Warren Buffett's Mentor Was A Crappy Hedge Fund Manager

Jack Bogle, the outspoken godfather of index funds and passive investing strategies, didn't approve of a recent Wall Street Journal article defending hedge funds.

In particular, he took issue with the author's reference to Benjamin Graham, the legendary Columbia finance professor who literally wrote the book on Security Analysis and mentored Warren Buffett.

Bogle wrote a letter to the editor. Here's an excerpt:

Citing Benjamin Graham as the first "hedged fund" operator is an especially unfortunate example. "The trick," Mr. Rice writes, was Graham's "clever way to make money . . . whether it [the market] continued to rise, or started to fall."

How did the hedged strategy work out in the bull market of the Roaring Twenties and thereafter? Thanks to Joe Carlen's recent book, "The Einstein of Money," we know the answer. Mr. Carlen carefully documents the returns earned in the "Benjamin Graham Joint Account" (the predecessor to Graham-Newman Corporation).

From 1929 through 1932 inclusive, the Graham account turned in a loss of 70%, compared to a loss of 64% for the S&P 500 Index. (Dividends are included in both cases.) "The strategy unraveled quickly," Mr. Carlen writes. "There was no longer any reliable advantage to be gained from that kind of hedging."

Some hedge fund manager. At least he didn't do much worse.

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The 40 Biggest Economies In The World

Here's a handy chart from Oppenheimer's John Stoltzfus.

It reminds us that a little bit of growth in the U.S. will go a lot farther than a lot of growth out of China.

And don't forget: Japan is the world's third largest economy, which shows just how high the stakes are as the country's leaders embark on extremely aggressive monetary policy.

"Germany’s 4th place position and relative size to the top three economies adds credence, in our view, to expectations that the European monetary union and its singular currency (the euro) will outlast skeptics," added Stoltzfus. "In aggregate the countries of the EMU, even in austerity and recession, nearly rival the size of the US economy."

Oppenheimer

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The Stock Market's Current Valuation Is Just Right For A 'Rational Exuberance' Scenario

Ed Yardeni

$('.icon-tooltip').tooltip();NOTE: This post was first published on June 10, 2013.

Let’s return to the question of how much investors should pay for growth. Since 1995, Thomson Reuters I/B/E/S has been compiling analysts’ consensus short-term earnings growth (STEG) expectations over the next 12 months (52 weeks since 2005) for the S&P 500. Data are also available for long-term growth (LTEG) expectations over the next five years. The latter series peaked at a record 18.7% during August 2000, just when the Tech bubble burst. It then declined to a low of 9.4% during May 2009. At the end of May, it was 10.9%.

We can compute a PEG ratio for the S&P 500 using the forward P/E and dividing it by LTEG. This ratio recently bottomed at 0.93 during the week of November 24, 2011. It is now back up to 1.30. Is that too high? Not really: It is back to the average of this series since 1995. Given that analysts’ long-term growth expectations are clearly optimistically biased, think of this average as the “normalized” fair value of the PEG.

In other words, the P/E is just about where it should be in our Rational Exuberance scenario, to which we assign a 60% subjective probability. P/Es exceeding say 15 would be more consistent with our Irrational Exuberance scenario (30%).

Ed Yardeni

Today's Morning Briefing: Pegging PEG. (1) The expansion is slow and old, and could last another four years. (2) How much should investors pay for slow but prolonged growth? (3) Pessimistic professor turns optimistic on next four years. (4) Running on fumes or on pent-up demand? (5) PEG is at normalized fair value. (6) The trend growth rate for earnings is 7%. (7) Forward earnings still rising to record highs. (8) Focus on overweight-rated S&P 500 Industrials. (More for subscribers.)

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9 Financial Events That Rocked Emerging Markets In The Last 30 Years

Turmoil has been coming to and from the emerging markets lately.  Borrowing costs have been rising as funds leave these asset classes.

To address this, the analysts  at Morgan Stanley published a massive 82-page report titled: "What If The Tide Goes Out?"  The addresses the idea of the "sudden stop."

What is a sudden stop? A stop or even reversal in capital flows into some emerging markets that dramatically reduces their access to international financial markets for a considerable period of time.

As the table below shows (via finansakrobat), this is not the first time the emerging markets have faced increasing difficulty tapping the capital markets.

"Most shocks that have created sudden stops in the last 30 years have not been big enough to engulf all of EM, nor did they affect systematically important countries first," write the analysts. "Rather, it was the combination of a shock to a vulnerable economy and contagion that spread the shock to other economies sharing a common characteristic with the economy at the epicenter of the shock."

Morgan Stanley

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DAVID BIANCO: Get Ready For The S&P 500 To Hit 2,000

Bloomberg Television

Deutsche Bank's David Bianco just unveiled its targets for the S&P 500 through 2015, joining peers David Kostin of Goldman Sachs and Andrew Garthwaite of Credit Suisse who also recently published their long-term targets on the S&P 500.

"We introduce a 2014 end target of 1850 and a 2015 end target of 2000 as the S&P PE climbs from about 15x today to 16x or higher," wrote Bianco in a new note to clients.

That may sound bullish, but those numbers are actually relatively cautious.  Garthwaite sees the S&P at 1,900 by the end of next year. Kostin sees it at 2,100 by the end of 2015.

Indeed, Bianco's short-term, tactical forecast calls for the S&P to fall 5%.

Still, Bianco's forecast is based on assumptions that may seem optimistic to some, especially those who believe valuations are already too high.

Here's Bianco:

Reduced recession risks and S&P EPS grinding higher despite macro challenges has increased investor confidence in EPS sustainability and shifted the debate from normalized EPS to normalized long-term interest rates. Interest rates staying lower than history, even after the Fed stops purchases, as moderate growth persists making for an extended cycle, should drive the PE higher. But, investor confidence in the sustainability of growth and low interest rates will take time. Hence, we think it’s a multi-year path to PE expansion.

One big risk that sticks out is oil.

"But a significant decline in oil (WTI <$85) is a risk to S&P EPS as this cycle matures," wrote Bianco. "An oil price decline would pressure S&P EPS via Energy earnings and weigh on global capex, which would challenge many Industrial and Materials S&P firms."

Here's a roundup of his new forecasts:

Deutsche Bank

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