A little bullishness from the WSJ... Interesting, yet debatable, arguments I think...
online.wsj.com
Dow 10000 Is Looming Once Again
Some Think the Exuberance Is More Rational This Time, But Big Deficit Presents a Risk
By JEFF D. OPDYKE
Staff Reporter of THE WALL STREET JOURNAL
More than 4½ years after it first surpassed 10000, the Dow Jones Industrial Average once again is trekking toward that milepost.
After Wednesday's 10-point fall, the Dow sits fewer than 200 points shy of 10000. A 2% gain -- a day or two of bullish trading -- would put it over the top.
This time around, though, the Dow approaches the five-digit threshold with little fanfare, a significant change in mood from 1999. Some of that is warranted. After all, the Dow crossed the 10000 level -- going up and coming back down -- 35 times from March 1999 to May 2002, the last time the Dow hit this level, according to Ned Davis Research.
The first time the Dow closed above 10000 it kept rising to 11700, only to ultimately succumb to a dizzying plunge that burned many investors. By the time the carnage ended, a year ago this month, the Dow had slipped to just below 7200 on an intraday basis, the worst bear market in 30 years.
Does the rise portend more heartbreak this time around? There's no guarantee, of course, that the Dow will even reach 10000 -- or that it won't come crashing back to earth. Just as in 1999 and 2000, valuations remain pricey, and money is pouring into tech stocks again.
Still, there are some big differences between now and then. Interest rates are lower, which usually equates to higher stock prices. Congress has slashed the tax rate on stock dividends, another big plus for stocks. And while the economy isn't nearly as good as in 1999, it appears to pulling out of its doldrums rather than nearing the end of a bubble.
Certainly, in the grand scheme, 10000 is just another number. But in terms of investor psychology, it would reinforce the growing perception that stocks have shaken off the bear market. Moreover, investors often think in round numbers, and 10000 could represent a belief that the market's next stage up has arrived.
Even if the Dow 10000 is meaningless to you, whether the market still has legs is a key question to all investors. The answer ultimately determines how much of your portfolio you allocate to stocks. For some investors, it will even determine how soon they can retire.
Here's a look at how things are different this time, and how they're the same.
Stock Valuations
Just as in 1999, today's prices are high in relation to what the underlying companies are actually earning. The Dow today is trading at nearly 22 times trailing earnings, while the Dow four years ago traded at a P/E approaching 26, according to Ned Davis Research.
Nonetheless, some analysts believe those prices are actually more warranted this time around. David Kelly, economic adviser for Putnam Investments, says, "This move to 10000 is more justified by corporate profits than the first move was." Now, he notes, "we have genuine profit growth that is propelling us."
Corporate profits across the economy, Mr. Kelly calculates, are now at $682 billion, up 26% from 1999's level.
On top of that, interest rates are much lower today -- the 10-year Treasury yields about 4.4%, while in 1999 it was about 5.2%. When interest rates are low, investors are usually willing to pay more for stocks. Among other things, that's because low interest rates make the potential return on stocks look so much better than the yield on bonds.
Another difference: The market in 1999 was lead by a relatively few stocks, largely those in telecom and technology. In fact, back then more stocks were hitting new lows than new highs even as the Dow broke 10000. Today, stocks hitting new highs are outpacing those hitting new lows by as much as 200 to 1 on some days.
Others are less sanguine about stock prices. They say that earnings multiples remain far above historical averages, meaning that disappointing earnings or economic news could quickly push the market down.
And there is one worrisome similarity between today and 1999. Technology stocks "are being priced again as though a boom equivalent to 1998-99 is going to happen again," says Bob Smith, portfolio manager for the T. Rowe Price Growth Stock fund. The Dow Jones Internet Services sector is up 120% this year, ranking it No. 1.
The bottom line: Stocks are a better value today, but some segments are already looking frothy.
Tax Rates
The rates at which capital gains and dividends are taxed have fallen precipitously since the Dow first surpassed 10000. Today, in the wake of the big tax-cut package Congress approved this year, dividends are taxed at 15%. Previously, they were taxed as ordinary income at rates as high as 38.6%.
Capital gains, meanwhile, are now taxed at a top rate of 15% for long-term gains. In 1999, capital gains were taxed at a top rate of 20%.
The bottom line: the government is taking a smaller slice of the income an investment generates -- be it dividends or profits from buying low and selling high. And that ultimately makes stocks more attractive today.
Investor Psychology
The first time the Dow hit 10000 was a record, and investors were "in a conflagration of exuberance," says John Markese, president of the American Association of Individual Investors. Everyone knows what happened from there.
This time, investors are in a much more skeptical mood -- "and that's a much healthier attitude for the market," says Putnam's Mr. Kelly. Along with enduring a virulent bear market, investors have suffered through corporate thievery, accounting skullduggery and analyst scandals.
The big concern with psychology: Investors remain fixated on short-term performance, rewarding or punishing companies for meeting, missing or beating earnings expectations in the current quarter. That's unhealthy, says T. Rowe Price's Mr. Smith, "because people are doing the exact same thing they did before. They don't have any memory."
The bottom line: Stocks are less likely to move on irrational exuberance, but investors often are still playing stocks like lottery tickets.
The Economy
In the late '90s, the economy was growing robustly, led by corporate spending on technology, unrestrained consumer spending, low energy prices and falling interest rates.
Today, the economy is recovering from a recession, and is doing so without creating many new jobs. As such, "there are limitations on the growth we expect to see," says Pete Kretzmer, senior economist at Bank of America Corp. As the economy improves, rates tend to rise, restraining growth.
Limitations aren't necessarily bad, though. Restrained growth, Mr. Kretzmer says, "maybe leads to a more controlled increase in the stock market, and that's good."
One concern is the massive and expanding federal deficit and Americans' seeming inability to save a buck. That's helping weaken the dollar against other world currencies, making it increasingly tougher to attract the foreign investors who have bolstered Wall Street over recent years.
The bottom line: It's better to be an investor in a recovering economy than to gamble that a long boom will continue indefinitely.
Write to Jeff D. Opdyke at jeff.opdyke@wsj.com
Updated October 16, 2003
KJC |
