Stocks and Bonds Know It: Recovery Already Under Way
The stock and bond markets are sending a strong signal on the economy: The false starts are over--a recovery is definitely underway.
Investors increasingly are pulling money out of “safe” stocks, such as drug and food company shares, in favor of industrial stocks and others sensitive to turns in the economy.
Likewise, many investors are shying away from bonds on the belief that a strengthening economy will mean higher interest rates, at least in the near term.
Those powerful trends were in sharp focus on Wall Street on Tuesday:
* Health care stocks plunged, leading a broad market selloff. Drug giant Merck fell $2.25 to $146, and medical-instrument firm U.S. Surgical plummeted $8.75 to $103.
* Yet many industrial issues climbed, including aluminum giant Alcoa, up $2.75 to $70.50; manufacturing conglomerate Teledyne, up $1.25 to $26.125; and machinery maker Ingersoll-Rand, up $2.50 to $64.75.
* Bond yields continued to surge as buyers demanded higher returns in expectation of a general rise in interest rates this year. The yield on the Treasury’s 30-year bond jumped to 7.98% from 7.90% Friday. That yield was 7.39% just six weeks ago.
The shift in market psychology over the economy began subtly in mid-December. But early on many money managers were reluctant to jump on the bandwagon, fearing that the economy was merely giving more false signs of emerging from its long recession.
In the last few weeks, however, sentiment appears to have changed dramatically among individual investors and large institutions alike. And as more investors begin to expect a recovery, the event itself can become a self-fulfilling prophecy, experts note.
“There isn’t any question in my mind that we’re in the early process of recovery,” says Robert Rodriguez, a mutual fund manager with First Pacific Advisors in Los Angeles.
Adds Carmine Grigoli, investment strategist at brokerage First Boston Corp. in New York: “There is much more evidence that an economic turnaround is unfolding.”
That evidence, experts say, isn’t yet visible in such closely watched indicators of economic health as unemployment or industrial production. But the traditional early-stage barometers--housing and auto sales--are in fact turning, many Wall Streeters argue.
Investors, many of whom are themselves weary of recession and hungry for change, are taking those early signals as gospel, and are voting for recovery by chasing after stocks of industrial companies and other so-called cyclical firms.
If the economy is indeed beginning to grow again, earnings of those industrial firms should skyrocket later this year, as their sales begin to rebound from the depressed levels of the last two to three years. And because earnings ultimately drive stock prices, many investors see industrial stocks as the most exciting place to be in 1992.
From Dec. 31, 1991, through last Friday, the hottest stock group on Wall Street was machine-tool makers: The average stock in that group is up 35.5%. Second-best group: Auto stocks, up 32.7%. In contrast, the average stock, as measured by the Standard & Poor’s 500 index, is down 2.3%.
Other big gainers so far this year include home builders, semiconductor makers, truckers and hardware firms--all businesses that tend to lead the economy out of recession as consumers and businesses start spending again.
But couldn’t the stock market be wrong in bidding these stocks higher? After all, the economy has suffered several false starts since last winter, and some of these “early-cycle” stocks have soared periodically, only to quickly fall back.
The difference this time around seems to be the depth of Wall Street’s belief that better times are coming. Many of the big investors who for years have wanted to own nothing but safe growth stocks--such as drug and food companies--are changing their approach, or are at least bending their growth-stock rules to allow for the purchase of industrial stocks.
“We’ve been peeling back a little on the higher priced stocks in health care,” admits Alan Sachtleben, who manages a $7-billion stock portfolio for American Capital in Houston. As he sells those stocks, he says, “We’re buying things that are going to show more economic sensitivity.”
Likewise, Steven Check, an Orange County money manager who had been a major fan of food and drug stocks a year ago, says that in recent months he has purchased shares of industrial equipment firms General Electric and Cooper Industries for his $45-million portfolio.
Of course, just because investors are buying these stocks for a recovery doesn’t guarantee that there will be one. Some doubters worry that rising interest rates will shut down any new economic growth. But that ignores history, which shows that once the economy gets going, it usually continues on an upward path even if rates rise along with it.
Point is, Wall Street often guesses correctly on big economic turns--and sentiment has now become so strong for recovery that it’s probably foolish to fight it.
The Market Bets on Recovery Investors are pouring into stocks of companies that benefit when the economy strengthens-a sign that Wall Street is convinced the recession is ending. Best-performing industry groups, Dec. 31, 1991, through Friday, percentage gain Machine Tools: 35.5% Autos: 32.7% Semiconductors: 29.6% Home Building: 24.6% Leisure Time: 21.9% Entertainment: 21.9% Transportation: 21.4% Hardware / Tools: 21.2% Truckers: 18.7% Building Materials: 18.0% Source: Smith Barney, Harris Upham & Co., using S&P; indexes
Least-Liked Stocks These are the stock industry groups that have fallen the most this year, through last Friday’s close.
Percentage change: Group 1991 1992 Medical products +60.7% -12.6% Health care (misc.) +68.6% -12.4% Natural gas -17.9% -10.5% Drugs +62.4% -10.2% Diversified health +43.6% -10.0% Multi-line insurance +30.0% -8.5% Food wholesalers +17.2% -8.2% Food producers +42.5% -8.1% Telephone utilities +0.7% -7.3% Cosmetics +53.1% -7.0% S&P; 500 index +26.3% -1.1%
Source: Smith Barney, Harris Upham & Co., using S&P; indexes
