47042144-Armstrong-Michael-The-Greatest-Bull-Market-In-History-The-Great-Recession-573p.pdf

Many stories have been written about thethe famous Stock Market Crash of 1929, butI am aware of none that have delved intothe bull market beyond the last few monthsbefore the crash. Countless people havebeen fascinated with the crash and havemade all sorts of false assumptions that thespeculative fever was intensified by marginswhich are only 1O%. That statement iscompletely false and, in fact, many stockswere not available on margin at all. Otherspaint the picture that a vast portion of thepopulation was involved, right down to shoeshine boys. Again, we will see that this wasa gross exaggeration. One book, "The DayThe Bubble Burst," is an excellent account-ing of the social impact of those tryingtimes. The cast of characters is unsurpassedand provides a look into the private lives ofsome of the people who were the biggestplayers.

But from an analytical perspective, theatmosphere that surrounded the market atthat time is a very important area to ex-plore. Far too often, economists and marketanalysts assume that such catastrophes arefreaks in the marketplace and that they willnever happen again. Others try to inject thefamous Kondratieff cycle into the stockmarket and proclaim that the end is near.Some have been calling for a devastatingcollapse ever since 1982 and each year theycrawl out from under their rocks to pro-claim that this is the year that the marketwill collapse to 10 cents on the dollar as thatinfamous month of October approaches.

Other hard-money advocates beat theirchests, warning that everyone must buy goldand claiming that this deflationary wave in

the 1980s is only the beginning of a situationsimilar to that which took place in 1929.But they should go back in history and un-derstand what took place. If they look at asimple chart they would see that the col-lapse from 381 to 40 points on the DowIndustrials took place in the span of threeshort years. Such disasters have alwayscome without warning and the process hasnever dragged out over a period of four tosix years. Normally the pain has always beenswift and to the point and panics are justthat, panics which take their toll in thecourse of one to three years.

It is a widely known fact that nearly 90%of money managers have been unable tobeat the Dow or the S&P in performance.It is always easy for someone on the outsideto look in and criticize a money manager forhis performance. When it comes right downto it, most managers are damned if they doout-perform by critics who say they havebeen too aggressive. If they perform lessthan the Indexes their critics say that if theyhad just bought the Dow stocks they wouldhave been ahead of the game.

Trading any market is difficult to say thevery least. Judging someones performanceon the surface tells little about his system orhis analysis. For example, take two mana-gers who both made money on the stockmarket rally between September 1985 andApril 1986. One bought the market becausehe felt that the economy was going to heatup and he realizes that inflation brings withit growth for many industries. The othermanager bought the market because hethought there was going to be a discountrate cut. Both may have made money, but

INTRODUCTION

The Greatest Bull Market In History

1

the gains were based on two totally differ-ent fundamental principles.

The difference between the two managersmay eventually show up only when the fun-damental long-term ideas of one trader orthe other prove to be wrong. Then one willcontinue to make money and the other willsuddenly become a net loser. The loser willchase t he marke t , ine vi tab ly get t ingchopped up back and forth while the otherwill consistently do well if his long-termconcepts remain in the proper perspective.

Therefore, we find that trading managerscome and go not merely for small privateaccounts, but for the big institutions as well.People have a tendency to judge managerson a short-term basis and many scrutinizeeach and every trade, when, in fact, it is thelong-term that counts the most.

The short-term trading or analysis of thestock market has always been the worst.Sure, some analysts have done quite wellcalling the market for short-term moves,but eventually it turns out to be periodicand lacks consistency. The long-term issomething that most people vacillate over,switching their opinions on a short-termbasis from bullish to bearish. How can aninvestor achieve consistency, or at leastmake sure that if he misses a short-termmove, he is not caught on the wrong side ofWall Street?

If you want to know what the future holds,you need a map of the past to at least pro-vide a guide as to what is or is not possible.Far too many people fail to look at theevents of the past as a whole, but single outonly an isolated period to support an un-warranted assumption to arrive at a fore-gone conclusion.

While some argue that 1929 is knockingat our door, others laugh insisting that suchevents are not possible in this day and age.Economists, in their efforts to support theirbiased Keynesian conclusions, attack theprotectionism acts as the cause of the GreatDepression. Others blame the massive col-lapse on the over-speculation that pre-ceded it. In all, most accounts are totallyinaccurate and others lack the details of thereal events during that era because theyhave merely skimmed the surface.

On the contrary, the events which tookplace between 1921 and 1929 are very im-portant. The fundamentals in many areasare the same as we see today and there areundoubtedly many parallels between thepast and the present. However, was theblame for the Great Depression justifiablyput on the stock market? In fact, is the stockmarket the almighty leading indicator tothe economy as it was believed then and asit is still perceived today? Should we belistening to the "warnings" of impendingdisaster or are we on the verge of a new erawhere the Dow industrials will soar to 3500or beyond? How does one get a feeling forwhat the future holds? Should we wait andwatch for moves in the discount rate? Doesthe first up tick in interest rates mean dis-aster cannot be avoided?

One of the best ways to get a grip on thesituation is to clearly define what the mar-ket has done under what conditions. Analy-sis is supposedly the art of taking a knownrelationship or a proven technical methodfrom past performance and projecting whatthe future performance may be. If this is theonly means by which we can objectivelytake a shot at the future, then perhaps it isbest to sort out those fundamental relation-ships and make certain that the stock mar-ke t d oe s r e a ct in t h e m a nne r t ha t


2

"generally" accepted beliefs would have usassume.

One huge problem for most people is anunderstanding of just which fundamentalstruly move the market. At times you findanalysts cheering for deflation and lowerinterest rates, which, in their minds, willentice people to buy stocks. But just thinkabout it for one minute. If deflation is thesituation and the economy cools down,doesnt business in general also cool off,thereby reducing corporate income?

The generally accepted relationship of thestock market to interest rates has beenh igher r ates mean lower stocks. Thethought behind this is that higher rates in-crease the cost of margin. Accordingly,people will buy fewer stocks and thereforestocks must go down. The emphasis hasbeen placed upon the speculation and notthe true economic impact. During the early1920s prior to the crash, the generally ac-cepted fundamental relationship was thatstocks rise with higher rates and declinewith lower rates.

It is true that interest rates collapsed be-tween 1929 and 1932 along with the market.Interest rates collapsed from 1919 to 1921and so did all commodities and stocks aswell. Each depression had been marked bya decline in interest rates and each bullmarket took place when business expandedand borrowed more to fund their expandedlevels of business. It is true that interestrates bottomed in 1976 and rose into 1981while the stock market held the 1974 lowand moved up with the inflationary cycleinto 1981, peaking only slightly ahead ofinterest rates. There was no direct relation-ship to the contrary.

So what is the answer? Does the marketrally with lower rates all the time? Obvi-

ously not! So under what conditions will thestock market rally when higher rates exist?This is just one vital question that needs tobe answered.

The past has a tremendous amount ofknowledge to offer if one merely takes thetime to study what took place. For example,did you realize that foreign loans were alsoa major concern in the 1920s? Did you alsorealize that the economy has always ex-panded only during inflationary times andnever during periods of deflation? But thenwhy do most people say that the stock mar-ket doesnt do very well against inflation iftrue industrial expansion takes place duringinflationary periods? Is the stock marketoverbought because it stands at its all-timehighs or is it in fact the best buy in 50 years?What about all the takeovers? Is that goodor bad for the market? There was a tremen-dous number of takeovers and mergers be-tween 1927 and 1929 just before the crash.Does that parallel mean it is a warning ofimpending disaster?

Many people are trying to forewarn of amassive collapse in the stock market. Oth-ers say it will remain bullish as long as inter-est rates decline. Still others have honestlyprojected that interest rates will continue todrop into 1989 and the Dow will reach inthe "thousands." A few doom and gloomguys crawl out from under their rocks everyyear to proclaim that October will collapsejust like 1929. Widows and orphans will becast into the streets and suicides will be-come a common everyday event on yourlocal street corner. Earthquakes will strikeWall Street itself and man will be punishedfor being so presumptuous as to have evertaken the Dow above 1,000 in the firstplace.

Well perhaps if those people (who are justoutright mad at the rest of the world for


3

making any profits when they have beenshort every step of the way up) keep crawl-ing out every year, one of these days theymay be right during that fatal October. Butperhaps they should go back and read thenewspapers from 1869. Then it was Sep-tember 24, 1869 which became known as"Black Friday." So maybe they had betterhedge their bets and not let everything rideon October every year. And those peoplewho foolishly think that interest rates willcontinue to ease beyond 1986 had betterread each page of this report twice andcommit it to memory!

Is the Dow really in lofty heights? Howdoes one measure such territory wherecharts have never before dared to enter? Alittle exercise in comparisons might shedsome light on the subject. But then again, itmight not mean anything at all. Neverthe-less, its certainly worth exploring.

