Gross, the legendary head of the PIMCO bond trading department and
head of at that time the largest mutual fund in existence, came out with
an piece entitled “Dow 5,000” in which he said that despite the market’s
awful decline, stocks were still nowhere near as low as they should be on
the basis of economic fundamentals. As will be discussed in the next
chapter, this analysis was wrong since it concentrated on historical
growth of earnings, failing to take into account changes in dividend and
investment policies that impacted future growth. Here, within a period
of a couple years, you had economists claiming the right value for the
Dow was as high as 36,000 and as low as 5,000.
The bear market squelched the public’s fascination with stocks.
Televisions in public venues were no longer tuned to CNBC but instead
switched on sports and Hollywood gossip. As one bar owner colorfully
put it, “People are licking their wounds and they don’t want to talk about
stocks anymore. It’s back to sports, women, and who won the game.”^34
The bear market also left many professionals skeptical of stocks. Yet
bonds did not seem an attractive alternative, as their yields had declined
below 4 percent. Many looked to other, nontraditional assets that might
lead the way.
David Swensen, chief investment officer at Yale University since
1985, seemed to provide that answer. At the peak of the bull market, he
wrote a book, Pioneering Portfolio Management: An Unconventional Ap-
proach to Institutional Investment, that espoused the qualities of “nontra-
ditional” (and often illiquid) assets, such as private equity, venture
capital, real estate, timber, and hedge funds. Hedge funds—pools of in-
vestment money that can be invested in any way the fund managers see
fit, often in the nonconventional assets Swensen advocated—enjoyed a
boom.^35 From a mere $100 billion in 1990, assets of hedge funds grew to
over $1.5 trillion by 2007.
But the surge of assets into hedge funds drove the prices of many
unconventional assets to levels never before seen. Jeremy Grantham, a
successful money manager at GMO and a one-time big booster of un-
conventional investing, stated in April 2007, “After these moves, most
diversifying and exotic assets are badly overpriced.”^36 In comparison, in
90 PART 1 The Verdict of History
(^34) Paul Sloan, “The Craze Collapses,” US News and World Report Online, November 30, 2000.
(^35) The word hedgemeans “to offset,” as someone making an investment in a foreign market may
want to hedge, or offset, adverse currency movements with a transaction in the forward market.
Hedge funds often, but not always, took positions that were contrary to the stock market.
(^36) Jeremy Grantham, “A Global Bubble Warns against the Stampede to Diversify,” Financial Times,
April 24, 2007, p. 38.