Some See Daylight for Stocks
By Jan Paschal
Saturday July 8 7:50 AM ET
NEW YORK (Reuters) - Is that daylight at the end of the rate-increase tunnel? Or the headlights of Federal Reserve Chairman Alan Greenspan's credit-tightening train?
Some market experts believe it's daylight ahead, as they bet that the Fed is at the end of its interest rate-raising rope, after six rate increases totaling 175 basis points since June 1999.
And, if they're right, these signal watchers say, certain sectors of the stock market are the place to stash some of your cash for good profits by year end.
``Investors will definitely see some daylight'' ahead, said Hugh Johnson, chief investment officer of First Albany Corp. ''They'll see daylight in the view that the Fed will not raise rates'' between now and the end of the year. ``And that's a big, bright light.''
There's a strong message in the market's performance for the first half of this year, Johnson said.
The stock market is nearly unchanged for the year. The S&P 500 is down about 1 percent for the first six months. The Russell 3000 growth index, which includes large-cap and small-cap companies, is up 4 percent.
``The message is: The economy and earnings are going to slow. The slowdown we've seen in the second quarter is going to persist in the third and fourth quarters. Check out the consensus: It had been that the Fed might do another quarter-percentage-point rate increase before the end of the year.''
In June, after a parade of weaker-than-expected economic numbers, the Fed's policy-makers surprised no one by leaving short-term interest rates alone.
``Given that the Fed is unlikely to raise rates going forward,'' Johnson said, ``the consensus will shift toward the Fed leaving rates unchanged for the rest of the year.''
Ralph Acampora, chief technical analyst at Prudential Securities, believes the June U.S. employment data, which was released Friday, ``probably puts less pressure on the Fed to raise rates.''
Non-farm payrolls added just 11,000 jobs in June, as the addition of 206,000 private-sector jobs was offset by the departure of 190,000 temporary U.S. Census 2000 workers. Economists surveyed by Reuters had forecast a gain of 263,000.
``I'm looking for a strong second half for the stock market, after a low in May or June, and that's due to seasonal factors, with the presidential election cycle and a boost from earnings,'' Acampora said.
He's sticking with his target of the Dow Jones industrial average (^DJI - news) near 13,000 by Dec. 31 and the Nasdaq composite index (^IXIC - news) at 6,000 by June 2001.
Larry Wachtel, market analyst at Prudential Securities, said the Fed might raise rates in August -- if it sees any strong economic data between now and then. But that move would be its last before the November election.
``Forty-eight million people own stock,'' Wachtel said. ``So stock is now important to the electorate. It used to be the politicians had a whipping boy: 'Those fat cats on Wall Street.' Well, those fat cats are in Peoria now.''
The key 10-year U.S. Treasury note's yield peaked at 6.79 percent in late January and isn't likely to revisit that high this year -- a signal that interest rates may have peaked or may be close to it -- according to John Manley of Salomon Smith Barney and First Albany's Johnson.
``The bond market is awfully good at telling when the 'all clear' is sounded,'' said Manley, managing director of equity strategy at Salomon Smith Barney.
Carol Stone, deputy chief economist of Nomura Securities International, says interest rates ``probably have peaked. But they're not going to come down very much. The 30-year mortgage rate is still well above 8 percent.
``We still have lots of questions about how strong the economy is,'' Stone said. ``We're going to have some very unpleasant inflation reports, reflecting high gasoline prices. If you drive a car, you know how awful it is.''
Saudi Arabia's proposal to pump another half million barrels of oil a day brought oil futures prices below $30 a barrel this week on the New York market. But gasoline on average at the pump is still near $2 a gallon.
Manley says it's too early to tell if the Fed's 175 basis points of interest-rate increases since June 1999 have done the trick in moderating economic growth.
But the possibility that interest rates already have peaked gave Salomon Smith Barney a reason to look at the impact of past interest-rate peaks on equity market performance, he wrote in a recent report to investors.
``To do this, we went back over 30 years of data to identify significant peaks in interest rates using the 10-year Treasury yield,'' he wrote.
Salomon Smith Barney's research found six previous peaks: May 26, 1970; Sept. 16, 1975; Sept. 30, 1981; May 30, 1984; Oct. 16, 1987, and Nov. 7, 1994. These six peaks in the 10-year note's yield came ``within a day or two'' of peaks in Aaa-rated corporate bonds, he pointed out in the report.
``The average 12-month return of the S&P 500 following the six peaks was 24.7 percent,'' he said, compared with ``15.2 percent for any 12-month period.''
About three weeks ago, Salomon Smith Barney raised its recommendation on two stock sectors -- health care and consumer staples -- to ``a slight overweighting, as a good healthy place to be now,'' given the outlook for interest rates and the stock market, Manley said. It's also a good time to invest in financials, technology and communications, he adds.
First Albany's Johnson, who also manages money, said, ``You have to play it safe. Buy the stocks of companies whose earnings will do well, regardless of what the economy does -- health-care stocks, such as drugs, and large-cap technology stocks.
``There's another sector, the consumer non-cyclicals, rather boring'' but worth considering, Johnson said. These are ''beverages, like Pepsi (NYSE:PEP - news); food retailers, like Safeway (NYSE:SFY - news); household products, and food stocks. These industries and goods tend to provide some stability in an unexciting, unchanging market.''
John Shaughnessy, senior vice president and chief investment strategist of Advest Inc. in Boston, says ``the economic numbers indicate: One more hike, to keep the stock market from exploding on the upside.''
And what does that mean for stocks?
``That sets us up for a late summer, early fall rally, particularly for the value stocks, such as automobiles, oil, retail, banks and insurance,'' Shaughnessy said.
Despite profit warnings from some technology companies and a downgrade of the semiconductor industry this week by Salomon Smith Barney, Advest is ``still focused on the companies with earnings momentum, the multinational tech stocks -- Intel (NasdaqNM:INTC - news), Cisco (NasdaqNM:CSCO - news) and IBM (NYSE:IBM - news).''
The jitters in the stock market are a good sign, says Manley of Salomon Smith Barney.
``It's a very nervous marketplace,'' Manley said. ``That nervousness is the shift that created the bull market in the first place. Of course, we get this awful volatility. But if you look at the bull market of the last 10 years, it's very nervous, very willing to rise and fall rapidly in price, to adjust to keep the economy on a perfect growth path.''
Volatility in the capital markets plays an important part in moderating economic growth, Manley said. The average stock in the S&P 500 is down about 30 percent from its high, Manley said, adding that lower stock prices lead to less spending, less wealth and less confidence in that wealth. Lower bond prices mean higher credit costs and keep borrowing in check.
``The U.S. stock market,'' Manley said, ``is like the world's healthiest 93-year-old man. He looks good. But still, he's 93. So the returns (on stocks) may not be what they were in the past. Still, it could be positive for the rest of the year.''
On Friday, stocks rallied on the surprisingly slim gain in U.S. jobs in June. The Dow Jones industrial average climbed 154.51 points, or 1.47 percent, to 10,635.98. For the week, the Dow was up 188 points, or 1.80 percent. The tech-driven Nasdaq composite index advanced 62.63 points, or 1.58 percent, on Friday to 4.023.20 -- a gain of 57 points or 1.44 percent for the week. The Standard & Poor's 500 Index (^SPX - news) added 22.23 points, or 1.53 percent, to finish Friday at 1,478.90 -- up 24 points or 1.67 percent for the week.
(Pierre Belec is out of the office. Any questions or comments on this column can be sent to Jan.Paschal(at)Reuters.Com) |