The Dow Jones Industrials reached a peakof 381.44 in September of 1929. The CPIstood at 51.3. In 1985, when the Dow hit a

new high in July, the CPI stood at 322.8. Ifwe adjust the 1929 high for inflation, we findthat the 1929 high in 1985 terms would be6,064. The CPI has increased 629% since1929. Boy, talk about being a poor invest-ment over the long haul!

Just for the hell of it, lets see how the Dowheld up to the expansion in the money sup-ply. Money supply (M1) stood at $26.5 bil-lion in 1929 compared to $595.8 billion in1985. That comes out to be a 2,248% in-crease. If the Dow had appreciated in com-parison to the growth in money it should be8,574.77! Well, so its lagging a little, bigdeal.

How about a comparison of the Dow topublic debt? In 1929, the public debt stoodat $16.9 billion and in 1985 it has grown upquite impressively to $1.823 trillion, whichworks out to be a 10,787% increase. Obvi-ously, if the Dow had kept up with govern-ment spending it should be 41,145. Boy thatcertainly makes 2,500 seem awfully cheap.


4

Well, these comparisons might be therevelation of a lifetime, but then again putthem alongside a dollar and they just mightbuy you a $1 cup of coffee around WallStreet these days.

Is there something in this world which onecan measure anything against to render afair comparison of worth from one day toanother? Ever since we abandoned the goldstandard and moved on to this politicallybacked paper monetary standard, compari-sons seem to be far more difficult to comeup with. There is a huge imbalance fromwhat everything used to be and where itnow stands.

Since we are looking at industrial stocks,perhaps we should use the GNP to comparetheir performance with the production ex-pansion to which these companies contrib-uted. G NP, expressed in constant 1972dollars, stood at $103 billion in 1929. In1985, it stood at $1,671.6 billion ($3.8 tril-lion in current dollars). Therefore, in con-stant terms GNP had grown 1621% since

1929. The Dow would have to stand at 6,183in order to maintain parity with the GNP.

Quite frankly, trying to find somethingagainst which the Dow has performed ap-preciably better is simply not so easy. If wecompare the price of gold to the Dow, wefind that in 1929 gold was $20 and in 1985at the end of July, when the Dow hadreached its new high, gold closed the monthat $327.10 on spot in New York. This is again of 1635.5%, while the Dow from the1929 peak to the July 1985 peak had appre-ciated only 361%. The truth of the matter isthat the only thing I was able to find thatlagged behind the Dow was the increase inthe civil labor force, which stood at 49.2million in 1929 and currently stands at 115.3million, an increase of merely 234%.

Why has the Dow performed so miserablyin comparison to just about every otherindicator and to gold itself? Is there some-thing we are missing? Is there somethingthe Dow has to offer to vindicate itself forsuch a terrible long-term performance? To


5

some degree the answer to that question isyes. Since 1929 the total amount of divi-dends paid on the Dow Industrials has been1305.42 at the end of 1984. If one were toadd this to the July 1985 high, it would beequivalent to nearly 2700.00. Although thisis still a far cry from 6000.00, it is at leastbringing it up a little closer.

Let us look at the Dow in comparison tothe composite book value. In 1937, thebook value was 88.30 while the Dow hadreached a peak on March 10 at 194.40. Thismeant that the Dow was trading at betterthan double the book value. At the end of1984, the composite book value was 916.70,while the Dow closed out the year at1211.57. Obviously, a comparison of thisrally to the rally of 1937 still shows the Dowlagging behind. On the 1973 rally when theDow closed at 1051.70 on January 11, thebook value stood at 690.23. Again, this rallywas shy of the levels achieved during 1937,but the 1985 rally has still not reached theheights of the 1973 rally in comparison tobook value trading ratios.

When we look at the Dow from bookvalue, CPI, GNP or its performance againstgold, it comes up shy every time. Recentrallies are not trading at the same heights asthey have during the past 56 years. By suchfundamental comparisons, it is extremelydifficult to imagine that the Dow is over-priced and in jeopardy of a major paniccollapse.

If we look once again at the chart of theDow Industrials on a percentage basis overbook value, it becomes distinctly clear that1978 was the LOWEST point in recent his-tory. If we look at the annual chart providedfor the Dow Industrials from 1890 to date,we find that the 1978 low was substantiallyabove that major sharp correction whichtook place back in 1974. Even the 1982correction, when almost everyone was call-ing for an impending collapse and the Dowwas unquestionably moving down to 500, itwas still trading on a percentage basis overbook, above the low which had been estab-

Dow Jones Industrial Average: 1937-1982Book Value as % of DJIA High

1937 1942 1947 1952 1957 1962 1967 1972 1977 1982

60.00%

50.00%

40.00%

30.00%

20.00%

10.00%

0.00%


6

lished during 1978, as well as on the indexitself.

What is this book value we speak of? Itrepresents cash and the depreciated valueof all assets, including real estate and othersubsidiaries. This is what the takeover boysare looking at. They look for companiesthat are selling for $30 a share and theycalculate that if they were to sell off all theassets they might end up with $75 a share.We all know that these situations have beennumerous. So why is it a fact that so manycompanies are selling far below bookvalue? Doesnt this suggest that perhaps themarket is under-priced? If so, then why allthe doom and gloom every time the marketturns downward?

A case can undoubtedly be made for themarket being overpriced or underpriced.Obviously one or the other is eventuallygoing to be right. But which one? Whatdoes the future really hold in store for thestock market? Are we in a phase similar to1921-1929 when prices soared and the Dow

rose from 62 to 381, which was a 515% rallyin seven years? Or perhaps the doom andgloom boys are correct and the Dow willdrop 50% or maybe 88% as it did between1929-1932.

There are some who argue that we areabout to collapse. Others suggest that thefamous Kondratieff cycle is upon us andthat the market will collapse under itsmighty influence. Joseph Granville becameperhaps one of the most famous analysts ofour time because of his strong opinions.Most other analysts envy the attention hegained back in 1982 and love to kick hisname about like a football. But in his recentbook entitled "The Warning," Joe admits:"Probably more than anything else, I by-passed the August 1982 upturn because ofhow the market looked against the tem-plate of the Kondratieff Wave...In relationto the 1982 bottom I had made a timingerror, but I knew my basic analysis wasright."

Dow Jones Industrial Average: 1937-1982Earnings as % of DJIA High

1937 1942 1947 1952 1957 1962 1967 1972 1977 1982

14.00%

13.00%

12.00%

11.00%

10.00%

9.00%

8.00%

7.00%

6.00%

5.00%

4.00%

3.00%

2.00%

1.00%

0.00%


7

We will see as we explore the marketspast , which to this very day re mainsshrouded in an obscure fog of mystifyingconfusion of untold proportions, that tim-ing has always been the elusive element inanalysis. Wall Streets chast isement ofJoseph Granville is typical. Wall Street hasalways sought that infallible analyst whowill descend from the mountain bringingwith him the definitive rules of the game.That elusive mountain has never providedthe man who possessed a record of consis-

tency. No one beat the game in the 1920s.No matter how flawless their record, thecountless analysts of the roaring 20s all lostin the end - including the bears.

And for those who were correct for longperiods of time, Wall Street still bore ahatred when it was wrong and the analystswere proven right. Even the Wall StreetJournal refused at one time to report thecomments of Jesse Livermore despite hissuperb track record. Then other journalists


8

chastised the Wall Street Journal for itspompous attitude.

Like the President of the United States,an analyst is immediately subjected to acontinuous series of criticisms. The Presi-dent is blamed for everything from foreignaffairs to how much money it costs everytime you buy a loaf of bread. It is as if thePresidents sole existence has caused everyproblem imaginable and, of course, he mustcarry the blame for the errors of each andevery predecessor. The press will judge himbased solely upon what they see, making noallowance whatsoever for any other factors.Problems of all past administrations sud-denly become the track record of the mancurrently in office. Like the interest on theback debt, which haunts each years admini-stration, today there still exist serious inter-national and shift ing domestic events,which were inherited by Hoover when hetook office in 1929.

The art of analysis is, in fact, taking fun-damental concepts built upon the record ofthe past and projecting the assumption thatthe future will offer more of the same. Ifthere has never been that infallible sooth-sayer of the marketplace, then perhaps wehave drawn the wrong conclusions from thepast. The press and the analysts were allbearish in 1982. They judged the marketbased solely upon what was lying in front oftheir noses. They judged the market by cur-rent events and ignored the long-term signsthat were pointing to a new round of inter-nationalism. Oddly enough, the parallels ofthe past were quite similar to the 1980s, ifyou know where to look.

We will explore the avenues of fundamen-tals. We all know the often told storiesabout the speculative frenzy which suppos-edly destroyed the economy and createdthe Great Depression. But do we really

know the truth? Do we honestly know whatcreated the most spectacular bull market inthe history of the stock market? Was ituncontrolled speculation? Was there a re-lationship to the dollar and its postwar his-torical swings? Are the so-called parallelsthat people draw between then and nowvalid? Are these proposed opinions andparallels truly non-biased or have peopleselected only a small segment in time to suittheir own foregone conclusions?

