not so funny funny pages
Stocks May Go From Business to Funny Pages
Sat Jun 15, 7:34 AM ET
By Pierre Belec
NEW YORK (Reuters) - With more than one in six stocks in the Standard & Poor's 500 index at lows for the year, many people are worried that their investment portfolios might eventually move from the financial pages of newspapers to the comic pages.
For investors, it's a scenario that reads a lot more like "Dilbert," the comic strip about the absurdities of cubicle life in Corporate America, than it does like "The Amazing Spider-Man."
Such is the story on Wall Street as the market appears headed to its third straight year of losses. The benchmark S&P 500 <.SPX> is down 13 percent so far this year, the Nasdaq composite has slumped 23 percent and the Dow Jones industrial average is off 5.5 percent.
What's scary is that despite the market's pullback, the price-to-earnings ratio of the S&P 500 remains very pricey at 40. A slump of about 80 percent in stock prices would be needed to bring the P/E ratio to its long-term average of 15.
Indeed, it's difficult to be bullish on such a puffed-up market because historically, bullishness has topped out when the P/E ratio has stood at 25 and the bearishness leveled off when it sank to a measly 8.
Bad news is coming from bedrock companies such as Intel Corp., which has warned its second-half recovery might not take place as expected.
Investors are finding out that they are facing a tough environment and good financial advice is getting harder to find. Even the biggest companies have no clue as to what the future will bring. The safest prediction is that there will be more nail biting through the end of the year.
In order for stocks to stop sliding, the fundamentals of Corporate America will have to stabilize, then start to strengthen after five consecutive quarters of weakness.
NO INSTANT REACTION
What investors are discovering is that the world's biggest economy is like a huge aircraft carrier. It takes a long time to turn around. The economy may be recovering, but the profit numbers from the business sector are still tepid at best.
Some of Wall Street's biggest bulls are cautiously lowering their expectations. This week, Salomon Smith Barney, one of the premier bulls, cut its target for the S&P 500 to a range of 1,200 to 1,250 from 1,300 to 1,350 and trimmed its Dow top to 11,200 from 11,400, citing among other things, the risk associated with the "quality" of corporate earnings. That's Wall Street lingo for ugly corporate results.
From 1997 to 1999, the economic boom brought a surge in capital spending until businesses suddenly realized they were producing more stuff than consumers needed. Spending by businesses hit a wall in early 2000 and a lot of companies gagged on gargantuan inventories of unsold goods. Massive production cutbacks pulled the economy into recession.
Veteran traders say that whenever the economy has stalled because of a businesses downturn, the recovery has been a slow grinding process. One reason is that business spending does not react to cuts in interest rates by the Federal Reserve ( news - web sites).
Still, a lot of people bought into the rosy scenario late last year that once businesses worked down their inventories, the economy and stock market would be OK. But the news from the business sector continues to be less than terrific and the market is clearly in bad shape.
Wall Street is coming to the conclusion the inventory problem was just the start of the healing process. More people are now latching on to the idea that a speculative bubble that took years to create can't be undone overnight.
The next step is to solve the corporate profitability problem, which takes time. Six months after the recession supposedly ended, the Coke machines in the lunchrooms of a lot of companies are the only things making money. And chief financial officers are struggling to earn a dime for their companies.
Historically, recessions happen when consumers prune spending after the Fed raises interest rates to slow growth. As consumers retrench, business profits shrink because Joe and Jane Consumer generate two-thirds of economic activity. This time, businesses tripped up the economy.
A CRISIS OF CONFIDENCE
While the jobless rate fell in May to 5.8 percent from 6 percent in April, businesses were not hiring in earnest because they were not confident about the future. They took baby steps, hiring part-time workers. Employment of temporary workers jumped by 25,000 after soaring by 126,000 over the last three months.
In another sign the job market is not brightening, long-term unemployment -- people out of work for 27 weeks or more -- rose to the highest level in eight years to 1.6 million last month.
So the key to the recovery is for businesses to boost spending again and hire workers. But in order for this to happen, companies will need to feel confident they can sell products and make money in the process.
While Corporate America has shown itself to be liberal vis-a-vis corporate accounting, it has always been conservative when it comes to spending, preferring to wait two or three quarters for earnings to increase before loosening up its purse strings.
Indeed, the job numbers confirm that businesses are not spending on capital goods or people. They are working their employees harder to avoid hiring.
The upside to companies making do with fewer workers to produce more stuff is a surge in productivity -- the amount of output per hour of work. Productivity was the highest in nearly two decades in the first quarter, zooming to 8.4 percent or the strongest since the second quarter of 1983.
What does the future hold?
The headlong drop in stock prices will not encourage businesses to kick-start spending on new equipment and plants. Depressed stocks will make it harder for companies to finance their expansions.
Unfortunately, most businesses are stuck in a profitless environment. Tough competition at home and abroad is holding down their ability to raise prices and boost earnings.
One of the few bright spots: Consumers are finally getting a break and they are reaping the benefits of cheaper prices.
For the week, the Dow Jones industrial average <.DJI> lost 115.46 points, or 1.2 percent, to end at 9,474.21, based on the latest figures. The tech-laden Nasdaq composite index <.IXIC> finished the week down 2 percent, or 30.74 points, at 1,504.74, while the broader Standard & Poor's 500 index also declined 2 points, or 20.26 points, to end the week at 1,007.27. |
