‘Bull’ Clinton or ‘Bear’? Markets Ready to Judge : Investments: Experts say the President-elect’s sway over the financial markets will be enormous, especially early on.
As President, Bill Clinton will be more than the nation’s chief executive in 1993. He also will be its chief investment officer, the person most likely to determine the broad course of U.S. financial markets during the year.
American presidents invariably influence stock prices and interest rates to some extent. But many investment experts are warning clients that Clinton’s sway over the markets will be enormous, especially early on.
Though a President does not set interest rates or directly control most individual companies’ fortunes, the new federal activism that Clinton promises on the economy will directly affect investors’ judgment of the “right” levels for interest rates and stock prices in 1993.
“We really are at a fairly critical juncture, where decisions on (federal) policy will have a meaningful impact on the market climate for the next few years,” argues Stephen Roach, economist at investment banking giant Morgan Stanley & Co. in New York.
In contrast, for most of George Bush’s presidency it was Federal Reserve Chairman Alan Greenspan who mattered most to Wall Street, not Bush. As Greenspan steered interest rates to 30-year lows, he continually rewarded investors for staying in stocks and bonds even as the markets’ patience with Bush’s hands-off economic policy wore thin.
Now, Greenspan is on the sidelines, having done virtually all he can for the economy via interest rates. It’s up to the President-elect to preside over what Wall Street and Main Street both dearly want--sustainable economic growth and a credible plan to rein in the $4-trillion federal debt.
If Clinton succeeds, most experts believe that stock prices could rise for a third straight year, and long-term interest rates could continue their five-year slide.
But if Clinton fails on either or both counts, stock and bond markets could stumble badly this year, though many analysts figure that the damage to bond holders--from higher interest rates--could be far worse than what smart stock pickers might suffer.
So far, the good news for Clinton and investors is that the economic and political backdrops seem to assure him better odds of success than failure, at least in his first year.
In Wall Street’s view, “Clinton couldn’t have asked for a better environment to come into,” says Jack Kallis, manager of the MetLife/State Street Government Income fund in Boston:
* Consumer confidence has already rebounded dramatically, boosting November sales of existing homes to the highest level in nearly six years and giving retailers their best Christmas sales season in four years. Business confidence has jumped as well, increasing the likelihood that more companies will spend on new equipment and new hires in 1993.
* The stock market, responding to the improving economy and its promise of rising corporate profits, has been rallying briskly since mid-October. The blue chip Dow Jones industrial average closed Thursday at 3,301.11, for a gain of 4.2% on the year.
More striking has been the surge in small-company stocks, whose fortunes are considered most closely linked to the health of the U.S. economy. The NASDAQ composite index of 4,000 mostly small stocks jumped 15.5% in 1992, more than triple the Dow’s gain.
* The yield on 30-year Treasury bonds has eased to 7.39% from 7.75% just after the November election, even though short-term interest rates have inched up.
Because long-term rates are extremely sensitive to the outlook for borrowing and to inflation (more of either naturally makes the cost of money go up), the slide in bond yields appears to be a vote of confidence that Clinton can bring the mushrooming federal budget deficit under control.
For financial markets, the optimistic scenario for 1993 goes like this: Clinton unveils a modest economic stimulus program that sets national industrial and investment priorities (such as infrastructure-spending and worker-training initiatives), but does not entail higher federal deficits than the record $290 billion of 1992.
More important, Clinton makes good on his prior promise of a detailed plan for paring the deficit by a specific amount within four years through a combination of spending cuts and tax hikes, such as on Social Security benefits to wealthier Americans.
If he can nurture the economic recovery while beginning the painful process of weaning America from deficit spending, Clinton will create an ideal environment for stocks and bonds over the next few years, many Wall Streeters believe. Investors would continue to be drawn to stocks by expectations of higher corporate earnings, while long-term bond yields could drop or at worst stay flat once free of the threat of ever-spiraling federal borrowing.
“It will be a watershed period, if Clinton chooses to make it so,” says Bradlee Perry, a veteran investor who chairs the Babson mutual funds in Boston. “Clinton knows something has to be done on the deficit. And I think people are alarmed enough about the deficit that a program to reduce it could be well-received,” even if it involves significant societal pain, Perry adds.
The major problem for Clinton--and for investors--is that there now is little room for error or disappointment going forward.