Anyone who takes it upon himself to writeof the events in the past immediately sub-jects himself to becoming some sort of ahistorian. In so doing he injects his ownbiased viewpoint. As a result, the events hechronicles are automatically colored by hisown thoughts and the accounting is still onemans opinion. This report will offer a dif-ferent viewpoint of the past. The speakingwill be quoted from those who commentedon the events of the day and the commen-tary offered will be a collective interpreta-tion of what took place.

Let me say now that I too had some pre-conceived ideas when I began this project.But listening to those who cried out fromthe past changed my own unwarranted as-sumptions and, in the end, I emerged witha conclusion quite different from what I hadexpected it to be.


9

Preface When I began this project, the name I

originally selected the "The Dow & TheFuture." The more I explored the past, themore it became clear that is was impossibleto discuss purely the stock market withoutinvolving not merely economics, but alsoforeign exchange and commodity pricemovement as well as the events within theeternal sea of politics itself. No matter who takes up the crusade to

write of events long since past, they oftenbegin with some preconceived notion ofwhat may have taken place. Others oftenselect facts which only support their owndistorted or personal views. I should statefor the record that when I began this pro-ject, I was under several false assumptions.The preconceived ideas that I had at theoutset, were completely destroyed in thefinal conclusion. The compiling of all thesefacts and statistics has taken what oftenseemed to be a lifetime, but in the end Ihave emerged with a more clear under-standing of how and why we are now in theposition that we so sadly find ourselves to-day. The political topics which rise to the

surface throughout this work are the factsas they remain. My personal political phi-losophies have been enhanced and rebornby this research and it is not the other wayaround. Although some of the commentarywill undoubtedly be controversial from thepolitical impact of this work, let me state forthe record that I emerged with a clear un-derstanding for the concerns of our forefa-thers of these United States which is soamply stated by the words of Thomas Jef-ferson: "Sometimes it is said that man can-not be trusted with the government of himself.Can he, then, be trusted with the governmentsof others? Or have we found angels in the

forms of kings to govern him? Let historyanswer this question." I believe this book isperhaps one among many which answersthe words of Thomas Jefferson. Just as politics cannot be ignored when

reconstructing a historical review of eco-nomic events, it is also true that we our-selves have a difficult time ignoring ourpreconceived notions of various relation-ships which the markets have with one an-othe r . These numerous re lat ionshipsbetween various markets and interest ratesare but one aspect of this study and whatyou are about to read will change your pre-conceived notions as it did my own. I willgive you a clue here at the outset. The mostdefinitive relationship that the stock mar-ket has is not with interest rates, but withforeign exchange movement! Beyond themere exploration of the various relation-ships, the one major revelation which willjump out at you as you travel from year toyear reading first hand the contemporaryfundamental explanations of the day, per-ceptions of why and how markets move, hasbeen altered and shaped by the strangeevents of this century. What you may be-lieve right now, tomorrow you may ask howit is possible others could still believe suchthings. As a lover of history, I have explored

countless records of these events far be-yond what is normally taught as part of anyformal educational program. Early in life, Ibecame fascinated with ancient culturesand the origins of civilization itself. Themore I read and explored the archives of thepast, the more I became startled by theamazing parallels from an economic per-spective. It became clear to me that moneyand trade were the two greatest drivingforces which had shaped mans destiny.

Events and circumstances on the sur-face merely appear to change, but under-neath, the reality of the causes and effectsremained constant from one century to thenext. I was compelled to discover the de-tails, delving perhaps deeper into the pastthan most would have considered worth-while. I was impressed with the manner inwhich Julius Caesar handled a major debtcrisis by calling a moratorium on all interestpayments. The consumer debt, so to speak,had risen substantially, driving interestrates even above the 100% level at times.His actions were undoubtedly the real mo-tive for his assassination since many of thenoble Roman Senators who had thrust theirdaggers deep into his being were the verymoneylenders of the day. I studied the vari-ous monetary reforms of many emperors ofRome and read with amusement how theEmperor Diocletian in 286 AD institutedwage and price controls in an attempt tocurb runaway inflation. As a result, thisstudy also embodies government and itsactions to control the economy of its peo-ple, which is a battle that began at the verydawn of civilization. What was true ofRome has been true of modern society aswell. The parallels are but their waiting tobe seen. What you are about to read is thetriumphs, trials and tribulations of an erariddled with debt, saddled with inflationand crushed by warring trade factions. Throughout history, man has specu-

lated on one thing or another. IT is his verynature to do so. He has bought and soldeverything from slaves and real estate totulips under such a speculative fever. Realestate speculation spread throughoutRome when news of Pompey the Greatsde fe at by the hand of Cae sar came .Throughout my studies of both modern andancient economies, I could not find evenone period which was void of some kind ofspeculative fever. All things which haverisen during waves of speculation have

eventually collapsed in the aftermath.There are no survivors, no exceptions! Thegreat bull market of the Roaring 20s wasnot unique to mans record of follies, nor isthe Great Depression and the collapse ofthe Dow Jones Industrials from 386 to 40points in 1932 a freak in the archives ofmans economic past. Such things are NOTabnormal, but completely NORMAL! Theyare not the by-product of shoe shine boysscrambling for tips on the stock market, andthey are not the by-product of an unsophis-ticated economic order which we have soingeniously overcome. What took place during the Roaring

20s and during the aftermath, will one daytake place once again. No matter how manylaws governments may try to write and en-force, it is mans nature to speculate uponthe future. There were many mutual fundsthat collapsed during the 1930s. The rise incommodity prices into the mid 1970s andthe precious metals which carved theirmonumental high during 1980, were bothsimilar events which took place during thePanic of 1919 preceding one of the GreatestBull Markets in History. As long as manretains his human nature, great waves ofspeculation will engulf the world peri-odically. The only questions are how, whenand why! The greatest driving force behindthe bull market was the exodus of capitalfrom bonds into stocks. That was sparkednot by show shine boys, but by governmentswho overextended. The defaults of SouthAmerica, much of Europe and the aban-donment of the gold standard by Britain allhad their impact in the sage of the 1920s and1930s. That is what this book is all about.

Acknowledgements No book can be written without countless supportive people and of course source materials. I am

extremely grateful to Isabelle Ring and Diane Burroughs for their relentless pursuit in the editing ofthis project. I am deeply grateful to Donna Carrol who assisted me in collecting data for many longand tedious hours in the hallow halls of Princeton University. It is to her that I am also indebted forassembling the relative mementos that appear throughout this project which she extracted fromcontemporary newspapers and magazines of the era. I am also indebted to Susan Greenberg for hersupport, assistance and loyalty throughout this ordeal which often seemed as if it would never end.

I am also grateful to Princeton University, the London School of Economics, Oxford Universityand the British Newspaper Library for the use of their facilities through which much of the researchwas accomplished making this dream a reality.

I am also grateful to Adam Smith and Joseph M. Schumpeter for their devotion to the understandingof economic movement and the invaluable reference works which they have left behind and for theirinfluence upon my own economic thought.

The foreign exchange charts that are provided throughout this study have been constructed bytaking the quotations from the Wall Street Journal. The quotes which appear in these charts on amonthly basis are the closing of each month in question.

The various indexes on consumer prices, producer prices, business inventories, population, trade,gross national product etc. have been taken with permission from "Economic Statistics 1900-1983,"published by the Economist magazine of London, England unless otherwise stated.

The advertising that appears throughout this text is not paid for. It is advertising which appearedduring the year in which it has been incorporated within this work. This has been done to providereaders with a sense of the period so that they may read for themselves what those of the era wouldhave also been influenced by at that time. Some of the companies whose advertisements appear inthis work no longer exist. Other are still alive and well. The coupons, I assure you, are no longer validoffers!

I have refrained from employing footnotes throughout this project, electing instead to embodydirectly within the text the sources which have been utilized and why. I have written this work in astyle which is intended to be different; I have provided the sources and then offered by owncommentary thereupon. This is intended to allow you to discover what I myself read holding nothingback and in so doing, perhaps your mind will also be enlightened as to the real causes and effects.

Martin A. Armstrong

CHAPTER I

1921

The year 1921 began on a sour note. Thefront page headline of the New YorkTimes on January 8, 1921 read: "BUSI-NESS REVIVING, COUNTRY SANEAGAIN, SAYS W.P.G. HARDING - Gov-ernor of the Federal Reserve Board SoundsKeynote of Optimism. DEPRESSION ATAN END - EXTRAVAGANCE HASPASSED." The article began as follows:

"All danger of a disastrous financial col-lapse has passed and there are signs that thewidespread industrial depression is nearingits end, declared W.P.G. Harding, Governorof the Federal Reserve Board, last night ata dinner in Delmonicos tendered by offi-cials of the Fidelity and Deposit Companyof Maryland to Franklin D. Roosevelt,

lately elected as Vice-President of the insti-tution."

