Peering Over the Cliff, Saying 'I Told You So'

James Grant, whose cluttered office at Two Wall Street overlooks Trinity Church, has been warning about financial disaster of one form or another for nearly 25 years. Two years ago, for example, when the now-beleaguered Morgan Stanley was trumpeting a 61 percent jump in profits, Grant wrote a pessimistic analysis titled "over the cliff with Morgan Stanley."

Now much of the financial industry has gone over the cliff. And as one of the most incorrigible bears on the street, the editor and author of the gloomy Grant's Interest Rate Observer should be doing a victory lap and saying "I told you so."

When reached by phone yesterday, Grant tried not to gloat. "What are the costliest words in finance?" he said. "One is 'it's different this time' and the other is 'I told you so.' It brings down the wrath of the gods."

The gods have sent down plenty of wrath already, so much that even Grant admits he has been surprised by the "ferocity and violence" of events that have shaken the financial world over the past two weeks.

"Nobody has been bearish enough," Grant said. "I, looking back on it, was not nearly enough of a calamity hollerer. What you did not read in Grant's was that the socialization of credit risk, a long-run trend, would yield in a few weeks an outright nationalization of our financial system. That sentence we did not write. So many things have happened in so dramatic and so violent a way that one is thunderstruck."

Kenneth Rogoff, an economics professor at Harvard University and former chief economist of the International Monetary Fund, also has reason to point to his foresight. At a conference a year ago, he predicted that a major bank would fail. In July he doubted Treasury Secretary Henry M. Paulson Jr.'s assertion that Fannie Mae and Freddie Mac could remain in the same form. They were "toast," Rogoff said.

And then a month ago, after many analysts thought the worst of financial instability had passed with the rescue of Bear Stearns, Rogoff told another group that more failures were on the way among the financial institutions that had been reporting awe-inspiring profits and annual bonus payments in the tens or even hundreds of millions of dollars.

"We on the outside have been saying: 'How is it possible to manufacture money like that? How can Goldman give out those bonuses? How could financial services be a third of the economy?' " Rogoff said. "And the answer was that it was taking much bigger risks than it should have."

Profiting from that sort of wisdom is no easy thing, however. Charles D. Zender, co-portfolio manager of the Grizzly Short Fund at Leuthold Weeden Capital Management in Minneapolis, says that his fund has been betting largely on a decline in financial stocks for the past two years. Recently it has been betting against some consumer discretionary shares. It has about 75 equally weighted positions.

But Zender cautions that the fund is one of the smallest at Leuthold Weeden, where other funds search for stocks that will rise. "Our philosophy has always been that there have been up markets and down markets," he said. "They go up about 70 percent of the time and down about a third of the time. This is one of those ugly times."

That's made the Grizzly fund look like a beautiful creature -- at least for now. It was up 40 percent from Jan. 1 through the close of business Wednesday. It was down 5 percent or so Thursday. It isn't meant to be a buy and hold fund, he says; over the past five years, its returns are slightly negative.

"Who knows where it will be tomorrow," Zender said.