981.

Using “hypergeometric probability distributions” along with many other algebraic equations and ratios, the quants made a startling discovery—they simply could not dismiss Granville’s timing abilities out of hand (even though they go through great pains not to confirm them either).

Granville selected 446 of the 719 market days as up. If his predictions are better than chance, we would expect him to have a higher percentage of up days in his chosen set of 446 “up” days. In fact 57 percent of the days he called “up” actually were up. This is about 23 more than the number expected by chance. Is it significant? Given the number of up and down days in the period as a whole, it seems very unlikely that Granville’s “buy” periods would have contained so many up days by chance.

The authors of the study concluded that, while Granville may have had a small statistical edge on his Dow Jones buy and sell calls, some of the indicators he claimed to use could be shown to have no real predictive power. Further, they informed us that most of the stocks his newsletter included as specific buy and/or short-sell candidates had done much worse than the market. Last, we are reminded by the study that Granville had made many other predictions, such as the specific time and date of an earthquake in California, that never happened.

Regarding the earthquake prediction, Thorpe was not exaggerating. In the spring of 1981, Joe Granville was at the tail end of a three-hour appearance in front of a ballroom full of investors in Vancouver. He told the crowd that on April 10 the fault lines 23 miles east of Los Angeles would shear the state of California in half. He was said to have repeated this prediction at another event that week, warning that Phoenix, Arizona, was soon to become “beachfront property.” Joe delivered these jeremiads with immense conviction. “I follow 33 earthquake indicators. If you knew what I knew, you couldn’t keep quiet.”

Of course, no such thing ended up occurring, but Joe was making so many predictions about so many things at this point that it almost didn’t matter.

Thanks to his big sell call in January 1981, his fame as a Nostradamus of the markets had swelled the ranks of his newsletter subscription base and turned his speaking appearances into standing room–only events everywhere he went. Estimates put his annual income during this time at more than $6 million—the equivalent of $16 million in today’s dollars, about what a star NFL quarterback makes. Granville’s company was taking in $250 per year for each of his 20,000 newsletter subscribers and another $500 apiece for the roughly 3,000 subscribers to his telephone “early warning system” that had so notoriously tanked the market at the beginning of the year. There were cassette tapes for sale with trading lessons on them, and Granville claimed that each public appearance he made during his 150,000-miles-per-year trek could make his firm up to $100,000 in fees and new sign-ups.

His appearances and events were becoming a cross between the circus coming to town and a revival show tent complete with feats and miracles. The more outrageous Granville’s antics and observations, the more people were willing to pay for them. Professor Robert Shiller describes these increasingly wacky shenanigans in his book Irrational Exuberance:

Granville’s behavior easily attracted public attention. His investment seminars were bizarre extravaganzas, sometimes featuring a trained chimpanzee who could play Granville’s theme song, “The Bagholder’s Blues,” on a piano. He once showed up at an investment seminar dressed as Moses, wearing a crown and carrying tablets. Granville made extravagant claims for his forecasting ability. He said he could forecast earthquakes and once claimed to have predicted six of the past seven major world quakes. He was quoted by TIME magazine as saying, “I don’t think that I will ever make a serious mistake in the stock market for the rest of my life,” and he predicted he would win the Nobel Prize in economics.

With his eldest son, Blanchard, managing the newsletter firm day to day and fleshing out dad’s utterances with legitimate technical analysis for the weekly missives, Joe Granville was free to run from one end of the country to the other with his exciting hybrid of market commentary and showmanship. Brokerage firms would set up and sponsor events for their customers, and Granville would show up and blow the roof off the place.

Kristin McMurran had profiled the market seer for People Magazine that year and made note of some of his more outrageous entrances. In Alaska he showed up for a speaking engagement driving a dogsled. In Tucson he walked across a swimming pool on a camouflaged board and then deadpanned to the crowd, “Now you know.” There were high-wire flying entrances, tuxedos with blinking-light bowties, exploding hand grenades, child singing sensations, animal sidekicks, and all other manner of costumes and contraptions. Granville once emerged from a coffin to let an audience know that the bull market was dead.

Off the stage, he was every bit as wild as he was during his day job. McMurran’s article captured the man behind the market prognostication:

In conversation, Granville is a fountain of dates, facts and figures. Every other sentence is punctuated with “boom”—as in “Truth is Truth. Boom.” Though he has lately become wealthy, he still spends seven and a half months a year on the road, bunking in hotels and living out of a tattered suitcase. Separated from his second wife since 1971—their divorce became final last year—he chain-smokes Marlboros, tosses back Margaritas, and disco-dances until dawn. In the company of old or new pals, he unwinds by playing poker or trading purple jokes. With women, whom he often calls “Frisbees,” he is forever playing the ladies’ man. At a restaurant, he may greet a waitress by chortling expansively, “Do you know who I am, honey?” She rarely does, but often delivers her phone number with his brandy. Says Joe: “Women are interested in men who can make them rich. Boom.”

