Investing in 1989 : Playing It Safe Could Be Wrong Strategy : Real Estate, Short-Term Bonds Look Good but Art Market May Cool

Investors played it safe in 1988. But they would have been better off had they not. And being overly cautious this year also could be a mistake, many investment advisers say.

Aided by takeovers, strong corporate earnings and other factors, stocks defied a mass exodus by individual investors to post double-digit gains last year. As the table accompanying this story shows, equities and equity mutual funds easily beat bonds, savings and most other conservative investments that small investors generally preferred amid lingering memories of the October, 1987, stock crash.

But bonds--led by the high-yield “junk” sector--did well during the year, despite rising interest rates toward year-end that pushed prices down and partially offset gains in yields.

Collectibles posted a mixed year, with art topping all major investments in 1988 with a whopping 41.99% gain through November, and rare investment-grade coins finishing second. But stamp prices took a licking, rising just barely. The biggest losers: gold and silver, hit by abundant supplies and subdued fears of higher inflation.

Will these trends continue in 1989? Not surprisingly, experts can’t agree on the overall direction for stocks and bonds. But on some things there is general agreement:

- Buyers of short-term bonds and money market funds will continue to enjoy among the best yields in years, at least into the early part of the year.

- Although the Dow Jones industrial index closed 1988 near a post-crash high, plenty of individual stocks are depressed and have room to go much higher.

- Some housing markets, such as those in California, will continue to be hot, while others, such as in oil-depressed areas and the Northeast, will remain in slumps.

- Gold and silver are likely to remain dull, but platinum has a brighter outlook.

- Blistering prices in the art market are due for a correction.

Whether these predictions come true, of course, depends a lot on what happens to interest rates and the economy. Economists generally predict that interest rates will continue rising into the first part of the year, declining in the second half as economic growth slows. A recession may be a threat in late 1989 and early 1990, economists say, but they have been crying wolf about a downturn for months now--and the economy fortunately has not obliged.

A recession “will happen eventually, but when is still too early too tell,” says David A. Wyss, chief financial economist at Data Resources, reflecting the gun-shy attitude of many forecasters who have made it a habit of prematurely predicting recessions.

Here is a review of opinions on some key segments for small investors:

Bonds and savings

Bonds had a good year generally, as “junk bonds,” municipals and long-term investment-grade corporates posted double-digit total returns (including price appreciation and yield).

Savers are enjoying among the highest yields in short-term investments in years, thanks to the Fed’s tight-money policies. Yields on three-month Treasury bills, for example, recently hit 8.22%, the highest in 3 1/2 years. Recent 9%-plus yields on two-year Treasuries have topped those on 30-year issues.

Money market funds also look great, yielding an average of 8.52%, more than two percentage points better than the 6.20% average yields for bank money market deposit accounts. The spread normally is less than 1 point, but now is higher because money market funds generally move up faster in a rising interest rate environment, says Susan M. Cook, editor of Donoghue’s Money Fund Report.

Analysts generally expect short-term rates to continue rising well into the first half of this year. But toward mid-year, they say, interest rates should begin to decline, making money market funds and short-term Treasuries somewhat less attractive.

Accordingly, some advisers say, investors should consider buying long-term Treasury issues. Even though they yield less than short-term issues now, they are a good way to lock in high yields, and they will gain in value once interest rates fall.

For conservative investors who stick only to safe, federally insured bank certificates of deposit, the outlook is both good and bad. Banks will continue to be slow in boosting CD rates to keep up with rises in the prime rate and other market interest rates, says Robert K. Heady, publisher of Bank Rate Monitor.

“There is no reason to believe that banks in ’89 will suddenly get religion to help the consumer,” Heady says.

On the other hand, those who shop for the highest-yielding CDs nationwide are finding that troubled institutions no longer dominate the list of firms with highest savings rates.

