BW/INVESTING Q&A: "My Outlook Is for a Stagnant Market"
NOVEMBER 16, 2001
BusinessWeek's Chief Economist William Wolman sees the recession ending in early 2002, followed by an extended period of slow growth
Don't look now, but the U.S. economy has most likely been in recession since February or March. And though the downturn will end early next year, only slow growth will follow. Such is the forecast of William Wolman, BusinessWeek's senior contributing editor for economics and longtime chief economist.
Wolman expects the Dow to hit perhaps 11,000 by yearend but fall back to the 9,000 level by mid-2002. Based on this, he thinks high-yield stocks and bonds are probably the best investment play, at least for now. Among stocks in general, he looks for better results from companies such as Wal-Mart that can exert pricing pressure on suppliers from developing countries.
He sees housing's recent strength as a "bubble" akin to what happened to tech stocks, albeit on a less inflated level. In Wolman's view, housing is overvalued in many parts of the country, and since interest rates have been pushed down about as far as they can go, there is little housing stimulus left from that direction.
These and many more comments on the economy and the market were made by Wolman in a chat presented on Nov. 13 by BW Online and Standard & Poor's on AOL. He was replying to questions from the audience and from Jack Dierdorff of BW Online. Edited excerpts follow. A full transcript is available from BW Online on AOL at keyword: BW Talk.
Q: Bill, looking at today's stock market, are we back in the rally that started in late September? Will it last?
A: There is no doubt that the news from Afghanistan should be taken largely at its face value. Things are clearly going well, and what has happened is definitely worth celebrating, even on Wall Street. I do think that the rally is likely to last for some time, but I do not believe that it will carry the market to new highs in the foreseeable future. There are three reasons why this is so. The first is that the market is highly overvalued by historic standards.... The tech slowdown -- or, more properly, recession -- when it comes to an end, will give way to much slower growth than characterized the sector in the second half of the '90s....
The other two points: One is simply that interest rates have come down a great deal and can't be pushed down much further.... Indeed, the realistic expectation is that the stock market bubble of 2000 will give way to a housing bubble, with the housing market suffering a similar -- if less extreme -- fate as the tech sector.
The third point: There is a price that the United States is going to have to pay for the cooperation that it has received in fighting [Osama] bin Laden. That price is to allow more open access to the U.S. market to goods produced in the emerging world.
That may not hurt the U.S. corporation directly, but it will put downward pressure on the wages paid to American workers. And combined with rising layoffs, that will hurt the growth of revenues throughout the economy. So, while I now feel that the recession is fairly close to over, I expect it to be followed by relatively slow growth.
Q: I have six more years till early retirement at 62. Do I have enough time to recoup my losses of late?
A: It, of course, depends on what your portfolio is. But I do not expect the broad indexes to come back to their 2000 highs for a long, long time. That is what history suggests. Each of the preceding surges in price-earnings ratios -- those that ended in peaks in 1901, 1929, and 1966 -- were followed by sustained periods of market stagnation.
Q: There are some tech bargains out there. Is it too soon to think about buying techs again?
A: My own expectation is that, while the gain in the Nasdaq may go on for a while, tech will not grow as rapidly in this decade as it grew in the '90s. So if I were to buy tech stocks now, I would buy them with a view to selling in the not-too-distant future.
Q: How do you hedge in a new disinflation era?
A: ...My own preference would be to buy the stocks of companies that can exert powerful pressures on their suppliers to keep prices down, and which can get the goods that they sell from the developing world. There is a rule against recommending individual stocks that applies to BusinessWeek editors. But the stocks that fit this bill are simply too tempting. It's obviously Wal-Mart-type stocks that are the most attractive to me. They can really put pressures on their suppliers to keep prices down in a deflationary world.
Q: What will happen to the airline industry?
A: That's the $64 billion question! And unfortunately, $64 billion is what it may cost the government to bail out the airlines. There is little doubt that load factors will improve before very long. But to get from there to a profitable airline industry will be very difficult.