The benchmark Standard & Poor’s 500-stock index, hovering near its all-time high, trades for about 17 times the companies’ estimated collective earnings per share in 1993. A “price-to-earnings” multiple around 17 has historically been the maximum investors have been willing to pay for stocks, which suggests that the economy--and thus corporate earnings--absolutely must grow this year for stock prices to continue advancing.
At the same time, the rally in bonds since October means investors already have built-in expectations about a meaningful deficit-reduction program. If Clinton fails to deliver, bond investors could suddenly bail out, pushing yields up sharply. That would threaten the economy’s growth and most likely send stocks tumbling.
Indeed, it is the “bond market vigilantes”--the faceless, computer-linked bond traders around the globe who can drive interest rates north in a matter of seconds--who are expected to be Clinton’s greatest nemesis if he adopts a damn-the-deficit attitude.
Yet some Wall Streeters question the power that the business press has ascribed to the bond vigilantes, and to the deficit/interest rate issue, in determining whether the economic recovery truly takes wing in 1993.
“I don’t think the deficit is any more or less important than it was four years ago,” argues Charles Plosser, professor of economics and finance at the University of Rochester in New York.
Bond traders may be upset if Clinton allows the deficit to balloon further this year, Plosser says, but he doubts that a consequent jump in bond yields would be large enough--or last long enough--to destroy the economy’s momentum.
Remember, he notes, that the biggest players in the bond market are Wall Street firms whose own huge inventories of bonds would be badly devalued if they allowed yields to soar. “It’s really not in their interest to overdo it,” Plosser says. (Since 1989, in fact, the 30-year Treasury bond yield has traded almost entirely in the 7.5% to 8.5% range.)
More significant for the ’93 outlook for stocks and bonds, say market optimists, is that most other determinants of investors’ staying power in those markets remain bullish. What Clinton says and does this year may make stocks and bonds swing wildly at times, but he would have to work hard to kill the forces exerting long-term upward pressure on the markets, the bulls contend:
* Apart from some scattered commodity price increases, such as in timber, the overall inflation rate is likely to stay around 3% in 1993--so there’s little reason for investors to favor “hard” assets (gold, real estate, etc.) over financial assets such as stocks.
“Stable oil prices, excess (industrial) capacity, and slack in the economy and labor markets are major factors in the favorable inflation outlook,” says David Blitzer, economist at Standard & Poor’s.
* Short-term interest rates may rise further as the economy expands, but it will be a long climb from current 2.8% money market yields--and in the meantime, returns in the stock and bond markets will probably continue to appear much more lucrative, drawing in new investors.
* Weakness in foreign economies will be a drag on the U.S. recovery, but that same weakness also should mean lower interest rates in Europe and Japan in 1993--giving foreign investors greater incentive to seek out better returns in U.S. stocks and bonds, after a long absence.
* The nation’s No. 1 demographic trend--the aging of the baby boomers--will assure that cash flows into long-term savings vehicles such as stocks and bonds continue at high levels, albeit with periodic hiccups during inevitable market selloffs.
Ironically, some Wall Streeters argue that the health of the economy and markets in 1993 requires only that Clinton hew to a moderate course with his policies, while succeeding where George Bush failed miserably: In cheerleading consumers and businesses out of their shells with the same can-do attitude that worked for Ronald Reagan in the early ‘80s.
“We’ve got low inflation, and we’ve got the best ahead of us in the economy,” says a bullish Eugene Sit, head of Sit Investment Management in Minneapolis. “You can’t be too pessimistic as long as the guys in D.C. don’t screw it up.”
Markets: A ‘Yes’ Vote on Clinton--So Far
The stock market spent much of 1992 in a funk, a victim of the stop-and-go economy, political uncertainty and overseas crises. But since early-October--when President-elect Bill Clinton’s victory became a fait accompli --stocks have surged on expectations that Clinton will usher in a new era of growth. Small-company stocks in particular have responded enthusiastically to Clinton.
NASDAQ composite Jan./Feb.: Small stocks surge on economic hopes. Mid-March: Economy gains steam, but stocks stall. Mid-June: Perot’s entry in White House race stirs worry. Early-July: Fed cuts discount rate from 3.5% to 3.0%. Late-Sept.: European currency crisis explodes. Early Nov.: Clinton’s election bolsters confidence. Dow industrials Mid-April: Tokyo stock slide undercuts U.S. issues.Late-May: Rising consumer confidence bolsters stocks. Mid.-Oct.: Stocks hit ’92 low on economy, election fears. Dec. 31: NASDAQ hits record 676.95; Dow at 3,301.11.