In the past year, the percentage of troubled Texas thrifts on the lists of institutions with top-yielding CDs has plummeted from 75% to 13%, Heady says. They have been replaced by much-stronger Northeastern institutions, who are boosting rates to attract deposit money that can then be loaned out to fuel that region’s bustling economy. That trend should continue this year, Heady says.

Stocks

Surprising many experts, stocks had a good year last year, with Standard & Poor’s 500-stock index gaining 16.61% with dividends reinvested. The Dow Jones industrial index closed at 2,168.57, close to its post-crash high of 2183.50.

But there is no consensus that the good times will continue rolling.

Even normally bullish brokerage houses disagree. Dean Witter, for example, leads the bulls in suggesting that investors put 71% of their assets into stocks, versus 25% in bonds and only 4% in cash equivalents. But over at Paine Webber, bearish analysts advise only 14% in equities, versus 35% in bonds and a whopping 51% in cash equivalents.

Clearly, experts are looking at much of the same data but are coming to different conclusions. The bulls see low price-earnings ratios (stock prices divided by earnings per share) on the S&P; 500 of about 12, down from above 20 before the crash and more than 15 after the crash. They also cite strong gains in corporate profits and cash flow, and predictions that takeovers will continue at 1988’s hot pace.

The bulls also point to the high degree of pessimism among investment advisers. Such bearishness is actually bullish, they say, because it means that a lot of selling has already occurred. “A lot of people have a lot of cash, and that’s a mistake,” says John D. Connolly, chairman of the investment policy committee at Dean Witter.

But the bears counter that there is still a lot more cash that could hit the sidelines before stocks are ready to take off again. High yields on Treasury securities and other fixed-income investments are siphoning off money that otherwise would go to stocks. Recent rallies have occured with low trading volume and relatively few stocks setting new 52-week highs, they say. And the threat of recession and slower economic growth bodes poorly for equities.

Weighing all arguments, some experts are straddling the fence. The Dow, they say, will continue to trade in a narrow range between 1,900 and 2,200.

“Until there is some direction from the new Bush Administration on fundamental economic issues, such as the budget deficit . . . the market is going to continue to trade in a narrow range,” says Joseph Hardiman, president of the National Assn. of Securities Dealers. “Once we see how these issues are resolved, you’ll see a (clearer) direction for the market, whether up or down.”

The key to investing, many experts say, will be in picking the right stocks that will perform well regardless of the overall market’s direction. Shying away from the market completely--as many investors have done--could result in many missed opportunities, they say.

Real Estate

The outlook for home prices will continue to be mixed, with some markets remaining hot while others will stay behind, says John A. Tuccillo, chief economist for the National Assn. of Realtors.

In California, home prices will continue to post strong gains, although slower economic growth will dampen price hikes somewhat, he says.

Thanks to the influx of new residents, a strong economy and restrictions in new housing due to slow-growth measures, California boasted five of the 10 markets nationwide with the most price appreciation in 1988. Those five--Orange County, San Diego, Los Angeles, the San Francisco Bay Area and San Fernando Valley--each posted gains of more than 15%, Tuccillo says.

The Midwest also will show strong increases, but the Northeast and Oil Patch states will remain sluggish, Tuccillo says.

As for office buildings and other commercial real estate, many markets remain soft due to overbuilding, slow economies and loss of tax breaks under tax reform. Accordingly, yields on many limited partnerships and real estate investment trusts have been declining. Investors must be careful, because with fewer tax breaks, real estate investments will have to make it largely on their economics.

“You don’t have the tax factor working for you, so there is nothing to bail you out if you make a mistake,” Tuccillo says.

Precious Metals

Gold and silver were among the top performers in 1987, but they flopped last year. And this year promises not to be much better, many experts say.

Both gold and silver face plentiful supplies and only modest increases in demand. And inflation is expected to increase only modestly, dampening buying of metals for their traditional roles as inflation hedges.

On the other hand, industrial demand for platinum is expected to rise, despite a recent announcement by Ford Motor that it had developed a platinum substitute in catalytic converters, which account for one third of worldwide demand.

