Byron R. Wien, Morgan Stanley Dean Witter's top U.S. stock market strategist, broke bread recently with TSC's chief market writer Brett D. Fromson. They talked about the market, presidential politics and America's entrepreneurial culture. Wien also reviewed his 10 Surprises of 2000 forecast, which he wrote in December of last year. To see how well prognosticator Wien has done so far, read on.

Fromson:

Byron, you recently subtitled one of your reports to clients "Too Much Complacency." Explain please.

Wien:

I believe that there is too much complacency. People say they are worried, but nobody's doing anything about it. People are concerned that the market isn't going up anymore, that it's getting harder, that you can lose money. You know, it

is

a stock market. You can lose money, but most people have forgotten that. Well, if you bought a lot of technology stocks on March 10, you lost a lot of money -- a lot of money. Very few people bought on March 10, but they may have bought on February 10, so they're still losing some money.

The important thing is, this thing went down and it isn't coming back up again. There's a lot of lore on this. If you have a 90% down day -- that means that 90% of the volume of the

New York Stock Exchange

is down, as it was on April 14, then usually, in four to seven days, you have a 90% up day as you did, for example, on October 19, 1987. Now that makes sense. If you had a real selling climax, you would expect it to be followed by a day of great buying enthusiasm. But if you don't get a 90% up day, it usually means you're going to test that old low and go lower because you have unfinished business. That's where we are right now.

"We have to reintroduce the concept of risk to investors."

The most ominous thing about the market right now is the low volume. That means that people have suffered; they don't want to sell because every dip is a "buying opportunity" and don't want to look foolish selling now if this is going to turn out to be another buying opportunity. But as the evidence rolls in, it doesn't look like another buying opportunity. It looks like it's dangerous. And that would be the thing. We have to reintroduce the concept of risk to investors.

Fromson:

Well, now the notion that they don't want to sell is not because they have losses, but that they are afraid of seeming to be foolish?

Wien:

They're afraid of being out. Everybody wants to be fully invested. They don't view cash as a constructive place to be.

Fromson:

What's your current recommendation to your institutional clients? What's your allocation?

Wien:

Well, I have 85% stocks, 15% cash. The most cash I ever would have would be 30%. So I'm almost halfway there. I've been to 20 and I'm at 15 now.

Fromson:

OK, how do you square 85% -- I sort of know the answer but I'm going to ask you anyway -- how do you square 85% equities with ...

Wien:

... with a cautious view? Well, I don't think it's a bear market. I think it's a severe correction. And also, I'm advising institutional investors whose mandate is to basically fully invest. So 15% ... believe me, 15% is more cash than anybody has.

Fromson:

Or they'd want to have?

Wien:

Right. I mean, every place I go and tell everybody to have 15% cash, and I get a fight. I don't get anybody asking me, "Why don't you recommend 30%? I already got 15%." That doesn't happen.

Fromson:

So, how have you been doing on your 10 surprises for 2000?

Wien:

The first one is that interest rates are going to go up. I said that at the beginning of the year. Most people thought interest rates were going to go down because they thought inflation was dead, the budget was balanced and we were in a disinflationary environment for sure. They thought that long bond yields should come down further, and they did. But now they've gone up the last three weeks. The 10-year bond has gone from 6% to 6.5%.

Fromson:

When was the last time we saw a 6 1/2 on the 10-year?

Wien:

I don't know, but it's going higher. So that's the first surprise.

Fromson:

Before we get too far into this: Is this is a correction or a bear market?

Wien:

It may go down more than 20%, but it's not a bear market because it isn't the precursor of a recession. Earnings are still going to be up year over year. It's a valuation correction; the stock market was overpriced.

Fromson:

So you don't see a recession down the road?

Wien:

No.

Fromson:

Because?

Wien:

The

Fed

is going to steepen the yield curve, but that's to slow the pace of the economy. The economy is too strong. The Fed can heighten interest rates to slow the economy, but it doesn't necessarily mean that it'll throw it into a recession. We have more people working than ever before. The U.S. is spending money on productive things. We are not spending money on defense. The budget is balanced. The U.S. is the political, economic and military leader of the world. So, I just don't see us going into a recession. The excesses in the economy are in stock market valuation. There isn't a big inventory hang. There haven't been excesses in capital spending. The things that usually produce a recession just aren't in place.

