Start of a Bull Market--or Is It a Bear Trap?
The stock market is looking more and more like a runaway train--in this case, a train running up a mountain, defying much more than just gravity.
And when Wall Streeters are asked to compare this market to other periods in history, one fateful month increasingly is being recalled: August, 1982, the start of the greatest bull market in history.
The bears say that’s absolutely ridiculous. They are adamant that this rally, as powerful as it has been, will end in disaster.
Yet on Tuesday stocks rose again, as the Dow Jones industrial average climbed 16.09 points to 2,788.37. The Dow has rocketed 279.46 points, or 11%, since the Persian Gulf War began on Jan. 16.
A rally of that size isn’t unusual by itself, even in a bear market. From its peak of 2,999.75 last July to its low of 2,365.10 in October, the Dow plunged 21%. Since the October low, the index has risen 18%. Smith Barney, Harris Upham & Co., looking back to the year 1900, says a 21% gain has been average in bear market rallies--that is, rallies quickly followed by drops to new lows.
But in the current advance, there are many undercurrents that suggest something more than a fake-out rally is under way, some analysts say:
* The number of stocks that have participated in this rally has shocked many experts. Even on Tuesday, with a fairly mild gain for the Dow, rising stocks beat losers by a 2-to-1 margin on the New York Stock Exchange. That kind of breadth in an advance is an extremely healthy sign because it shows demand is widespread. “The breadth sure is reminiscent of what happened in the fall of 1982,” says Tom Cashman, manager of the Massachusetts Investors Growth Stock mutual fund in Boston.
* Another sign of breadth is the dramatic performance of smaller over-the-counter stocks versus the Dow blue chips. Since Jan. 16, the NASDAQ composite index of OTC stocks has jumped 18.3%. While the Dow has dropped back on four days since Jan. 16, the NASDAQ index has risen on every day but one.
From its October low, the OTC index is up 33%. Because small stocks have been out of favor for so long--they have lagged the blue chip indexes in every year since 1983--this buying frenzy has the look of something significant to many analysts.
* Trading volume has soared with prices. On Tuesday, 290 million shares traded on the NYSE. Since Jan. 16, eight trading days have topped the 200-million-share mark. The market hasn’t seen that kind of concentrated volume since 1987. Heavy trading at the start of a big rally generally is a good sign that the advance will last. “Volume is the most formidable weapon of the bull,” says Alan Shaw, technical analyst at Smith Barney.
The economic and social backdrop for all of this could hardly be more troubling. The recession clearly is worsening, and no quick recovery is in sight. The war is far from over, and a ground invasion of Kuwait by the allies could result in horrendous casualties. The banking system has been severely weakened. And federal, corporate and private debt loads are dangerously high and threaten economic dislocation for years to come.
That stocks could soar in the face of such overwhelming bad news may seem absurd. But then, this is almost a carbon copy of what happened in August, 1982. The Dow index bottomed at 776.92 on Aug. 12, 1982. Then, even as the recession of that year deepened, the banking system teetered and the Third World debt crisis exploded, the Dow began a powerful surge. By the end of 1982 the Dow had jumped 35% from August, to 1,046. By June, 1983, the Dow had reached 1,250.
The driving force behind that bull market was an intense effort by the Federal Reserve to push interest rates down. No matter how bleak the economy looked in 1982, the early stock bulls believed that sharply lower interest rates would eventually fix the situation. They were right.
Likewise, “the big event now is interest rates,” says Roger Engemann, whose Pasadena-based money management firm Engemann & Associates manages about $1 billion.
Consider that the average investor in a money market mutual fund was earning an annual yield of 7.5% last October. As the Fed has slashed rates, the average money fund has fallen to 6.76% now, the lowest since August, 1988. That yield seems destined to go even lower, as the Fed continues to ease credit. (The Fed already has said as much.)
The decline in rates means two things to Wall Street’s bulls: Money will flow again to re-energize the economy, and investors will be forced to turn back to stocks for a decent return. “I think it’s all very classic,” says Engemann, who sees no end to the market rally anytime soon.
True, some experts worry that the troubled banking system can’t help the economy much in the near term, despite lower rates. The bears say that even as the Fed pushes rates lower, the banks are too weak to lend. So rather than an economic recovery late this year, we’ll get an even deeper recession, the bears argue.
In fact, Michael Murphy, editor of the California Technology Stock Letter in San Francisco, on Tuesday urged his subscribers to sell all stocks--only the second time he’s made that call in nine years. His simple argument is that “the banking system is coming apart.”
Yet the market rally since mid-January has shown such conviction, investors appear to be collectively making a major change in their outlook, analysts say. And if that’s the case, near-term events won’t stop this surge, because just as in 1982 the market is looking ahead and saying, “That’s OK, interest rates are falling and the economy will recover--or enough of it will.”
Could this be a bear trap? Of course. The key, says Smith Barney’s Shaw, will be what happens when the rally hits its first real setback. If the small stocks that have led this rise collapse overnight, look out. But if those stocks hold up reasonably well after eight years in the doghouse, belief in a new bull market is likely to mushroom.
RATES DOWN, STOCKS UP: IS IT THAT SIMPLE? If you want to know what’s fueling stocks’ wild surge, some analysts say look no further than plunging short-term interest rates.
U.S. STOCKS LEAD THE WORLD U.S. stocks have advanced far more dramatically than foreign issues this year, and they fell far less than foreign issues last year.
Tues. Percentage change: Country/index close 1990 Year-to-date U.S./S&P; 500 351.26 -6.6% +6.4% France/CAC 40 1,606.38 -24.1% +5.8% Australia/All Ord. 1,354.40 -22.4% +5.8% Canada/TSE 300 3,365.90 -18.0% +3.3% Germany/DAX 30 1,438.85 -21.9% +2.9% Britain/FTSE 100 2,202.00 -11.5% +2.7% Japan/Nikkei 225 23,821.57 -38.7% -1.1%