It is important to remember that the ascendancy was taking place after 15 years of moribund stock returns and right around the time that BusinessWeek had famously declared “The Death of Equities” on its now infamous August 1979 cover. A brutal bear market had worn out a generation of investors since the market’s 1966 peak, accompanied by stagflation, the loss of the Vietnam War, the troubled Nixon and Ford administrations, and the assassination of John Lennon. By 1981, the financial markets needed a hero, someone who could bring humor and a sense of adventure back to the game. Joe Granville’s provocative persona was just what the doctor had ordered. While the Wall Street establishment despised him, the public ate it up.

A brilliant and all-but-forgotten analyst named James Alphier took it upon himself to analyze the great market timers throughout history, and he called his 1981 paper “Granville in Perspective.” Alphier dissected the records of the so-called Forecasting Giants of the Past to see whether or not any market analyst could consistently maintain forecasting accuracy over extended periods of time. He began with a question: “How often has an analyst, whose research is publicly available, been able to do something like this in the past?”

The so-called giants in Alphier’s paper included George Lindsay, whose “repeating time interval” work was able to produce a decade’s worth of top and bottom calls, complete with specific dates and price levels. Alphier analyzed 30 years’ worth of accurate bull and bear market calls from Edson Gould, who had been calling the beginnings and ends of major market trends with shocking accuracy since the early 1950s. Alphier also reconstructed the unparalleled predictive work of Major L.L.B. Angus, who had correctly forecast the market’s 1920s boom, its peak in 1929, and its low in 1932.

Alphier’s conclusion upon studying these giants as well as a great many pretenders was that with only a handful of exceptions, great timers could only remain accurate for a run of between three and five years. He notes:

For periods of as little as four years, there have been many analysts who have been able to (1) forecast the major market averages, (2) nearly coincide with the extreme high or low, and (3) do this on the significant swings. In these, and most other cases we could cite, there is a tendency after three to five years of near perfect forecasting for the analyst to make one or more major errors. We will not recount the many painful examples of this in our files.

The bad news for Joe Granville was that, by the time Alphier’s 1981 paper was published, his massive winning streak was already passing through the midpoint of this three- to five-year time frame that had begun with a bull call at the market’s low in 1978.

Following his amazing run of nailing all four major market turns through the first quarter of 1981, Granville’s track record had begun to suffer. Whether it was hubris that had done him in or too much time spent teaching the chimp to play his theme song on piano, one thing was clear: the magician was losing his touch.

The U.S. stock market would hit its final low for the 16-year secular bear market cycle in August 1982. Then–Federal Reserve chairman Paul Volcker had finally tamed inflation (running at a rate of 7 percent that year but dropping), and stocks were selling at a highly depressed price-earnings ratio of under 10. Unemployment had peaked, as had apathy toward investing, and all of a sudden, the market had just taken off. Joe Granville, whose novelty and fame had been partly responsible for the public’s renewed attention to stocks, had ironically missed the effect he was having on the markets. People were coming back to the game, and a major rally was under way.

“Sell it short” was what Granville’s letter had been saying all summer, and the rally hadn’t shaken him from his position. By this time, his tens of thousands of subscribers and acolytes had been getting pummeled by the relentless tape as they were either miss- ing the move or, worse, actively betting against it.

By the fall of 1982, the stock market had staged one of its most explosive rallies of all time. From the lows of August through November, the Dow Jones Industrial Average had advanced by more than 275 points, or 35 percent, to a new 10-year high. For the bears, this new change in character was excruciatingly painful. It was the beginning of a new secular bull market, but many market timers, analysts, and economists were simply unprepared for it.

As for Joe Granville, he was off the lecture circuit and had been steadily reducing his public profile all year. The home office was telling reporters that he was quietly working on a new book at his home in Kansas City. Granville’s adamantly bearish stance had cost his remaining 13,000 subscribers a fortune, and the stockbrokers across the country who had been running their clients’ money based on his forecasts were either despondent or furious.

During his win streak, Granville had been relentlessly disdainful of Wall Street and the brokerage industry, calling them losers, thieves, and idiots at every opportunity. And now it was Wall Street’s turn to respond in kind.