Fromson:

But you're not ruling out the business cycle as a phenomenon, are you?

Wien:

No. I still believe we'll have business cycles. I just don't think we're on the brink of a recession.

Fromson:

OK, let's get back to these surprises.

Wien:

The second one is: The Fed tightens a lot more in the beginning of the year. Everybody thought the Fed might do 25 or 50 basis points. My feeling was that was crazy. The economy was hot as hell in the beginning of the year, and there's never been a cycle in which the economy got really strong where it didn't take 200 or 300 basis points to slow it down. So I was saying that they'd do at least 100. I really thought more than that, but that was the number. I thought the Fed would do a lot more tightening.

Fromson:

What is your view going forward?

Wien:

The May 16 hike isn't the end of it. They're going to do more after. I think rates are going up 100 basis points from here.

Fromson:

What would be the meaning of that for both stocks and the companies that underlie the stocks?

Wien:

Well, so far the linkage between interest rates and the stock market has been pretty loose. The stock market has gone up when rates are going up; it's gone up when rates are going down. There's no correlation. But right now, I think if 10-year rates go to 7%, which I think they will, then the stock market will crumble.

Fromson:

Because?

Wien:

Well, interest rates do matter. Higher interest rates mean you discount long duration stocks by those higher rates. Therefore, if you have a 7% long bond, you're taking the future earnings of, say, an Internet company, which isn't going to earn anything until 2003, 2004 or 2005. You're discounting them back by a higher number, so the present value should be lower.

Fromson:

Greenspan

. What kind of marks do you give him?

Wien:

Good. I think Greenspan's done a great job. His job is to do the right thing and not reveal his hand before he does it. He's done a good job.

Fromson:

Do you think he's behind the curve in raising rates?

Wien:

Maybe he should have moved a little earlier, but I think he wants to see more evidence. So, he was probably looking for more evidence. I don't know. It's easy to say that he was behind the curve. He should have acted earlier. But to some extent, he had the prevailing view -- that we're in a perfect world. And he was already getting a of lot political heat because he was thinking about raising rates. People were arguing he didn't need to. Some would say he's politically independent, but I think he doesn't want people to storm the building.

Fromson:

Particularly our senators.

Wien:

Yeah, so therefore I think he wanted the news to be more inside, and so perhaps waited. It looks like he waited longer than he should have.

"People don't matter to Wall Street. Numbers matter."

Fromson:

What would happen if the market lost confidence in Greenspan's ability to engineer a soft landing?

Wien:

People don't matter to Wall Street. Numbers matter. It's an invention of journalists that the market cares that much about Greenspan. I've lived through lots of Federal Reserve chairmen and every one of them was "indispensable." For the first, I don't know, 12 years of my career, there was a guy named

William McChesney Martin

who was chairman of the Federal Reserve. I thought he had been chairman of the Fed since 1913. It just seemed like he was always there. And then one day it was clear that he wasn't going to be Federal Reserve chairman. And it did not really matter. If you look back into history ... I don't know how many Federal Reserve chairmen we've had in the past 35 years, but every one of them has been "indispensable" -- except for one, a guy named

G. William Miller

. He was an idiot.

Arthur Burns

, I remember when he was -- "Oh God, what if Arthur Burns leaves?" He left. People leave.

Paul Volcker

, you all remember -- "Oh God! The world would come to an end if Paul Volcker left."

Fromson:

Volcker still is viewed on Wall Street as the most heroic Fed chairman.

Wien:

I agree with that. But anyway, Greenspan has a shot at being viewed as the best ever simply because he presided over the Federal Reserve during the greatest period of prosperity. You can make the argument that Volcker was really the greatest because he came in at the most difficult time, did the courageous thing, raised interest rates severely, slowed the economy down and broke the back of inflation. While he put the economy into the worst recession since the 1930s, that was the price he paid for doing the right thing.

Fromson:

Let's continue on.

"The right thing always happens on Wall Street. There's no politics. Wall Street is pure talent."