The article went on to say: "Now I think wecan in taking an inventory of our presentsituation, congratulate ourselves upon twothings. One is that the country generallyhas recovered to its normal state. We areno longer afraid. We are not indulging inthe old idea of extravagance, living beyondour means. Nor are we troubled so muchas we were a few weeks ago with that otherextreme of over pessimism, where peopleget down in the tombs and they cannot seeany daylight, cannot see any hope and seenothing but gloom and darkness.

"Now that situation is as bad as the other.They are both abnormal conditions of mindand we can congratulate ourselves gener-

Copyright PEI 1995 All Rights Reserved Worldwide

10

ally that the country has reached a morenormal state of mind, if you please. This isnot the time to try any remedies for thepurpose of alleviating or deadening paintemporarily, of which the ultimate effectswould be not to restore the patient tohealth, but to impair his strength and vital-ity.

"We ought to be safe and sound and calmin our judgments in living and in financingourselves. I am thoroughly convinced thatany danger which may have existed of ageneral collapse - and I have never thoughtthat danger was as imminent as a greatmany people have thought it was - but anysuch danger as that has passed. I think un-doubtedly that the worst is over. And whilethe Federal Reserve system cannot dealwith individual cases, if there are individu-als who have become so much over-ex-tended that they will have to undergoprocess of readjustment, that, after all, ismerely an individual condition which willhave to be taken care of. We will have to letit take its course. The Federal Reserve

deals with general conditions. It deals withthe banking situation as a whole and theReserve position. The inherent strength ofthe Federal Reserve Banks has so muchimproved that you need to have no appre-hension whatever that the Federal Reserveposition cannot take care of the bankingsituation in general. It can do so and it willdo so."

The atmosphere during 1921 was far fromoptimistic. There was no analyst, econo-mist, businessman or politician who heldvisions in his minds eye of a future whichwould one day be remembered as the"Roaring 20s." There is no newsletterwriter or market analyst who dared to claimthat he had called the bottom, no less fore-seen the ominous events.

As with most periods following wars, theability to recover lay solely in mans desireto re-establish his economic way of life.Regaining his dignity and his sense of con-fidence was his only salvation. The panic


11

collapse of 1920 was swift, unmerciful, anddevastating.

Many fortunes were lost to the boom andcollapse of the postwar years. Many of theprominent individuals and their personaltragedies we will look at in due course. Thepanic and devastation was not merely con-fined to the United states. Its tentacles hadstretched far and wide throughout Europeon the right and to Japan on the left.

The more I immersed myself in the pastto try to gain a sense of the truth, the moresurprised I became at how the historianshave distorted many of the events. Feelingsin Europe were still very bitter and theTreaty of Versailles had essentially dividedEurope between the British, French andItalians. Turmoil ensued over the Leagueof Nations Agreement in 1919 and the pressin the States was filled with cartoons ofEuropeans still battling among themselvesfor their dominant share of the spoils.

The League of Nations Agreement soughtto preserve the boundaries won in the War

and the French inserted what was known asArticle 10. This mandated that all nationswhich signed would fight against any nationwhich infringed upon the boundaries of an-other. Congress refused to ratify such aclause while President Wilson supportedthe League without any alteration. Indeed,the popular opinion in the United Stateswas not in favor of signing the League ofNations Agreement. H erbert H ooverwrote in his memoirs: "Two million return-ing soldiers were, in the majority, very anti-European. They had little experience withthe peoples of Europe and regarded themas just foreigners." They generally opposedthe League on the ground that they neverwanted to be sent out of the United Statesagain."

In the Fall of 1919, British lobbyists begana campaign to obtain billions of dollars inloans from the U.S. government. Therewere many who were opposed to this ideaand others who saw that lending Federalfunds to Europe would potentially returnhandsome profits for U.S. business.


12


13

Herbert Hoover publicly denounced theproposals beginning on January 7, 1920.Hoover insisted that any loans should bemade from the private sector and that gov-ernment should not get involved. In De-cember, 1920, he addressed the AmericanBanker Association in Chicago. He statedright then and there his opinions upon anissue that later became an underlying prob-lem, which erupted and forged the entireworld into the greatest depression of the20th century. "Our government," Hooversaid, "would be subject to every politicalpressure that desperate foreign statesmencan invent and their groups of nationals inour borders would clamor at the hill ofCongress for special favors to their mothercountries. Our experience in war showsthat foreign governments which are bor-rowing our money on easy terms cannotexpend it with the economy of private indi-viduals and it results in vast waste...Thecollection of a debt to our Treasury from aforeign government sets afoot propagandaagainst our officials, against our govern-ment. There is no court to which govern-

ment can appeal for collection of debt ex-cept a battleship. The whole process is in-volved in inflation, in waste, and in intrigue.The only direct loans of our governmentshould be humane loans to prevent starva-tion. The world must stop this orgy of ex-pe nd itu r e on a rmame n t . E urope angovernments must cease to balance theirbudgets by publishing paper money if ex-change is ever to be righted. The world isnot alone in need for credit machinery. It isin need of economic statesmanship.

To understand the events of the bull mar-ket into 1929, and the subsequent collapse,it is also necessary to understand the periodwhich had led to the greatest bull market inmodern history. During World War I, mostcommodities had been fixed by the U.S.government. One such example was theSugar Equalization Board. This estab-lishment contracted to buy all the sugarcrops from the U.S. as well as from the WestIndian, Hawaiian and Philippine nations.Herbert Hoover recommended to Presi-dent Wilson that the crop of 1919 should be

U.S. CORN PRICES

Date

Per B

ushe

l(per Bushel)

1861 1871 1881 1891 1901 1911 1921 1931

240

220

200

180

160

140

120

100

80

60

40

20

0


14


15


16

purchased until Europe could re-establishitself. But the President listened to Profes-sor Taussig who had also sat on the Board.The controls were not renewed and theprice of sugar jumped from 9 cents to 25cents during 1919. This is merely one ex-ample of the drastic speculation in worldmarkets during 1919 into early 1920.

Commodities had literally soared in valueto their highest levels in over 20 years whilemany reached historic highs. Silver ralliedto $1.40 after being as low as 45 cents in1915. Corn reached a record high in 1917at $2.50 per bushel prior to controls and fellback to $1.20. But in early 1920, it reached$2.20 compared to a 1915 price of as low as60 cents. Cotton had soared to 43 centscompared to 7 cents in 1915.

The stock market had also followed suit.The wild speculation during 1919 to 1920was predicated on the fact that most of thecrops in various commodities had been de-stroyed in Europe and they were unques-tionably in short supply. The stock marketrallied because if commodities rose in

value, so did the profits of American indus-try.

Clearly there was an extravagance ofspeculation following the War. This specu-lation was noted in European markets aswell. It was undoubtedly a world wideevent. But the world did not deal with thesituation in the same manner.

In the United States, steps were taken tomake money tight, and that the FederalReserve did very nicely. The discount ratehad stood at 4% during 1917. In Decemberof 1917, the Fed began to raise the discountrate, jumping it to 4.5%. That was followedswiftly by another jump to 4.75% in Marchof 1918. There the rate stood throughout1918 and 1919. The Fed waited until thefever of speculation had reached the verytop. In January 1920, they raised the dis-count rate from 4.75% to 6% and then inJune of that year it was raised again to 7%.The Fed had gone into overkill as usual,acting not in advance of a problem but inresponse to it after many of the markets hadalready peaked.

N.Y. Federal Reserve Discount Rate

S W ll St t J l

Rat

e of

Inte

rest

1915 - 1933

1915 1917 1919 1921 1923 1925 1927 1929 1931 1933

7

6

5

4

3

2

1

0


17

This was the U.S. solution to the inflationproblem of the immediate postwar era.They chose to raise interest rates to force adeflation upon the free markets. Had theyleft the markets alone, the same actionwould have followed. As commodities be-gan to come back into production during1920, the markets had already sensed thiswas taking place and were in effect prepar-ing in their own way to correct back in linewith the newly anticipated increase in pro-duction.

In Britain, a different approach was se-lected to bring an end to the speculationfervor which also centered around foreignexchange. There a committee was formedconsisting largely of bankers. This commit-tee became known as the "Cunlife Commit-tee , named afte r it s chairman, LordCunlife, Governor of the Bank of England.This distinguished group of bankers hadlittle sense of reality and the decisions thatthey made were the first turn of the screwwhich would eventually led to the greatest

deflationary period in the history of thatnation. As a result of the decisions of Cun-life, the economic devastation suffered inBritain between 1920 and 1922 was actuallyfar worse than the Great Depression of the1930s.

This group of bankers decided that onpaper everything could be brought undercontrol by maintaining the gold standard atthe old parity of $4.86. They believed thatBritain could maintain the old parity andkeep the pound at prewar levels by raisingtaxes and reducing money supply.

