Why it might pay to dust off the history books
Trying to decipher where the stock market is going by studying where it has been is a little like navigating a car by looking in the rearview mirror. And yet history can help put daily ups and downs in perspective--especially after volatile sessions like last week's.
Early in the week, the tech-heavy Nasdaq Composite Index fell 200 points, nearly 6 percent, setting a low for the year. A wobbly rally erased some of the damage but failed to turn the market, and the Nasdaq finished down 5.5 percent for the week at 3205. Everybody's favorite new-era barometer is now down 37 percent from its March high, while the Dow Jones industrial average is off nearly 10 percent.
Blame it on the bane of all economies since the dawn of the dismal science--the threat of inflation and the growth-stifling higher interest rates needed to fight it. Since last June, the Federal Reserve Board has raised rates six times, or 1.75 percentage points total.
The market's bulls don't have to look very far back to argue that higher rates aren't always lethal to bull markets. In 1994-95 an inflation-wary Federal Reserve Board raised rates 3 percentage points. Instead of collapsing, the stock market averages finished flat in 1994. Five of the top-performing industries, logging gains of 12 percent to 32 percent, came from the technology sector, according to Standard & Poor's sector analyst Sam Stovall. A year later, market averages were up more than 30 percent.
Today's market is an instant replay, says Thomas Galvin, chief investment officer at Donaldson, Lufkin & Jenrette. The S&P 500 is about where it was last June, when the Fed started tightening, and now, stocks are poised for a 25 percent to 30 percent rebound over the next nine to 12 months, with tech, health care, and financial stocks leading the way.
Help wanted. The inflation threat is very different. Back in 1994, prices of industrial raw materials had jumped 40 percent from 1993 lows. Today the main problem is tight labor markets. Wage pressure is more stubborn than higher steel or pulp prices. And the labor market is harder to influence with short-term rate hikes, making the outlook for the economy and for the stock market more worrisome than in 1994. Indeed, to many observers, this market looks more like 1973-74, when inflation surged and stock prices crashed. "Inflation will be a significant negative surprise in the next year--much higher than anyone thinks," says mutual fund manager Kenneth Heebner. Longtime bear James Stack of InvesTech Research says there's little chance of resolving the inflation problem--or the other excesses of this market--without a long and protracted downturn like the one suffered when Richard Nixon was in the White House. When the bubble surrounding the big, blue-chip stocks known as the Nifty Fifty burst in 1973, it pulled the S&P down more than 48 percent over 21 months. It took investors 7 1/2 years to recover their losses. Today, the S&P would have to decline 50 percent from current levels just for valuations to revert to the norm for the past 70 years, says Stack.
Such dark scenarios could be way off the mark, as this long bull market has proven time and again. But what if the gloomiest predictions are right? The surprising answer is that for many investors, it shouldn't matter--at least not that much. It's not because long-term investors are eventually made whole--that might take decades, and some bear market losers never come back, as survivors of past tech wrecks well know.
No, bear markets are survivable because even in the worst of them, some stocks do OK, even great. The lesson from history is that while people think about "the market" as a monolith, fortunately, it doesn't move that way.
Even in 1973, gold and precious metals mining stocks rose a spectacular 128 percent. Other inflation beneficiaries like oil and paper stocks also gained. And while big and small stocks alike were decimated in 1973-74, small-stock investors were making money again quickly, far ahead of their all-blue-chip counterparts. The Nasdaq composite (a small-stock benchmark at the time) gained 233 percent from 1975 through 1980. In fact, leaders--or losers--rarely persist from one decade to the next (table). In the 1960s, personal-care stocks like Alberto-Culver and Chesebrough-Ponds were all the rage; in the 1970s they were about as appealing as dry skin and flyaway hair.
Who's scoffing at old-fashioned virtues like diversification now? Says finan- cial planner Christopher Cordaro of Chatham, N.J., "All through 1999 our clients kept asking, 'Why do we have money in real estate?' "
Now, with real-estate stocks up 10 percent this year, they're thankful they do.
Source: U.S. News & World Report
Date: June 5, 2000 |