Wien:

OK, so the third one is on politics, I think that one was naive. What happened was that the Republican and Democratic national committees said, "Look, we can't let these mavericks get too far because they're tearing apart our candidates." The Republican national committee called every senator, congressmen, governor and said, "Don't support

McCain

. If McCain is still a candidate when we get to the convention, McCain will have so damaged

Bush

that he'll never beat

Gore

. So the only way we can win in November is to get McCain out of the race early, so for godsakes don't support him." And they didn't.

Fromson:

Just to restate, your prediction of surprises was that the Democrats would nominate

Bradley

, and the Republicans McCain. You feel that you were perhaps a bit naive. Why was that? You're not typically idealistic when it comes to the workings of Wall Street.

Wien:

No, we

are

idealistic, the right thing always happens on Wall Street. There's no politics. Wall Street is pure talent. Your stupidity and brilliance is measured by eighths and quarters all day long. I mean, this isn't the real estate business where you build a building, it takes three years and it's either filled or not. This is something where you know right away whether a guy's any good. And the right thing always happens because there is one definition of the right thing: Are you worth your money or not?

The right thing is defined by what works. So I thought that McCain was a better guy than Bush. If he were a stock, McCain would have sold at a higher price. But he isn't a stock, he's a person in the political process. He challenged the establishment, so he ended up selling at a lower price. But if he were a stock, he would have been

Intel

(INTC) - Get Report

or

Cisco

(CSCO) - Get Report

.

Fromson:

And Bradley?

Wien:

I gave money to both these guys. Bradley thought that since he was the better man everyone would recognize the better man and he would be nominated. But that doesn't work. He had to really fight for it. When I select people for jobs, they have to want the job. They have to really convince people that they really want this job. People who want a job -- who want to do well at a job if they have reasonable talent -- will succeed. Bradley didn't convince people that he really wanted it all that much. He wasn't enthusiastic about it. Then the heart thing happened, and I think that hurt him. Look, I make a political prediction every year and it's almost always wrong. The one thing I think I do have right is that the Democrats will take the House

of Representatives. That's number three.

Fromson:

We'll give you partial credit on that.

Wien:

Well, they haven't taken the House yet. And that's the only one that matters from a stock-market standpoint.

Fromson:

Here is something near and dear to the hearts and pocketbooks of many

TheStreet.com

readers, and that would be number four.

Wien:

Number four was a great insight. It was a gutsy thing to say. I mean, to say that the Internet meets its Waterloo and that stocks are going to be down 50%. I mean, I can't tell you the grief that I took internally about that one.

Fromson:

Why don't you tell us about the grief you took internally, without naming names?

Wien:

You know Internet stocks were soaring, and I was saying, "Look, they're going to get into terrible trouble," and they did.

Fromson:

And your logic there was?

Wien:

Valuations didn't make sense. It's not over yet.

Fromson:

Why don't you talk to us a little bit about what has happened and what will ...

Wien:

First of all, Internet stocks went even higher, and now they've come down a lot, but they're still expensive.

Fromson:

And can you break them down?

Wien:

I break them down into e-tailing and content stocks; those stocks are in terrible shape. Even personal computers and hardware companies only declined 25%. Cisco, Intel and others suffered but not as much. The Internet is the most powerful business phenomenon in our lifetime, but the stock prices were discounting a profitability that was unlikely to come true.

Fromson:

What then do you see going forward with these stocks?

Wien:

There are a few companies in every segment that will do well, but there are hundreds of companies out there. I think

Mary Meeker

, who knows a lot more about this than I, says that 70% of all Internet IPOs will sell below their offering price. Of the remaining 30%, she had said that 20% were overvalued, but now I think she'd say 20% are undervalued and 10% are overvalued. The point is the only stocks we're recommending are the market-dominant stocks -- but that includes

Amazon

(AMZN) - Get Report

and

eBay

(EBAY) - Get Report

and

Ariba

(ARBA)

and

Broadcom

(BRCM)

. There are a number of stocks even in e-retailing, business-to-business --

AOL

(AOL)

and

Yahoo!

(YHOO)

service providers -- that we have a lot of conviction in.

Fromson:

And the conviction relates to what?

Wien:

They will be survivors. They will dominate the area, and they will eventually profit. But it doesn't mean they still aren't overvalued. The important message here is this is not an area where you can buy the stocks across the board. You have to be very selective.