There was a great deal of speculation inBritain as to how far the pound would fallonce the War was over. The Cunlife Com-mittee seems to have had no sense of whatthe pound would have actually been worthin a free market and as such the gap be-tween reality and fiction would soon be-come clear.

In August 1918, the Cunlife Committeepublished its first report. They merely

BRITISH POUNDU.

S.Do

llar p

er B

ritish

Pou

ndMONTHLY: 1921

JAN FEB MAR APR MAY JUN JUL AUG SEP OCT NOV DEC

4.3

4.2

4.1

4

3.9

3.8

3.7

3.6

3.5


18

British Pound

Source: Wall Street Journal

U.S.

dol

lar p

er B

ritish

pou

nd

MONTHLY CLOSINGS: 1900 - 1940

1900 1903 1906 1909 1912 1915 1918 1921 1924 1927 1930 1933 1936 1939

5.2 5.1 5

4.9 4.8 4.7 4.6 4.5 4.4 4.3 4.2 4.1 4

3.9 3.8 3.7 3.6 3.5 3.4 3.3 3.2 3.1

Great Britain

Yearly: 1900-1932

CPI - ALL ITEMS 1980=100

1900 1905 1910 1915 1920 1925 1930

11

10

9

8

7

6

5

4

3


19

Great Britain

Yearly: 1919-1932

gilt edged yields - 2.5% consols

1919 1924 1929

5.4

5.3 5.2

5.1

5

4.9 4.8 4.7

4.6 4.5

4.4

4.3 4.2

4.1

4

3.9 3.8 3.7

FRENCH FRANC

U.S.

Do

llar

per F

rench

Fr

anc

MONTHLY: 1921


0.083

0.082

0.081

0.08

0.079

0.078

0.077

0.076

0.075

0.074

0.073

0.072

0.071

0.07

0.069


20

stated that Britain should live within itsmeans and use revenue to retire most of thewar bond issues held by the banks. Further-more, much of the increase in paper moneywhich was in circulation was also to be re-tired.

When the Armistice was signed on No-vember 11, prices of goods and servicesinitially fell for a four month period in Brit-ain. But then in March 1919, Britain wasforced to abandon the wartime fixed rate of$4.86 on the pound. Between March of1914 and April of 1920, prices in Britainrose more dramatically than in the UnitedStates, increasing by 50%. The primary rea-son was the pound itself. The pound fellliterally straight down to a low of $3.20,illustrating dramatically how overvaluedthe pound had been under the Cunlife rec-ommendations.

To the American, the sudden dramaticrise in the dollar became noticeable onlythrough the means of a drastically lowercommodity value. In a sense, commoditiesdeclined in value, but not as dramatically on

a worldwide basis. To the British, com-modities began to rise because the declin-ing value of the pound was reflected inhigher prices since those base prices werein terms of dollars. Had the commoditiesrisen in terms of dollars, the British wouldnot have seen a rise in price levels of merely50%, but could have experienced nearly a100% price level increase.

Foreign exchange has been a major factorin all markets including stock prices. This,however, has seldom taken part in mostanalytical approaches. Yet as we pourthrough the wealth of price movements, wewill see just how coincidentally tops andbottoms have come into play with foreignexchange movements.

The panic of 1920 was swift and severe,led by the oversupply in commodities andthe drastic price movement in foreign ex-change. The Dow Jones Industrials peakedduring 1919 at nearly the 120 level. The year1920 had opened at slightly above 100 andbegan to fall sharply after the dollar beganto rise abruptly. At the end of 1920, the

SWISS FRANC

U.S.

Dolla

r per

Swi

ss F

ranc

MONTHLY: 1921


0.2

0.195

0.19

0.185

0.18

0.175

0.17

0.165

0.16


21

Industrials closed the year at 71, which wasslightly more than a decline of 40%. Thesharp decline in the stock market hadequaled the rise in the dollar.

Numerous Americans had lost a fortuneduring that decline, yet at the same timesomething strange was taking place. Whilemost were talking about the panic of 1907and deciding that a depression was certainlyat hand, foreign capital from the privateoverseas investor continued to flow into theUnited States.

One rule that we have found through thecourse of our research is that corrections ina market are normally 50% to 60% moves.A trend comes to an end when a declinemoves beyond this percentage level as the88% decline from the 1929 high. The factthat the panic of 1920 was severe is unde-nied, but the fact that the economy survivedis a strong point in its favor as being merelya correction to economic conditions andnot the end of an era.

Europe was still in turmoil followingWorld War I. In Germany, the National

Assembly had been established in 1919 toprovide public elections for the office of thePresident. Paul Von Hindenburg was actu-ally the first and last President elected bythis new constitution. Although World WarI was essentially over with the defeat ofGermany, the world was not completely atrest. The Russian Civil War, which beganJune 1918 between the Soviet Communistsand White Russian forces, had brought withit some international participants. Britishforces had landed at Murmansk in June of1918 followed by the French at Archangelin August 1918. Japan and the United Statesalso sent troops. By 1919 Poland invadedRussia, seeking to regain land over which ithad long claimed ownership. Despite theCivil War, foreign invasion support and theRussian-Polish War, the Soviets eventuallywon. A treaty with Poland was signed onthe 12th of October in 1920 and one monthafterward the Civil War came to an endwhen the White Russian forces under Gen-eral Wrangel were forced to evacuate theCrimea in November 1920.

In January 1921, Greece invaded Turkey.The Turkish forces eventually repelled the

DUTCH GUILDER

U.S.

Dolla

r per

Dut

ch G

uild

er

MONTHLY: 1921


0.37

0.36

0.35

0.34

0.33

0.32

0.31

0.3


22

attack but the peace did not come until thesigning of the Armistice of Mudanya on the11th of October, 1922.

In Italy, a crisis in democracy had split thenation into moderate and nationalisticcamps. An economic crisis spurred on byraging inflation brought the failure of theCabinets of Giolitti in June 1920 and thesucceeding Cabinet of Giolitti in June 1921.Terrorism became the battle tactic of theFascists against the Socialists. With thecountry breaking apart at the seams, theKing empowered Mussolini to form a Cabi-net in October 1922. By November, Parlia-ment granted unrest r icted powers toMussolini. Eventually in 1926 the finalstages for the Fascist state were in place.

Europe lay in shambles and it was notmerely the world economic structure thathad been seriously fractured, but the veryfoundation of democracy itself. The sideeffect had been a serious curtailment ofinternational trade. Much of the industryhad turned toward armaments, which werea big business. Europe had lost much of its

gold reserves and would continue to do sofor the next few years. By and large, this hadbeen caused by the establishment of indus-tries in neutral overseas countries, such asin Latin America, to process much of its rawmaterials.

Another great problem for Europe, ofcourse, was the extent of damage to produc-tive facilities caused by World War I. Inaddition, the work force had taken a seriousturn. Women represented a greater per-centage of the work force while the menserved on the front lines. Europe was alsohampe re d in the e ar ly 1920s by the"planned" economy of the USSR, which atfirst was a world exporter of food. Russiawould lose its exporter status in the 1930sbut at point its exports hampered Europeanagricultural production through increasingthe supply which in turn depressed prices.

Chaos is a fair word to use in trying todescribe the state of Europe at this point intime. In 1922, a World Economic Confer-ence was finally held in Genoa but theUnited States and Turkey did not partici-

DEUTSCHE MARKU.

S.Do

llar p

er D

euts

che

Mar

kMONTHLY: 1921


0.018

0.017

0.016

0.015

0.014

0.013

0.012

0.011

0.01

0.009

0.008

0.007

0.006

0.005

0.004

0.003


23

pate. This conference brought calls for theabandonment of the unchecked printing ofmoney, and the creation of a currency unitfor international exchange based on goldwas proposed as a solution for the economicstrife which faced the world.

The United States had chosen to fight theinflationary pressures that had brought the1919 rally in commodities as well as stocksby jacking the discount rate to what wasthen called the "7% Crisis Level." It did notraise taxes but money supply had con-tracted by 10%, dropping from $23.7 billionin 1920 to $21.5 billion as reflected by M1in 1921. The flight to the dollar from theEuropean currencies caused them to col-lapse, and perhaps aided the U.S. moneysupply which otherwise would have de-clined as much as 20%.

Britain, after abandoning the gold stand-ard, attempted to fight speculation and in-flation by raising taxes and contracting itsmoney supply, forcing the pound to col-lapse from $4.86 to $3.20. But France, Bel-gium and most of the recently created

central and Eastern European nationschose the inflationary road which hadbrought about a flood of unchecked print-ing of paper money. These were essentiallythe three courses of economic action takenby the major industrialized nations. Theflight to U.S. based assets would have amajor role in the years ahead.