I would change this opinion if I could see the possibility that some airline could pull off a "Chrysler," which in the '70s managed to use government guarantees to turn the company around. And if I can find such a company, I will let you know. In the meantime, I would be very cautious about committing any long-term money to airline stocks.
Q: Over specifically to the Fed: Is a quarter-point rate cut coming on Dec. 10?
A: My best guess is yes -- unless the market is really strong between now and then. I don't think Greenspan wants another bout of "irrational exuberance." So, as long as stock gains are contained, the Fed will cut; otherwise, it will hold. I think that progress in Afghanistan is another factor that could cause the Fed to hesitate....
Q: Bill, how do you feel about higher-yielding blue-chip stocks -- i.e., focusing more on the yield of a stock?
A: I like it, I like it! In the slower-than-expected environment that I foresee, high-yield stocks are a good idea. Just be careful that dividends can be maintained, which, as we've seen in the last few weeks, is definitely not always true. One further point: I do expect that high-yield bonds (junk bonds, if you like) are an interesting play over the next few months, because I do expect that the risk premiums will come down....
Q: What's your outlook for investing in Europe and Japan during the next 12 months?
A: I think that Europe is somewhat underappreciated by American investors. I personally follow European stocks closely and was astonished at the huge gains that were made last night -- pleasantly astonished. If the geopolitical situation settles down, I like Europe.
One other point: Many countries in Europe have more experience in dealing with the former communist countries than does the United States. That means that they may be even better able to take advantage of the opening of the Russian market than is America.... On Japan, I find Japan hard to read at this point in history, and I believe that the outlook is so uncertain that I would stay away from that market at this point.
Q: I have part of my portfolio in corporate long bonds and preferred shares yielding 7% to 8%. When do you think I should start looking into moving out of these items?
A: You've obviously followed a great strategy for the past 18 months. I tend to think that, while it may not look too good over, say, the next three months, it will still be effective on a one-year to two-year horizon. Remember that I do expect growth to be modest after the recession ends. If you disagree with this, then obviously there is a better argument for shifting to what I guess you could call growth stocks.
Q: Why will the Fed permit a housing "bubble" to end?
A: The reason is simple: Interest rates can't be pushed much lower. And that in itself puts a limit on the housing market, particularly in an environment where growth will not be rapid....
I've been having extensive conversations with housing economists. One such economist is Robert Shiller, the Yale economist who wrote his Irrational Exuberance book about the stock market. It so happens that Shiller has had more experience as a housing economist than as a capital-markets economist. His studies of housing prices do not make nearly as strong a case for a housing bubble as they did for a stock market bubble back at the beginning of 2000. But he nevertheless believes that in most markets houses are overvalued at the moment and will decline....
I am worried about housing prices. I have to honestly tell you that this is an argument that my wife simply will not accept, and she always wins the argument of whether we should sell. So far, she has been more correct than I have!
Q: Bill, any numbers you can give us on the Dow and Nasdaq by yearend and by mid-2002?
A: O.K., famous last words -- the Dow, 11,000 by yearend and 9,000 by mid-2002. I'm not going to try for a specific number on the Nasdaq, but I believe the market will be lower at the middle of next year than it is now, but not by much. My basic outlook is for a stagnant market, not a market that undergoes a steep decline.
Q: Given your forecast, how would you divvy up a nest egg among stocks, bonds, cash, etc.?
A: That is always an age-related question. I think that the returns to any investment will be modest for a number of years to come. But my best bet is for high-yield stocks and junk bonds for the next year or so. I'd like to have an opportunity to change that at the middle of next year, if I get it.
Q: For the overall economy, how many quarters of negative growth do you see? A fancy way of asking, how long a recession?
A: I believe that when the numbers finally come out of the National Bureau of Economic Research, which is the "College of Cardinals" of recession-dating, they will show that a recession started in February or March of this year and that it will end sometime around the end of the first quarter of next year.... Trouble is, the NBER gives its signals long after a recovery has started, just as they make their recession call long after their data show that a recession has started. But I'm pretty sure that their date for the start of this recession will be February or March of this year.
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Edited by Jack Dierdorff
Copyright 2000-2001, by The McGraw-Hill Companies Inc. All rights reserved.
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