OK, the next one was the first one I got right, I mean some of these are working out, but this one is very specific -- that the price of oil goes up over $30 and stays there. It hasn't stayed there, but it's stayed pretty close to it.

Fromson:

And do you think it'll hold at that level?

Wien:

Above $25. That was very controversial, even among our oil analysts at the beginning of the year.

Fromson:

Well, what were they saying?

Wien:

Well, first of all, the price of oil, I think, when I wrote this, was probably $20.

Wien:

Every year I pick some stocks, and as bad a record as I've had on political calls, I've had a fabulous record on picking stocks. And among them, six stocks this year are in the oil service area.

Fromson:

And the stocks you have here for oil services are

Halliburton

(HAL) - Get Report

,

Schlumberger

(SLB) - Get Report

and

Smith International

(SII)

. I take it they've all rallied strongly.

Wien:

Some better than others. Smith has done extremely well.

Fromson:

Are they all up?

Wien:

Yes, they're all up. Then there are three hospital management stocks.

Fromson:

That's number six on your list.

Wien:

Right. Everybody who hated that sector at the beginning of the year still hates it, and these stocks have done well.

Fromson:

That's

Columbia HCA

(COL)

,

Tenet

(THC) - Get Report

and

Health Management Associates

(HMA)

. They're all up this year?

Wien:

Yeah.

Fromson:

And what was your basic argument here?

Wien:

You can't solve the health care problem in the U.S. without benefiting the hospital management.

Fromson:

Because?

Wien:

Because you have to allow them ... they're like utilities. The government has squeezed them too far and you really need someone to provide the health care facility.

OK, number seven -- this one I got sold the gold goods.

Fromson:

Oh, you were wrong on the euro, Byron.

Wien:

I thought -- and still think -- the euro is undervalued.

Fromson:

What have you said more recently about the euro?

Wien:

What I've said more recently about the euro is, nobody seems to understand why it's so weak, and it's a bigger deal than people are saying.

Fromson:

Explain.

Wien:

The euro is gone. It started at 117. It was weak all year last year, is now 90 cents, and nobody has come up with an explanation for why it's so weak.

Fromson:

Do you have any thoughts?

Wien:

There's something wrong in Europe, like maybe the euro won't work; maybe the European Monetary Union isn't a good idea. But in a way Europe benefits from the weak currency of the euro. Europe is becoming a Latin American republic: Weaken the currency, export more, provide more jobs and relieve certain social political pressures. I don't know, but I'm worried there's something deeper -- that there's something wrong in Europe. When a Latin American country devalues, it's usually not a positive step -- it's usually a sign of weakness. And in effect, Europe is being devaluated.

Fromson:

But you don't get what underlies that.

Wien:

What I'm saying is, it's like the stock market correction. Everybody is saying, "Oh well, the market's down, but it does this every year. Every year it goes down 10%, but don't pay attention to it. Buy it; buy stocks because they're going up again." And everyone's saying about the euro: "Don't worry about it; it's good not bad." Our European strategist, for example, has increased earnings estimates from growing at 16% a year to 20%, so therefore it's good for earnings. A weak euro is good for earnings.

Fromson:

If you hedge the currency; if you're an American investor.

Wien:

It's expensive there to invest.

Fromson:

If you were an investor, what would you say to someone who asked you that question, which is: "I want to invest some money in some European countries. Should I hedge the currency exposure?" What would you say?

Wien:

I would say no, because I think the currency is cheap. But I would say no at par too.

Fromson:

So you're not making the argument that it's expensive to hedge. You're making a more fundamental argument that you don't think the currency is that overvalued to begin with, so don't bother.

Wien:

No, what I'm saying is, now you can make money on both the currency and the market.

Fromson:

So -- not that Morgan Stanley necessarily asked you to be their European strategist -- but nonetheless, let's ask you anyway: What is your view on European stocks?

Wien:

It's not my view, but our official view is, Europe is attractive.

Fromson:

Both the growth prospects and the valuation?

Wien:

Yes.

"There's something fishy going on with the euro."

Fromson:

And the currency? What do your currency guys say?

Wien:

Our currency guys say that the euro is going to 115. They never changed that. But now they're going to have to revise. ... Then I said Japan would go back into recession and it has but the market has done all right.

Fromson:

And that reason is?