The year 1921 was marked by what hadbecome known as the 1921 London Ultima-tum. This British decree demanded theprompt fulfillment of the Peace Treaty,which called for the trial of war criminals,disarmament, and, the most important of alldemands, fixed conditions of payment ofthe reparations by Germany. This Ultima-tum had been preceded by the LondonConference, which had seen the rejectionof the German counter proposals.

The deflationary forces in the UnitedStates, with a sharply rising dollar and aneconomy retaining for the most part its pro-ductive capability, began to attract muchforeign capital. But perhaps the greatestattraction was the inflationary rates in


24

JAPANwholesale prices - all items

1900 1905 1910 1915 1920 1925 1930

0.2

0.19

0.18

0.17

0.16

0.15

0.14

0.13

0.12

0.11

0.1

0.09

0.08

0.07

0.06

ITALYconsumer prices - all items

1900 1905 1910 1915 1920 1925 1930

0.34

0.32

0.3

0.28

0.26

0.24

0.22

0.2

0.18

0.16

0.14

0.12

0.1

0.08

0.06

0.04


25

FRANCEconsumer prices - all items

1900 1905 1910 1915 1920 1925 1930

0.8

0.7

0.6

0.5

0.4

0.3

0.2

0.1

U.S. CPI1980=100

1900 1907 1914 1921 1928

25

24

23

22

21

20

19

18

17

16

15

14

13

12

11

10


26

Europe between 1910 and 1921: in France,the consumer price index rose from 12 to41; in Britain, it rose from 4.1 to 9.7; inGermany from 18.2 to 265.5; and in Italy,from .06 to .27. in Japan the wholesaleprices rose from .07 to .16 between 1910and 1921 while in the U.S., the CPI rosefrom 11.3 to 21.7. Although this periodwould later be called the deflationaryyears," in the U.S. the cost of living had risensharply but perhaps at a lesser rate than therest of the world.

Interest rates had risen sharply with callmoney (demand deposits) reaching a peakin 1919 of 30%. Even in 1920 call moneyreached a peak of 25% and by 1921 callmoney traded within a range of 9.25% to3.5%. In Britain, interest rates on threemonth average treasury bill rates jumpedfrom 2% in 1912 to 3.4% in 1919 but con-tinued higher in 1920 to 6.2%, decliningslightly to 4.5% in 1921.

It is understandable how depression, bothin the economy as well as in the emotionalstate of the world population, had risen

substantially. Business conditions in theU.S. had been quite brisk. When W.P.G.Harding said: "We are not indulging in theold idea of extravagance," he was referringto the shift of much European manufactureto the U.S. during the war period. Busi-nesses were extravagant, overexpanding asif the trend would continue forever. Manywere simply caught off guard by the sheervelocity of the fail, which was similar to thedecline in the commodity markets between1980 and 1982, yet far worse and in a shortertime span.

The depression of 1920 had not only seri-ously affected the economy within theUnited States, but also the lives of manyindividuals. One such man, who will remainin our writings throughout this period, wasWilliam C. Durant.

In 1908, Durant put together a half dozenautomobile companies and called themGeneral Motors Co. of New Jersey. In1911, he was ousted from control and im-mediately formed Chevrolet Company; inMay 1916, he regained control of General


27

Motors. In the aftermath of the panic of1920, Willy Durant was ousted once againbut this time he would never return to hisbeloved General Motors. Many prominentmen lost their fortunes as the worldwideeconomic convulsions engulfed a world andits people in a swift and sudden blow in theaftermath of World War I.

The sharp collapse in all markets between1920 and 1921 cannot be given proper jus-tice in words, even with the aid of hindsight.Jonathan Ogden Armour, founder of thefamous meat packing company which stillbears his name today, met with perhaps themost unbelievable fate of any tycoon. Ar-mours personal fortune had amounted to$150 million at the peak in 1919. No onesuspected that a complete devastation wasabout to take place in all markets fromcommodities to stocks. Armour suppliedthe bulk of meat and grain supplies to theAllies during World War I. At the end ofthe war he found himself overstocked andoverexpanded along with everyone else.

When all markets broke in a state of panic,the slide was straight down. Armours vastfortune in todays terms, adjusted for infla-tion, would be $107 billion. Nonetheless, helost $1 million dollars each day for 130 daysstraight without exception. He eventuallydied in 1927 while living in England, totallyinsolvent and owing a lot of money. Therereally are no words one can find which arecapable of describing the personal tragedythat this once great supporter of freedomsuffered during the panic of 1920. Swift andfast, the fortunes of many disappearedalong with that of Jonathan Armour in thefirst 130 days of that panic. In an interviewshortly before his death, he commented onhis past and stated that he held the distinc-tion in history of losing more money thananyone ever before. This was the atmos-phere which surrounded the financial mar-kets and the investment community at thattime. The severity of the decline had stirredthe memories of those horrifying days of thepanic of 1907.

The Dow Industrials were initially steadyas 1921 was ushered in. It was trading above


28

the 1920 low and continued in a sidewayspattern rising into April. Then without no-tice, it began to collapse in May once againsimultaneously with the rise in the dollar.Fears suddenly rose and the doom andgloomers were now predicting almost theend of civilization itself. How much morecould society endure?

Despite the fact that January throughMarch brought stable prices in the stockmarket, investors and traders remainedvery nervous. As the market rose into April,the Treasury released its report which re-vealed another deficit. This coupled with alabor crisis raging nearly out of control inBritain, and the end of military purchasesof commodities from the Europeans, sentthe stocks down that May. The downwardpressures continued into June, steadiedsomewhat in July, and then plunged loweragain into August. The pessimism contin-ued despite the bright words or promisesfrom the Fed. By September, 20,000 busi-ness failures had taken place and 3.5 millionAmericans were unemployed. Even the

great mail order house of Sears Roebuckchalked up an operating loss of $16,435,468by the end of 1921, while MontgomeryWard revealed a loss of $9,887,396. Eventu-ally, the year 1921 would become known asthe "Year of Deflation."

The world itself was in turmoil. In Britain,unemployment reached 2.5 million in Julyof 1921, one month before the Dow bot-tomed in the U.S. That was the peak inunemployment for both Britain and theUnited States but this would not be knownfor nearly two years.

Moreover, the rest of the world was stilltorn apart by the depression. A revolutiontook place in Portugal after one of the foun-ders of the republic was assassinated. InJapan, the trend continued as Prime Minis-ter Takashi Hara was assassinated on No-vember 4. In Persia, there was a bloodlesscoup but in Morocco in July, the Spanisharmy was defeated by the Rifs. GeneralFernandez Silvestre committed suicide,


29

creating a political crisis in Madrid whichnearly destroyed the government.

1921 was also the year when the "NewEconomic Policy" was announced by Niko-lai Lenin in Russia. The U.S. Secretary ofState, Charles E. Hughes, denied Russiasrequests to resume trade relations and thecold war began as long as Communism pre-vailed.

But the stock market survived, and 1921held at near the 62 point level, which wasabove the previous major low established in1915 at 54 points. As the world drew nearerto its own economic destruction and des-perate, hungry people began to flock to-ward the idealistic goals and dreams ofCommunism, some strange and invisiblehand was making its presence felt. At thepeak of pessimism and the deplorable newsthat couldnt possibly have been worse, themarket held while short interest climbed.

In the midst of depression the AmericanStock Exchange had its beginnings fromwhat had been known as the New York

Curb Exchange. This exchange literally ob-tained its name from the location of itstransactions. Clerks would position them-selves on the streets signaling to tradersperched in various windows along thestreet. But finally in 1921, they moved offthe street corners and into their own build-ing at Trinity Place. This was perhaps asubtle hint that just maybe the financialsystem of the marketplace would cheatdeath one more time.

The Dow Jones Industrials had come un-der pressure because unemployment washigh, business activity was low, and businessfailures were still rising into 1921 as a resultof the Depression. The call money rates hadsubsided from the 30% high of 1919 but theFederal Reserve was not too quick to act.In the midst of the panic in 1919 the dis-count rate stood at 4.75%. Despite the factthat all markets were collapsing, money be-came tight and in January 1920, the Fedraised the rate to 6% from 4.75% in a singlemove. The markets literally crumbled asthe Fed tried to smash the inflationary wavewhich had ensued.

Great BritainPE

RCE

NTlabor market: unemployment

1900 1905 1910 1915 1920 1925 1930

16

15

14

13

12

11

10

9

8

7

6

5

4

3

2

1

0


30

In June of 1920, the Fed again raised thediscount rate a full point to 7% trying toinsure that inflation would come to an end.There the rate stood until May 1921, whenonly after devastating the economy did theFed perhaps realize that it had gone into anoverkill mode of operation. In May 1921,the discount rate was cut to 6.5% but obvi-ously the economy and the emotions of thepublic were not impressed. Again, in June,the Fed cut the discount rate to 6% but theDow Industrials still were not impressedand the market collapsed to 65 points. InJuly, the Fed cut the discount rate again to5.5% and the market merely consolidated.In August, the Fed took no action but themarkets sold off violently with the DowIndustrials reaching their final low at 64 forthe entire panic of 1919 to 1921.

