Fear of Rising Rates Jolts Dow, Not Home Sales : Index Plunges 114, Bond Yields Soar on Employment Surge

By KATHY M. KRISTOF

July 6, 1996 12 AM PT

TIMES STAFF WRITER

Stock prices plunged and bond yields soared Friday as an unexpectedly strong employment report fueled worries that continued brisk economic growth would boost inflation and interest rates.

Analysts expressed fears of further upheaval when trading resumes Monday, with some suggesting that the greater specter of higher inflation--posed by a record monthly increase in hourly wages--now poses the most serious threat to the bull market in some time.

The Dow Jones industrial average took its biggest single-day plunge since March, dropping 2.01%, or 114.88 points, to 5,588.14 in abbreviated post-holiday trading. Broader market indexes dropped with similar force as declining issues outpaced gainers by a 7-1 margin.

Meanwhile, the yield on the bellwether 30-year Treasury bond surged to 7.19% from Wednesday’s 6.93%. The last time the yield was that high was June 12, when it also reached 7.19%. (Financial markets were closed Thursday in observance of the Fourth of July holiday.)

Indeed, the only bright spot in post-Independence Day trading was in gold stocks, which tend to rise whenever there’s a threat of inflation or economic turmoil. The Standard & Poor’s gold stock index was up 3.9%.

Analysts were clearly worried about how the markets will fare Monday.

“Both markets are bracing themselves for when investors get back from the long holiday weekend,” said Gary Schlossberg, economist at Wells Fargo Bank in San Francisco.

But even with Friday’s decline, the Dow average is still is up more than 9% from the start of 1996. And some suggested that many investors might view Friday’s decline as an opportunity to buy stocks more cheaply.

Analysts were unanimous about what caused the markets to tumble Friday. The Labor Department announced just before the market opened that the nation’s unemployment rate fell to a six-year low at 5.3% in June, thanks to the creation of about 239,000 non-farm jobs.

Moreover, average hourly wages posted the biggest monthly boost in the three decades that it has been tracked. The employment report was twice as good as analysts had expected and capped several months of rosier-than-expected economic news.

While a strong economy and rising wages are good news for workers, they raise a specter of inflation that can boost interest rates, erode corporate profits and shift invested dollars away from stocks. Stocks have soared over the last year in part because of slow economic growth, low interest rates and modest wage and price inflation.

“It’s ugly,” Schlossberg said about the stock market’s Friday performance and its prognosis. “This very strong jobs report is going to set the tone for the market over the next several weeks.”

Strong jobs reports also sent stock prices tumbling in February, March and May. But the markets calmed--and even bounced back--when analysts predicted that economic growth was sure to slow in the second half of the year. It’s possible that the same thing will happen again; however, there are some signs that indicate it might not, several experts warned.

While the Dow Jones industrial average has fared well over the last several months, the broader market has been weak, said Gerald Appel, president of Signalert Corp., a Great Neck, N.Y., money management firm. That’s often a sign that the market has reached a near-term peak and is likely to weaken. Moreover, corporate insiders have begun to sell their stock fairly heavily, which is also a bearish signal.

“It’s too early to say whether the game is totally over, or if we are just heading into a fairly choppy phase,” Appel added. “But it’s time for investors to start placing stops on their stocks, weed out those that aren’t performing well and take a selective view. It’s become a very selective market.”

(“Stops,” or stop-loss orders, are standing directions that tell brokers to sell certain shares if per-share prices drop below set levels.)

Then, too, a number of companies have recently revised their earnings estimates downward in the last several months, which could indicate that current prices are too lofty.

“Stocks were getting a little nervous over second-quarter earnings with a number of pre-announcements--mostly techs--that unsettled the market,” said Gail Dudack, market strategist at UBS Securities. “If earnings don’t come through in fairly good form, stocks will continue under risk.”

In addition, the Friday jobs report has raised serious concerns about inflation.

“It looks like the economy is firing on all cylinders,” said Pierre Ellis, senior economist at Lehman Bros. in New York. “The stage has been set for the labor market to tighten and [interest] rates to go up.”

Many analysts are now anticipating the economy will grow at a fairly brisk pace possibly through the end of the year, Schlossberg said.

That’s likely to force the Federal Reserve Board to raise interest rates in what would be an effort to stem consumer spending and head off any significant rise in inflation, industry experts said Friday.

Higher interest rates can cause individuals to shift money out of stocks and into safer, interest-bearing investments. With fewer dollars chasing the same number of investments, per-share values also tend to erode. In 1994, when the central bank started hiking rates, U.S. stock prices fell almost 10% in a two-month period.

“The word for the next three to six month is ‘beware,’ ” said Steven Zenker, money manager at McCabe Capital Managers in King of Prussia, Penn.

Among the broad market indexes to get hammered Friday, the Standard & Poor’s 500-stock index fell 14.96 points to 657.44 and the Nasdaq composite index fell 23.25 points to 1,158.35.

Among the market highlights:

* Financial stocks sold off in reaction to the run-up in rates. J.P. Morgan fell 2 7/8 to 84 1/8, Citicorp dropped 2 7/8 to 79 7/8, Fannie Mae lost 1 5/8 to 31 and Cigna shed 4 1/8 points to 115.

* Technology stocks were also hard hit. Hewlett-Packard slid 2 to 92 1/8 after Goldman Sachs & Co. downgraded it, citing softening market conditions in Europe. Digital Equipment, which announced a cut of 7,000 jobs and reduced its profit estimates earlier this week, lost 1/2 to 38 1/2. IBM declined 5/8 to 97 7/8.

* Philip Morris dropped 2 3/4 to 101 7/8 on reports that the Italian government was investigating the possibility of tax fraud at the consumer company’s Italian operations.

* Ford Motor fell 1/2 to 31 3/8 after reporting that its U.S. sales of cars and light trucks in June declined 2.4% from a year earlier, the sharpest drop reported among the Big Three U.S. auto makers.

The Wall Street decline came amid similar sell-offs in European markets. London’s FTSE-100 erased an early 30-point gain and closed down 17.4 points at 3,743.2. In Tokyo, the key Nikkei-225 average ended down 60.49 points at 22,232.42, a fall of 298.33 points on the week.

Times wire services contributed to this report. Market Roundup, D4

* A BOOST FOR CLINTON

The robust job growth is good news for the president in an election year. A1

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Stunned Stocks

The Dow industrials tumbled 114.83, or 2%, Friday as bond yields soared on new inflation worries.

* Weekly closes of Dow Jones industrial average:

July 5: 5,588.14

* How other indexes fared:

Dow transportation: down 57.08 (2.6%)

Dow utilities: down 5.17 (2.4%)

S&P; 500: down 14.96 (2.2%)