Wien:

Because now they're having a good quarter. They had a recession in the fourth quarter, but now it looks like this quarter is going to be very good. So everyone is saying everything in Japan is fine, I'm not one of them.

Fromson:

Because?

Wien:

They're not moving fast enough on restructuring. They're moving very, very slowly because they know if they restructure and put all kinds of people on the street, consumer spending will dry up and earnings will be affected. So they're moving very slowly, as they usually do in Japan. So I view that as a negative. But the bulls on Japan say that they may be moving slowly, but they're moving. So therefore we're positive.

Fromson:

Now is

Morgan Stanley Dean Witter global strategist Barton Biggs bullish on Japan?

Wien:

Yes.

Fromson:

I thought he was.

Wien:

Barton is very bullish on Japan.

Fromson:

And I think still quite bearish on the U.S.

Wien:

Yes.

Fromson:

So relatively speaking, you are more bullish. One can hardly be more bearish on U.S. stocks than Barton.

Wien:

I'm more bullish than Barton.

Fromson:

And less bullish about Japan.

Wien:

Right.

Fromson:

Do you agree on Europe, you and he?

Wien:

He's sort of positive on Europe. I don't have a real opinion on Europe. I feel he's more bullish on Europe than I. I think that's fair to say. I'm not as bullish on Europe.

Fromson:

Because?

Wien:

Because there's something fishy going on with the euro. Because the key to economic success in the 21st century is entrepreneurial growth, and I don't think Europe fosters that tradition. So therefore it's all restructuring and mergers. But I was in Europe last weekend, and Europe is booming. I mean the economic activity in Europe is vibrant, so maybe I'm too pessimistic.

Fromson:

Even more so than here?

Wien:

Yes.

Fromson:

And is that reflected in their GDP figures?

Wien:

Doesn't come out yet.

Fromson:

Question: You were saying about America -- about any economy in the 21st century -- that the key would be entrepreneurial energy and activity, and there's no question that the U.S. is the center still for that impulse. Do you see that changing at all?

Wien:

No. Why should it change? In the U.S. you still are what you do. That's not true in Europe. Who your father was, where you went to school -- those things are important. Everyone wants to come to the U.S. That's why you wanted to come to the U.S., right? I think people in the U.S. believe that if they are talented, they will succeed. I don't think there's that same level of optimism. And you'll succeed at every level: the best schools, you'll get the best jobs and you'll succeed in the jobs when you get them. This changed even in my lifetime.

You go to a party in New York, and the people who everybody wants to talk are the people who are doing the most interesting things, not the people who come from the oldest family. With the exception of the U.K., where this is also happening, the opposite is true elsewhere. So entrepreneurship is the answer. Just look at the last 20 years: The U.S. has created 75 million new jobs and has eliminated 44 million. So, 31 million net new jobs. Europe has created 500,000 new jobs in that period of time, all in the public sector.

Fromson:

Do you see that there has been some concern in some quarters that governments in the U.S. -- state and federal level -- are perhaps not as supportive of this underlying impulse as they were a couple years ago?

Wien:

I don't have an opinion. State and local government costs are rising fast. They're offsetting the fact that the federal government is running a surplus.

Prediction nine was the

Russell 2000

outperforms the S&P. That is happening, but for a long time the Russell was up and the S&P and Dow were down. Now the Russell is down too.

Fromson:

And the basic logic there was what?

Wien:

Small-caps were ignored and it was a big-cap market.

Fromson:

Would you say that there has been some kind of a bubble in big-cap vs. small-cap?

Wien:

I don't know. The word "bubble" implies that stocks are going to collapse. I think big stocks were more overvalued than small stocks, but I don't know if I'd ever use the word "bubble."

"There are a lot of dull newspapers out there."

Fromson:

Would you still hold to this thought that small-caps still offer significantly greater value?

Wien:

Oh yeah.

And then the last

prediction is just on some long-term trends. I think global warning is exaggerated. I think biotechnology is very interesting -- life expectancy is going to be greater -- and I think the private sector is going to have a major role in education. So that's it. That gives you a good run around the world. I would emphasize the fact that I am the U.S. strategist, I am not the global strategist, so once a year the firm allows me to comment on any place in the world I want just because there's a lot of interest ...