Despite the Federal Reserves actions tofinally lower the rates, their measures hadlittle, if any, effect. In September, the Fedcut the discount rate to 5% but still it re-maine d above 1919 leve ls. O ctoberbrought no change but pessimism was still

high. In November, the Fed cut the rateagain to 4.5% where it remained for thebalance of the year.

Germany began making payments ac-cording to the reparations agreement andgold reserves climbed to their highest pointsince 1917 in the United States. The rail-roads dropped sharply from January di-rectly into April. There was a rally in earlyMay but then a sudden, violent collapse intoJune. Perhaps it was a subtle signal thatAugust would be the final low for the indus-trials and also the turning point for theeconomy since the railroads failed to makea new low and instead supported prior tothe industrials.

Despite the fact that interest rates wereeasing, the bonds were performing terribly.They continued to decline directly intoJune as confidence was in short supply.Even the discount rate cuts didnt help thebonds as they only moved lower on thatnews. People became afraid of bonds asforeign governments teetered on the brink

Changes in N.Y. Fed Discount RateR

ate

of In

tere

st in

%1921

J

7

6

5

4

3

2

1

0


31

of financial ruin. Many questioned eventhe soundness of U.S. bond issues.

In the New York Times in July of 1921 thecommentary under the Financial Columnechoed the disappointed national tone:

"Looking back at the completed half yearof 1921, the prevalent feeling is unmistak-ably one of disappointment. There wasmanifestly strong belief six months ago thatthe money market would revive, that thedecline in commodity prices would end, andthat mercantile trade in the spring monthswould reflect the stimulating influence ofaccumulating needs, of real consumers atthe lower level of prices. None of thesethings has happened in accordance with thehopes of January.

"Money is not as tight as in 1920 but it isdearer and far less easy to obtain than in1919 or in wartime. The investment bondmarket, after a brief recovery, has sunkback into apathy. Its present prices are notonly below those of the January reinvest-

ment movement but substantially underthose of last October. The pace of the fallin commodity prices slackened in earlysummer, but the average decline continuedand, with its continuance, demand from theretail trade remained cautious and hesitant;the trade revival did not come. The stockmarket, meantime, continued to fall to alower range of values after each temporaryrecovery, and as lately as June was governedby heavy liquidation for the account of em-barrassed millionaire speculators of 1920."

As is the case today, people are movedonly by that which lies before their owneyes. The fundamentalists, who cannot seebeyond the next round of figures, failedthen as they still fail today to foresee thesubtle changes in trend and sentiment. Aswe continue through our accounting of thegreatest bull market in the history of theUnited States, and the world for that mat-ter, it will become blatantly clear that de-spite the sharp rise in the stock market intothe late 1920s, the analysts wouldnt believe


32

it and continued to cry depression for manyyears to come.

At this time, the economist Schumpeterformulated his economic theory, which hasstood in direct contrast to both Keynes andMarx. Schumpeters theory was centeredaround his concept of innovation. He be-lieved that economic waves of prosperitybegin because of some innovation thathelps to broaden the economy. Once theprosperity peaks, the resulting collapsecomes about due to the lack of some newinnovation. Therefore, the over expansionresults in too much competition, which re-duces profits and forces the weakest out ofbusiness.

The bottom in the stock market in 1921can be safely attributed to several reasons.The most important, a purely technical rea-son, was that the economy was fundamen-tally sound and despite the collapse in theagricultural sector, industry was expandingupon new frontiers with bright new ideasand the traditional spirit of American inno-

vation. The first coast-to-coast airplaneflights had been achieved and airmail serv-ice began to take off, so to speak, at the postoffice. This carried over into many otherareas and helped to broaden the businessconnections which could be vital for futureeconomic expansion.

The automobile industry became a risingstar and by 1922, Henry Ford was pro-claimed by the Associated Press to be abillionaire making $264,000 per day. TheLincoln Motor Company was started in1921 and was bought by Ford in 1922 for $12million. In 1922, Durant Motors come outwith the "Star," priced at $348 to competewith Henry Fords Model-T, an attempt byWilly to regain his former fame and influ-ence. Chevrolet began to use Du Pontpaints and offered cars in a variety of colors.Hudson, Deusenberg and Checker MotorsCorporation also joined Americas latestindustrial innovation, the automobile. Fordespite the doom and gloom sayers, thosewho had money were buying cars. Perhapsstill in the stages of infancy, the auto indus-


33


34

try was embarking on a new age of industri-alism. It was Schumpeters Theory of Inno-vation that saved the decline and fall of theU.S. financial system.

The devastation of the 1920 panic and thatof early 1921 was senselessly brought aboutby a government which was incorrect in itsassessment of the economy and its fear ofinflation. The overkill tactics of the FederalReserve were a serious mistake whichwould carve a cold image in the minds ofmany for years to come.


35

CHAPTER II

1922

Germany had met the British Ultimatumand begun its reparation payments, but

economically Germany would not be ableto repay for all the damage of World War I.German coal production rose from 219.4 to256.3 million tons between 1920 and 1922but social unrest brought riots and a col-lapse in productivity. By 1923, coal produc-tion dropped to 180.4 million tons whilesteel production fell from 11.71 million tonsin 1922 to 6.31 million tons in 1923. Exportsin general had fallen 40% from their 1913levels. Industrial disputes rose to theirhighest levels of 1,785 incidents, a recordwhich still stands to this day.

The postwar era was definitely marked byinflationary pressures around the world.The United States chose the deflationarymethod we have discussed through actions

taken on the part of the Federal Reserve.Britain chose to raise taxes, an old favoritein that political structure. But Germanychose the unchecked wholesale printing ofmoney. Perhaps it had no choice with thedemands placed upon it by the world. It wasa little absurd to expect a nation that wasdestroyed by the War to suddenly profitfrom world trade to such an extent that itwould be able to pay for the reconstructionof the rest of the world.

The strain was simply unbearable as re-flected by the desperate condition of themark. The German mark began to fallfaster than anyone could have possiblyimagined. At first it fall to 162 to the U.S.dollar, then down to 11,000 to the dollar bythe end of 1922. Confidence of the Germanpeople had been destroyed. ChancellorWilheim Writhe, who had been elected in

DEUTSCHE MARK

U.S.

Dolla

r per

Deu

tsch

e M

ark

MONTHLY: 1922


0.014

0.013

0.012

0.011

0.01

0.009

0.008

0.007

0.006

0.005

0.004

0.003

0.002

0.001

0


36


37

1921, was forced to resign over the repara-tions issue in 1922. He was replaced byChancellor Wilheim Cund in 1922 but bynow he could not stop the onslaught in lossof confidence.

In Britain, the producer price index de-clined from the 1921 level, falling from 7.9to 6.5 in 1922. The consumer price indexfell from 9.7 to 7.9 in 1922 but these gainswere made at the serious expense of itspopulation through the drastic increases intaxation and reduction in money. Thiswould eventually prove to be a major deter-rent toward recovery in the years ahead andleave Britain as a debtor nation counting onpayments from G ermany which wouldnever come.

In France, their CPI fell from .41 to .39between 1921 and 1922 while in the UnitedStates the gross national product rose from12.7 in 1921 to 14.9 in 1922. U.S. industrialproduction was rising sharply between 1921and 1922 but this was largely ignored by theanalysts as a temporary situation. Raw steel

production rose from 20.9 million tons to35.3 in 1922 and passenger car productionrose from 1.4 million to 2.2 million. Copperproduction rose from 437.5 million tons to670.3 Obviously something was takingplace which should not have been ignored.

In the United States, the Federal Reservecontinued to ease as foreign capital contin-ued to gravitate towards its economy. InJune 1922, the Fed cut the discount ratefrom 4.5% back to 4% which is where it hadstood between 1915 to 1917. The Dow Industrials had rallied for nine

months straight since the August 1921 low.By May 1922, the industrials were nearingthe 100 level once again. Oddly enough, theJune discount rate saw the market correctfor the first time. After the June consolida-tion, the market resumed higher, reachinga peak in October. Many viewed the dis-count rate cut as bearish and as a signal thata depression would resume. November1922 provided a sharp correction and De-cember closed slightly below the 100 level.

Dow Jones Industrial IndexMONTHLY: 1921 - 1932

1921 1923 1925 1927 1929 1931 1933

400

350

300

250

200

150

100

50

0


38

The year 1922 was a strange year indeed.The boom in the economy was again highlyinfluenced by favorable overseas investors.The British pound had rallied from its dras-tic decline of 1920. During 1921, the poundhad rallied during the first quarter, reaching$3.95 in April but falling sharply back to$3.56 in July, bottoming one month prior tothe turn in the Dow Jones Industrials. Byyear end, the pound had staged a comeback,closing December 1921 at $4.21. Thepound continued higher in 1922 but at aslightly less aggressive pace, peaking duringMay at $4.45 and consolidating into Sep-tember down to $4.38. But by year end, thepound resumed its uptrend, closing De-cember 1922 at $4.63.

