Dow’s New Height Not as Giddy as the Last One
In less than seven years, the value of the typical U.S. home has risen 64%. The price of gold has doubled. The Russian stock market has rocketed nearly 800%.
And the Dow Jones industrial average just broke even.
The world’s best-known stock index rose 56.99 points Tuesday to end at 11,727.34, finally topping the previous peak of 11,722.98 reached Jan. 14, 2000.
The day’s advance, aided by another drop in oil prices, capped the Dow’s long slog back from its 2000-2002 plunge, the worst in three decades.
Stock market bulls say the index’s comeback is a sign of optimism about the nation’s economy, given that the Dow’s giants -- blue-chip names such as Boeing Co., McDonald’s Corp. and Walt Disney Co. -- account for a colossal chunk of business activity.
“You have everything in place for a continuing bull market,” said Neil Hennessy, whose Marin County investment firm manages about $2 billion. He cites strong corporate earnings, steady interest rates, relatively low unemployment and falling energy prices.
Other Wall Street veterans see less to cheer in the Dow’s revival. They read it as the final chapter in the market’s recovery from the last recession, signaling that another downturn looms.
Blue chip stocks, they say, are winning by default because investors are running out of other viable moneymaking alternatives.
In the short term, however, the Dow’s new high may add to the stock market’s momentum.
“It’s a ringing of the bell for Main Street. People think, ‘Maybe I should get out of my money market fund. Maybe real estate isn’t the only way to go with my bonus check this year,’ ” said Art Hogan, chief market analyst at brokerage Jefferies & Co. in Boston.
But no one is predicting a return to the heady days of early 2000, when stocks ruled the investment landscape.
Although volatile technology issues led the mania of the late 1990s, the Dow was no slouch. The 30-stock index rose at an astounding rate of 25% a year from 1995 through 1999 on average, and the sky seemed the limit as the economy boomed.
Financial authors outdid one another in breathlessly forecasting how high the index might soar. The books “Dow 36,000,” “Dow 40,000” and, finally, “Dow 100,000” appeared on store shelves within the span of several months in 1999.
“It was the biggest [financial] mania in the history of the world,” said Bill Fleckenstein, a Seattle money manager known for his dour outlook on the stock market.
And like all such manias, it finally exhausted itself. The downturn that began in 2000 was led by technology stocks, but the rest of the market tumbled as well. The situation worsened with the recession of 2001 and a plunge in corporate earnings.
In 2002, a wave of scandals involving Enron Corp., WorldCom Inc. and other major companies was the final blow. The Dow sank 17% that year. When it hit bottom in October, the index had plummeted 38% from its peak -- its worst loss since the early 1970s.
Amid the downturn, many once-eager blue-chip investors found better things to do with their money. They fled to real estate, commodities, foreign stocks and shares of small U.S. companies.
“A lot of investors got out of blue chips. Other things competed for dollars,” said Dan Pemberton, a 66-year-old retiree in Thousand Oaks.
Like millions of other small investors, Pemberton in recent years was drawn to foreign stocks. The rise of emerging economies such as China and Russia lured capital and stoked excitement about the growth potential abroad.
Huge pools of investment capital such as the California Public Employees’ Retirement System also gravitated to more exotic investments, including hedge funds, which are known for fast paced trading and chasing opportunities in obscure markets.
CalPERS had 46.4% of its assets in U.S. stocks, mostly blue chips, at the end of 1999. Now that proportion is just 40%.
Meanwhile, foreign stocks have risen from 18.8% of the fund’s assets in 1999 to 22.8%; real estate investments have jumped from 4.7% to 7.4%.
For individual investors, little could compete with residential real estate after 2000. Home prices soared across the nation as mortgage rates plunged to generational lows.
And after losing untold billions of dollars in the collapse of technology shares after 2000, many Americans saw real estate as much more of a sure thing than stocks.
Now, however, the housing market has cooled. Nationwide, the median price of a previously owned single-family house declined in August from a year earlier, the first such dip in 11 years.
A sharp drop in many foreign stock markets in the spring, and similar slides in oil and other commodity prices in recent months, have intensified doubts about the wisdom of risking cash in those areas.
“All of those other markets are beginning to lose their luster,” said Robert Morris, director of stock investments at money manager Lord, Abbett & Co. in Jersey City, N.J.
The best argument in favor of the Dow stocks and other big-name issues is that they’re inexpensive, said Michael Holland, head of investment firm Holland & Co. in New York.
Even though blue chip companies’ earnings have risen sharply since 2002 amid the U.S. economic expansion, “people haven’t been willing to pay up for the stocks,” Holland said.
One classic measure of stock market value -- the price-to-earnings ratio, or stock price divided by annual earnings per share -- now averages about 16 for blue-chip issues, the lowest since the mid-1990s, according to Standard & Poor’s in New York.
At the height of the last bull market, that ratio reached 28.
Holland, who has his clients in such Dow shares as Microsoft Corp., Johnson & Johnson, General Electric Co. and Pfizer Inc., contends that the stocks are too cheap to ignore.
“These are the world’s greatest companies,” he said.
But there’s another key factor in the resurgence of the 110-year-old index, experts say: fear that the economy, already slowing, is headed for a recession.
Although big-name stocks probably would slide if the economy slumped, their losses might be mild compared with what could befall other investments that have risen much more dramatically in recent years. Home prices could tank. Small companies without deep pockets could be wiped out.
Fleckenstein has been warning clients that the economic expansion of the last five years “has all been done with borrowed money.” He cites the explosion of federal debt and the hundreds of billions of dollars that homeowners have pulled out of their properties via mortgage refinancings and credit lines.
“When this unwinds, it will be a disaster, period,” he said.
Scott Rutherford, a 49-year-old Pacific Palisades investor who has about $2 million in the market, said he had been turning back to blue chips in part because he’s concerned about the economy.
The Dow stocks “represent a safe haven against possible recession, if the housing market truly implodes,” he said.
Many investors don’t buy the recession talk. They believe the Federal Reserve’s interest rate hikes have succeeded in slowing the economy to a pace that will keep inflation subdued. Under the “soft landing” scenario, the economy will emerge healthier and poised for another round of significant growth in 2007.
David Elias, a retired Amherst, N.Y., money manager who wrote “Dow 40,000” in 1999, concedes that he was probably too optimistic in predicting that the Dow would reach that lofty level by 2016.
Nonetheless, “I still strongly believe we will hit 40,000 in my lifetime” as blue-chip companies benefit from the spread of capitalism around the world, said Elias, 61.
“We have all of the ingredients for good, solid growth in the world over the next 10 to 15 years.”
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Times staff writer Kathy M. Kristof contributed to this report.
