100 Days in October

It works like this: Oct. 1 is opening day of the year's last quarter, and hedge fund and mutual fund managers who have done well in the first three quarters look at the fourth quarter as a fool's errand. If they're already well ahead of the Standard & Poor's Index?which is what they are measured against?why tempt fate?

So they sell, right off the bat. Load up to 50 percent, 60 percent, 66 percent cash, batten down the hatches and wait until the storm passes. As the selling occurs, the markets head south, as they did two weeks ago when the Dow Jones Industrial Average lost six percent of its value in five days.

Traders generally "buy on dips" in the market, but in October they don't. They wait. They're looking for the big dip, the absolute bottom. The thing is: Valuations have gotten so crazy, the P/E ratios so outsized, that no one really knows what constitutes "bottom" anymore. And the truth is, they don't want to know.

They want someone to tell them. So they look for signs and omens. The wholesale price report comes out and it's scary; inflation is back. They know what that means: the Federal Reserve will raise interest rates in response. A sell-off ensues. A couple of days later, the Consumer Price Index is released. It's benign; the "core" rate of inflation is actually down from last year. That's good news. The market rebounds somewhat. A day later, Microsoft reports fantastic earnings. The NASDAQ rallies.

The Street reacts to every piece of news with hypersensitivity. Good news travels fast, bad news travels at light speed. It's as if the entire trading community is on methamphetamines. They're wired and strung out at the same time. Paranoia is their only true thing.

This madness usually ends on Halloween. The markets congeal and rally to the sound of cash registers as Christmas sales commence. Traders breathe easier. Anxiety abates. Confidence returns.

But this year is different. October won't end on Halloween and it won't end on Thanksgiving or Christmas either. It won't end until the Y2K question is answered, which will be sometime in mid-January of next year. This year, October is over in January of 2000.

It is true that the Y2K computer glitch will have little impact on commercial activity here in the United States. You or I may choose not to fly to California on Jan. 1 and we may take the stairs at midnight on Dec. 31, but most everything here will work just as it did before.

And even if it doesn't, so what? Bank statements that tell us how much money we have on Dec. 30 will be accepted as accurate on January 2. Visa bills that say we owe $500 on Dec. 29 will be accepted as accurate on Jan. 3. All of our investments, retirement accounts and other financial holdings will hold their value, even if they digitally disappear due to computer failure.

There exists in the United States a political, regulatory and legal system that insures that what we have on Jan. 1, 2000, will be the same as what we had on Dec. 31, 1999. And despite whatever misgivings we might have about "the system," most of us expect that it will function just fine. No one believes the Chase Manhattan Bank will use Y2K computer glitches to rip off its customers, or that it would ever be allowed to do so. There is great confidence that whatever problems arise will be properly handled by "the system."

But there is no such confidence in the political, regulatory and legal systems of emerging market countries. And there is no evidence than any of the major emerging market countries?like Mexico, Argentina and Russia, to name but three?have done anything like what has been done here in the United States to prepare for Y2K.

Indeed, if press reports are true, nothing has been done in Mexico City, almost nothing has been done in Buenos Aires and absolutely nothing has been done in any number of Russian cities. What has been done in Russia has been done by the United States, in a frantic effort to prevent the accidental launching of missiles with nuclear warheads.

Latin America has already paid the price for its Y2K noncompliance. According to Standard & Poor's, outflows in investment funds in Latin American emerging markets have risen substantially with each passing month. In the first quarter, roughly $465 million was withdrawn. In April and May, more than $500 million was withdrawn. The numbers aren't in for the last month of the second quarter or any of the three months of the third quarter, but it's safe to say that the trend continues.

At some point, the bright idea will cross every trading desk that one share of Microsoft might be worth more than a thousand shares of a fund that's invested in inefficient, non-Y2K compliant Argentine or Mexican companies. Traders know Microsoft is Y2K compliant. Do they have any idea if Telebras companies are? Do they really want to find out?

At that point, short-sellers will begin to gather for the kill. They're already lining up, waiting for the game to begin. They've got their eyes on Argentina, which pegs its currency to the dollar. Argentina's major trading partner is Brazil, which has been devaluing its currency like crazy. Brazilian exports are way up, imports from Argentina are down.

Now that the Argentine presidential election has deposed the Peronistas, the real accounting begins and it's got to be ugly. The Argentine current account deficit is a guaranteed nightmare. Argentine corporate earnings have to be way down. And just like that, sell orders on Argentine funds will begin to pile up at Goldman Sachs and Merrill Lynch and all the other financial powerhouses. And the rout will be on.

Six trillion dollars course through the global financial system every week, and that money goes where it will find a better return. If the specter of Y2K disaster in emerging markets becomes conventional wisdom and billions of dollars start "outflowing" from emerging market funds, then Argentina and Mexico and Colombia and Venezuela will hit the killing floor with a couple of keystrokes. Just as suddenly, a liquidity crisis that might have been local is now global.

This scenario is what will haunt the markets through the remainder of the year. Last Thursday, IBM lost 19 percent of its value on Y2K concerns, just like that. Imagine what will happen to emerging market countries and companies that haven't done the first thing about Y2K. Which is why this year, October on Wall Street will be 100 days long.