The stock market was moving higher fromits 1921 low, once again following the oppo-site trend of the dollar. The economy wasbooming in many sectors yet by and largethe press remained negative. The housingconstruction figures are reflective of howthe consumer was apparently doing betterthan the professional stock traders. Thefollowing table illustrates the housingboom that was taking place:

Dwelling Units Constructed

1921....449,0001922....716,0001923....817,0001924....893,0001925....937,0001926....849,0001927....810,0001928....753,0001929....509.000

There was nearly a 35% increase in theconstruction industry between 1921 and1922. This was the sharpest rise for theentire period known as the Roaring 20s.Once the peak was reached in 1925, even1939 levels would be 20% below that whichwas recorded during 1922.

One issue that also helped the U.S. mar-kets at that time was the severity of theforeign loan situation. In February 1922,President Harding called a conference atthe White House. In attendance were Sec-retaries Hoover, Hughes and Mellon, alongwith representatives from the banking in-dustry and the bond- issuing houses. Presi-dent Harding had become alarmed at thenumber of foreign bond issues which werebeing floated in the States. Individualsfrom overseas, as well as representativesfrom foreign governments, were coming tothe U.S. financial markets to raise capital.They offered rates between 5% and 8% toattract badly needed capital. As the moneyhad flowed to the U.S. from overseas inves-tors, Europes cash flow was in jeopardy.Many became concerned over the securityof many of those bond issues and the out-flow of capital had even driven the dollardown on foreign exchange markets.

It was agreed at the White House confer-ence in early 1922 that any foreign bondissue be submitted to the State Departmentfor its opinion. The State Department inturn referred the submission to the depart-ments of Commerce and the Treasury. TheCommerce Department ventured theiropinion as to the security and repaymentability of the intended borrower, whereasthe Treasury ruled on governmental issuesas to their political desirability. A publicnotice to that effect was eventually made onMarch 3, 1922.

The big New York banks complainedabout the restrictions and, in fact, the Gov-ernor of the New York Federal Reserve,Benjamin Strong, filed a protest with theState Department in April 1922. BenjaminStrong would eventually, in my opinion, al-most single-handedly create much of thedamage that caused the panic of 1929. Dueto Strongs attack upon this policy, Presi-


39


40


41

BRITISH POUND

U.S.

Dolla

r per

Brit

ish P

ound

MONTHLY: 1922


4.65

4.6

4.55

4.5

4.45

4.4

4.35

4.3

4.25


42

DUTCH GUILDERU.

S.Do

llar p

er D

utch

Gui

lder

MONTHLY: 1922


0.396

0.394

0.392

0.39

0.388

0.386

0.384

0.382

0.38

0.378

0.376

0.374

0.372

0.37

0.368

FRENCH FRANC

U.S.

Dolla

r per

Fre

nch

Fran

c

MONTHLY: 1922


0.094

0.092

0.09

0.088

0.086

0.084

0.082

0.08

0.078

0.076

0.074

0.072

0.07

0.068


43

SWISS FRANCU.

S.Do

llar p

er S

wiss

Fra

nc

MONTHLY: 1922


0.196

0.195

0.194

0.193

0.192

0.191

0.19

0.189

0.188

0.187

0.186

0.185

0.184

0.183

0.182

0.181

0.18

Changes in N.Y. Fed Discount Rate

Rat

e of

Inte

rest

in %

1922

J

4.5

4

3.5

3

2.5

2

1.5

1

0.5

0


44

dent Harding retreated and reduced therestrictions to merely passing its opinionupon the foreign political implications of aforeign bond issue. This was a serious errorthat would eventually come back to hauntthe stability of the entire economic struc-ture.

The year 1922 was a year of strange pros-perity. Passenger car production soared torecord levels well above those of 1917 and1920. The CPI declined from 1921, stillyielding a sense of deflation that aided inthe confusion for many analysts. Producerprices declined by a mere fraction whileGNP rose to new record highs. Businessinventories had reached a record swingfrom a plus $12 billion in 1920 down to anegative in 1921. Inventories rose onlyslightly in 1922, reflecting that many goodshad actually fallen into short supply. Unem-ployment dropped from the 1921 recordhigh of 11.7% in 1921 to 6.7% yet exportswere beginning to decline, indicating thatmuch of the boom was created by a buoyantdomestic recovery.

All things considered, the greatest importof the United States during the 1921 periodhad been foreign private capital. This in-flow helped support the stock market andadded greatly to the recovery of 1922. Butby the end of 1922, U.S. exports had de-clined and foreign bond issues seeking ahome in the U.S. financial community hadchanged the trend in the dollar and set anew invisible hand at work on an interna-tional level to both create and destroy thegreatest bull market in history.


45

As 1923 dawned upon the annals of time,the stock market initially consolidatedto very quiet trading during January, pri-marily on European news. But the DowJones Industrials had held the November1922 low. February suddenly turned with avengeance against the numerous profes-sional short interests. The market stormedstraight up, exceeding the 1922 highs byreaching 104 and closing near that level inFebruary.

The Federal Reserve, in June of 1922, hadlowered the discount rate to 4%, but wheneconomic activity began to rise, the Fedbecame frightened of potential inflation. InFebruary the Fed raised the discount rateabruptly back to 4.5% after the stock mar-ket rallied. But despite this factor, the mar-ket pushed higher into March nearlyreaching 106. Call money had traded be-tween 6% and 2.75% in 1922 and it was inFebruary 1923 when call money peaked at6%, matching the 1922 high and only gradu-ally declining into the summer months,where it bottomed at 3.5% for 1923.

The stock market had become a barome-ter of the general business expectations. Inthe March 24, 1923 edition of Time maga-zine, the financial commentary had this tosay:

"The financial markets reflected the cur-rent situation in general business severalmonths ago; the discounting performed bythe stock market last fall is now quite clearto everyone. (Sharp decline from 1922high.) The problem now before the securi-ties markets consists of similarly forecast-ing what the situation will be next autumn.The present rate of industrial productionhas accelerated so swiftly that doubts arenow beginning to be entertained in WallStreet as to the ability of this movement toendure. As a result, prices of shares on theStock Exchange have proved irregular athigh levels, with speculative reactions andrallies of only day to day significance.Meanwhile, gilt-edged bonds have provedsluggish and have shown an unmistakabletendency to decline under the prospect, al-ready realized in some measure, of highermoney rates. Weaker bonds, however, have


46

risen rather than declined in many in-stances, owing to their improved positionfollowing better corporate net earnings.French government dollar issues haveproved strong."

Here we find that the commentary in early1923 chose to take the decline in the stockmarket as a leading indicator, despite thefact that corporate earnings, industrial pro-duction, and the U.S. economy had becomea slowly evolving shelter for foreign capital.Even the French government had beenforced to issue bonds in U.S. dollars in or-der to find a marketplace. The sharply de-clining European economies had set-off ashift in international wealth and investmentwhich favored the U.S. economy. Althoughthe 1922 rally was sharp, swift and largelyfueled by foreign capital flowing from Brit-ain, Germany and France, the true underly-ing trend was not noticed by the analyticalestablishment at that time. Instead, theyremained very pessimistic, perhaps influ-enced by the poor business conditions over-seas and the reluctance of the Dow to punch

through into new territory above the 106level. After all, every time the Dow hadpenetrated above 100 it had always col-lapsed back, as in 1907 and again in 1920.

Europe remained in disarray. In Ger-many, Adolf Hitler was sentenced to fiveyears imprisonment after the failure of theuprising that became known as the 1923Beerhail Putsch in Munich. Germany haddefaulted on its reparations, promptingeven the United States stock market to de-cline to some degree. The French and Bel-gian troops invaded the Ruhr and occupiedthe Memel area near Lithuania. In Ger-many, Chancellor Cumo, called for passiveresistance but his policy yielded little, if any,results. The attacks by extremists on therepublic continued. It was after the "Cabi-net of the Great Coalition" under Chancel-lor Gustav Stresemann when martial lawwas proclaimed in Germany and Hitler wasjailed.

Nonetheless, it was the classic chicken orthe egg dilemma for the U.S. financial mar-


47

kets. Was the sharp decline into 1923, fromthe March high of 87 points into July, anomen of what was to come or was this aconsolidation phase as Europe tried to pickitself up with issuing bonds in dollars?Hindsight has graced us with the ability tonote that the wave of industrial innovationand expansion was the leading factor. Sec-ond, the grave concerns that had broughtcapital to the States from Europe were sub-siding after the massive devaluations. Asthe cash eased on its flow into the U.S., thestock market had proved to be a haven forinternational capital. The peak of the mar-ket coincided with the low in the dollar asEuropean currencies began to decline intoearly 1924. The British pound had peakedat $4

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