Collectibles

In fine art, caution is the word for 1989. Prices continued to rise to dizzying heights last year, confounding many experts. Sotheby’s, the big auction house, reported record or new record prices in Impressionist and Contemporary art, but strong rises even hit lower price categories. If history is any guide, this boom can’t last forever, experts say.

Stamps, however, posted a modest year, but observers are encouraged by recent pickups in prices at auctions, says Elaine R. Boughner, managing editor of Linn’s Stamp News.

Many types of collector coins also gained only modestly. But rare, top investment-grade coins posted double-digit gains, as investors were encouraged by improved grading standards, says Keith M. Zaner, editor of Coin World Trends. More investors are expected to enter the market this year through new mutual funds or limited partnerships, Zaner says.

The hottest collector market? Consider baseball cards. Prices of rare, mint-condition cards of such former greats as Mickey Mantle have increased more than five-fold in recent years.

1988 INVESTMENT SCORECARD

How different types of investments fared, ranked by total return in percent. Art (Sotheby’s Art Index, weighted aggregate) 1988: +41.99** 1987: +27.05 Rare coins, top investment grade (Coin World Trends index) 1988: +25.86** 1987: +13.73 Growth and income mutual funds (Lipper Growth and Income Fund Index) 1988: +19.72***** 1987: +3.15 Stocks, broad market (Wilshire 5000-stock index, dividends reinvested) 1988: +17.92* 1987: +2.27 Stocks, over-the-counter (NASDAQ composite index, dividends reinvested) 1988: +17.68* 1987: -3.91 International mutual funds (Lipper International Fund Index) 1988: +17.33***** 1987: +4.80 Stocks, blue chips (Standard & Poor’s 500-stock index, dividends reinvested) 1988: +17.07* 1987: +5.23 Growth mutual funds (Lipper Growth Fund Index) 1988: +15.83***** 1987: +1.02 Junk bonds (Shearson Lehman Hutton high-yield bond index) 1988: +12.00** 1987: +4.99 Municipal bonds (Shearson Lehman Hutton municipal bond index) 1988: +10.96* 1987: +1.51 Long-term investment-grade corporate bonds (Shearson Lehman Hutton long-term corporate index) 1988: +10.45* 1987: +1.47 Long-term Treasury bonds (Shearson Lehman Hutton long-term Treasury index) 1988: +8.96* 1987: -2.67 Ginnie Maes (Shearson Lehman Hutton Ginnie Mae index) 1988: +8.61* 1987: +4.30 Five-year certificates of deposit (Bank Rate Monitor national index) 1988: +8.35**** 1987: +7.86 One-year certificates of deposit (Bank Rate Monitor national index) 1988: +7.66**** 1987: +6.91 Money-market funds (Donoghue’s 12-month yield on taxable money funds) 1988: +7.05**** 1987: +6.12 Intermediate-term treasury securities (Shearson Lehman Hutton intermediate-term Treasury index) 1988: +5.97* 1987: +3.60 Residential real estate (rise in average weighted price of new and existing single family homes, National Assn. of Realtors estimate) 1988: +5.90* 1987: +8.15 Money market deposit accounts (Bank Rate Monitor national index) 1988: +5.86**** 1987: +5.59 INFLATION (Dec.-to-Dec. change in consumer price index, Data Resources estimate) 1988: +4.5* 1987: +4.4 Platinum (New York Merc spot contract) 1988: +3.20 1987: +6.35 Stamps (Linn’s U.S. stamp market index) 1988: +0.48*** 1987: +9.67 Silver (Comex spot contract) 1988: -9.58 1987: +23.74 Gold (Comex spot contract) 1988: -15.67 1987: +20.08 Gold mutual funds (Lipper Gold Fund Index) 1988: -16.52***** 1987: +33.96 * estimate ** through Nov. 30 *** through Dec. 15 **** through Dec. 28 ***** through Dec. 29