Fromson:

Well, you're a good sport to do it.

Wien:

But I do not have any responsibility for any markets outside of the U.S. I have been offered that responsibility from time to time, but I've always declined it because I said I didn't see how I could do any kind of global job without reading

The Financial Times

, and I will not read

The Financial Times

for any reason whatsoever. It is the world's dullest newspaper -- a hard title to win. There are a lot of dull newspapers out there.

Fromson:

It wasn't a question of the color of the newsprint?

Wien:

No. That doesn't bother me. I like pink. I read

The New York Observer

, word for word.

Fromson:

Let me ask you before you go whether or not you think it makes any difference whether Gore or Bush wins.

"The best circumstance would be the one that we have: the Jeffersonian concept where the best government is the government that does nothing."

Wien:

It does not make any difference. ... Bush believes that we should cut taxes drastically; we already have an overheated economy.

If the Republicans were to take the House and Bush were to advance his tax-cut proposal, which is $700 billion over five years, it would heat up the economy to a fever pitch and then the Fed would really have to tighten, so I think that would be really bad.

On the other hand, Gore has some spending proposals that I think are very ill conceived. So the best circumstance would be the one that we have: the Jeffersonian concept where the best government is the government that does nothing, where the president is of one party and the Congress of another, so nothing gets through. That's what we've enjoyed in the

Clinton

administration, so that's why we're experiencing this great prosperity. So, the best outcome would be a Republican House and a Democrat president or vice versa.

"The only way to manage a hedge fund is to be a truly boring person and have it dominate your life."

Fromson:

I have to ask before we go -- two or three guys recently left the business, guys I know that you know and have dealt with over the years:

Julian Robertson

,

George Soros

and of course his first lieutenant,

Stan Druckenmiller

. What did you make of those departures?

Wien:

It's very difficult to manage very large amounts of money well, on a performance basis -- to manage a big hedge fund. So it raises a question of whether you can really deliver excellent, outstanding performance on a consistent basis. Two, it raises the issue of whether hedge funds can be regenerated, whether they can live after the genius of the founder. Both Soros and Julian wanted a fund that would go on after them, and Soros really thought he had it with Druckenmiller.

Fromson:

For 12-plus years.

Wien:

And Druckenmiller would have taken it forward, but in the end it was too frustrating and Druckenmiller said it was just too big. But it has no greater philosophical significance, I don't think. Robertson was a value investor who picked some value stocks in

Federal-Mogul

(FMO) - Get Report

and

US Air

(U) - Get Report

that didn't work.

Fromson:

Waste Management

(WME)

was not a good investment, either.

Wien:

Well, they both owned that. Soros was in trouble last year, but he hired a guy named

Carson Levitt

who put them into

Qualcomm

(QCOM) - Get Report

and all sorts of technology stocks and he had a very good year. Then they kept with the technology stocks and on March 10, they collapsed. So technology helped him last year but hurt him this year.

Fromson:

Do you think there's any correlation between age and successful investing? Because I was talking with

Bob Wilson

a couple of weeks ago and I said, "Well, Bob, you've been retired since '86. How do you feel about that?" He said, "It's the best thing I ever did," because he underperformed the S&P for three consecutive years. So he got out. He said, "If I stayed in I probably would have blown up, I don't think I could have made money going forward, I just wouldn't have been nimble enough to understand what was going on around me." Do you think there's any truth to that?

Wien:

No, I'm older. I'm almost as old as all of them. It has nothing to do with that. What it has to do with is your stage of life. When you're trying to make it, the fund is your dominant interest in your life. Succeeding, developing performance and reputation are the only things you think about.

When you get older you think about mortality, the fact that you are older; you think about why you made a lot of money and what you're going to do with it. So you buy things with it, as some do, or you go around the world and look at flowers as Bob Wilson does, or give it away like George.

But the only way to manage a hedge fund is to be a truly boring person and have it dominate your life. For the best hedge fund managers, that's all they think about. They are consumed by their responsibility. I've been asked this question by a lot of reporters. They all want me to say it's a young man's game, but it isn't related to age. It's related to: What are the priorities of your life? If performance is the top priority, then do it.

Fromson:

That begs one question: How many guys, as they get older, having been successful, can maintain that intensity of commitment?

Wien:

Not too many.