The schadenfreude was thick in an October wire story by the Los Angeles Times that had been picked up by newspapers all over America. Under the headline “Tarnished Idol,” Granville’s losing record for the year had been laid bare, accompanied by quotes from the era’s most prominent market watchers. Ned Davis, a fellow technical analyst whose research firm was also based in Florida, told the paper that “I think his basic system is sound, but I don’t care what kind of system you build, it’s going to fail sooner or later. I think [Granville’s problem] has to do with ego. He says he listens to the market. Truthfully, I think he thinks he’s smarter than the market.” As to the chances of a Granville comeback, Davis wasn’t optimistic. “No brokerage is going to sponsor a guy who has been bearish for 18 months.”

Famed analyst Larry Wachtel was equally critical of both Granville and his subscribers, saying, “I don’t see really how he can crawl out of this. The lesson for those getting crucified on the short side is don’t follow anybody without thinking things through yourself.”

The Dow Theory Letter’s Richard Russell summed it up nicely, saying, “The moral of the whole thing is there are no geniuses on Wall Street. There are just people who are excellent for a while.”

To echo the closing coda to Billy Joel’s “Miami 2017,” in the case of Joe Granville, there are not many who remember. The majority of Granville’s newsletters have not made it onto the web, and in the 1970s and 1980s, we didn’t quite have the wall-to-wall coverage of the markets that we do today. But what is clear from the archival magazine stories and newspaper articles of that era is that the man who once moved the markets with his predictions would never recover from missing the flop from bear market to bull. The markets would rise relentlessly for the next 18 years with only sporadic corrections that were swiftly dispatched by the stock-hungry hordes. Even the crash of 1987, a jarring event at the time, hardly shows up on a monthly chart of the 1982–2000 bull market, and once inflation settled down for good under Clinton, multiples began expanding more rapidly.

In this context, no one had much use for market timers or perma-bears calling tops. Every dip was a buying opportunity, and guys like Granville were occasionally ridiculed but mostly ignored.

Granville would surface in the popular press occasionally in the three decades since his heyday, and the success rate of his predictions was as inconsistent as ever it had been. In May 2002 he told BusinessWeek that the market’s top was in as of March. When asked by the reporter what investors should do, Granville replied:

They should be short. All my people are short, betting on the downside. My last call was when I gave a bear selling signal right on Mar. 19, at 10,635 in the Dow. The outlook is getting increasingly worse. When I look at the market as a whole, I look at it as an army, with the generals and the troops. And it’s very, very disturbing to the troops when you see a number of key stocks—the generals—such as General Electric, IBM and Merrill Lynch leaving the line and retreating. On top of that, smart people have been leaving the market all this year.

Now, of course, March 2002 turned out to have been the very end of the bear market that had begun with the tech bust; stocks would go on an uninterrupted tear for the next five years from that interview. And while Granville was correctly bullish about the prospects for gold beginning a new bull market, he was wrongly bearish on U.S. stocks and particularly tech stocks, which would go on to stage a tremendous recovery from then.

Ten years later, at age 89, Joe Granville would make headlines again. This time, he makes a January 2012 appearance on Bloomberg Television in which he predicts a 4,000-point crash for the Dow Jones to occur at some point during 2012. No such thing happens. The Dow Jones Industrial Average ends up logging its fourth straight positive year in 2012, a gain of almost 900 points, or 7 percent, with virtually zero volatility to speak of.

Mark Hulbert, a MarketWatch columnist, has been tracking newsletter recommendations since 1980. In 2005, he took a look back and assembled a ranking of all the newsletter prophets he’d been following. According to Hulbert’s analysis, Granville’s letter was at the bottom of the rankings for performance over the past 25 years, “having produced average losses of more than 20 percent per year on an annualized basis.”

On September 7, 2013, Joe Granville passed away at Saint Luke’s Hospice House in Kansas City, Missouri; his third wife, Karen, was by his side. He was 90 years old and had, by then, really and truly seen it all.

Several generations of oracles and wizards have come and gone since those early days of crash calls and faxed financial bom- bast. Very few of those who have followed in Granville’s footsteps have been able to attain his level of market-moving influence or headline-grabbing flamboyance. All of them have eventually failed to hang on to their temporary relevance.

Joe Granville’s failure to accurately forecast securities prices is not a personal failing of his—it speaks to the inability of any sys- tem or human being (or combination thereof) to do this kind of thing with any meaningful consistency. Markets are, as Michael Mauboussin notes in his book The Success Equation, “a complex adaptive system” being acted upon by millions of individuals who do not behave according to any predetermined set of rationales or rules. This plain and simple fact is what condemns all market tim- ers to inevitable failure, regardless of the depth of their experience or the calibration of their indicators.

And when elaborate stage shows and a rock star mentality begin to enter into the equation, you can pretty much hang up your spurs right then and there.

Because that’s when the ride is over.