Wall St. Keeps the Heat On : Stocks End Quarter With Index Records
As a theme song, “We Shall Overcome” fit the stock market’s bulls beautifully in the third quarter ended Monday.
The Dow Jones industrial average finished the quarter with a 9.25-point gain to 5,882.17, leaving it just slightly below its record high of 5,894.74 set Sept. 23--and a full 4% above its level at the start of the quarter, despite a hair-raising plunge in July.
What’s more, the broader Standard & Poor’s 500 and New York Stock Exchange composite indexes ended Monday at all-time highs, putting an appropriate exclamation point on a wild summer for stocks.
The market’s summer sell-off was the deepest since 1994, and in the midst of it plenty of analysts were declaring the bull market’s demise, a few months short of its sixth anniversary.
But the triggers for the sharp plunge in July--worries about rising interest rates and slowing corporate earnings growth--proved overblown by early August, and that was all Wall Street needed to bring individual and institutional buyers back into the market.
The result is that nearly every broad stock market index either hit new highs in September or is within about 5% of its spring peak, after dropping anywhere from 10% to 25% in the July decline.
The Dow index now has climbed 15% year-to-date, after soaring 33.5% in 1995.
“It’s amazing how the market has snapped back” from the summer pullback, said James Engle, chief investment officer at Wood, Struthers & Winthrop in New York.
Many bearish analysts, while sharing that amazement, argue that with every rebound, the market is just setting investors up for a much more painful comeuppance.
“People are paying higher and higher prices for stocks than they’ve ever paid before,” warns David Tice, a Dallas money manager and a vocal bear. “We expected that some investors would ‘buy on the dip’ in summer,” he said, but he insists they will soon find out that “the market doesn’t reward that [behavior] forever.”
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Yet the case for a continuing bull market in stocks remains compelling, many Wall Street veterans say. They see that case built on expectations that the U.S. economy will keep growing at a moderate pace, allowing corporate profits to continue rising while inflation and interest rates remain relatively subdued.
“Long-lasting profit growth remains a key feature of the U.S. economy,” argues Abby Joseph Cohen, strategist at Goldman, Sachs & Co. in New York.
Indeed, despite downbeat second-quarter earnings warnings from key technology companies Hewlett-Packard and Motorola in early July--which helped precipitate the summer sell-off--earnings-tracker IBES Inc. said earnings from continuing operations for the blue-chip Standard & Poor’s 500 companies rose 8.5% in the second quarter, after rising 7.2% in the first quarter.
That is far below the double-digit earnings gains of the last three years, but many investors still find profit growth attractive enough in a low-inflation environment, analysts say.
IBES says analysts expect overall S&P; 500 company operating earnings to be up just 4.8% in the third quarter, but then rise 12% in the fourth quarter, and rise 13.2% in 1997 over 1996.
With earnings gains underpinning stocks, the bulls say it makes sense that the market was able to quickly overcome the summer’s challenges:
* Fears that the economy was strong enough to warrant a credit-tightening move by the Federal Reserve Board sent market interest rates surging in July, with the yield on 30-year Treasury bonds jumping from 6.89% at June 28 to 7.19% in early July.
Yet despite wild swings, bond yields ended the quarter just slightly above where they started. The Fed never tightened credit, deciding instead to see if the economy will slow of its own accord--exactly what many stock investors were hoping.
* Stocks also faced the prospect of another inflationary surge in grain prices in summer, if Midwest weather had threatened this year’s crops--critical to restoring low world stockpiles. Instead, the weather cooperated, and grain prices have continued to slide from their spring peaks, with corn on Monday reaching one-year lows.
* Individual investors’ demand for stock mutual funds waned in July, as some fund owners chose to take profits amid the market’s downturn. But the selling quickly abated, and net inflows into stock funds zoomed back to nearly $18 billion in August, up from just $5.8 billion in July.
Just as important, the stock market has found ongoing support from another critical group of buyers: corporations themselves.
Takeover activity has boomed at record levels this year. High stock prices haven’t deterred companies from merging, as corporate executives hunt for ways to quickly boost earnings growth.
And many companies continue to use their hefty profits to buy back their own shares, another way to boost per-share earnings growth and attract investors.
So far this year, a total of 1,093 companies have announced plans to buy back up to $108 billion of stock, surpassing the full-year total of 1,012 companies and $99 billion in 1995, according to Securities Data Co.
That has helped offset much of the new supply of stock entering the market via new stock issues, which have again turned hot in recent weeks as investors hunt for future market stars--or just a fast buck.
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Still, bears such as David Tice see the massive appetite for stocks on the part of the public and corporations as evidence of a market frenzy that will end in disaster sooner rather than later.
He argues that U.S. companies’ profitability has been so high over the last few years--thanks to the weak dollar and cost-cutting--that it is simply unsustainable.
“We think we’re setting up for a secular bull market peak within six months to a year” as earnings increasingly disappoint investors, he says.
There is, in fact, evidence that many investors are worried about earnings growth: The most popular stock groups in the third quarter tended to be those that grow at fairly reliable rates regardless of the economic climate: shoe companies, health-care firms and cosmetics makers.
On the downside, investors pulled out of groups whose earnings tend to be more cyclical in nature, including truckers, airlines and machine-tool firms.
But Bluford Putnam, investment strategist at Bankers Trust in New York, thinks the bears are once again underestimating the stock market’s resilience, and the strength of the underlying fundamentals.
In June, Putnam says, there was a good argument that the market needed a typical “correction” to wash out some of the speculative excess that had developed in spring, especially in smaller stocks.
That’s exactly what the summer pullback was: a typical correction, he says, with the Dow losing about 10% from its May peak to its intra-day low in mid-July.
The stocks that were most overvalued in the spring, such as small technology issues Iomega Corp. and Diana Corp., remain far below their spring peaks, Putnam notes. But there is no reason for the rest of the market to suffer that fate, he says. “I don’t think the [broad] market needs a correction now,” Putnam says.
Among Monday’s highlights:
A late burst of profit-taking and other quarter-ending portfolio shifts cut into a broad advance Monday, but not enough to keep the NYSE composite from rising 1.06 points to a record 367.33, and the S&P; 500 from rising 1.12 points to a record 687.31.
The Nasdaq composite index of mostly smaller stocks slipped 3.13 points to 1,226.92 as profit-taking hit some tech shares.
Still, the Nasdaq index gained 3.5% for the quarter and is up 16.6% year-to-date, a better gain than the Dow’s.
Stocks were pressured most of the session by bonds. Yields inched up after the latest government reports offered fresh evidence of a healthy economy: solid advances in both consumer spending and personal income and a jump in new home sales to the highest level in more than 10 years.
Analysts said the signs of increased activity could mean the Fed made a mistake last week when it again chose to leave its key lending rates unchanged, apparently content that the economy was slowing enough on its own to keep inflation under control.
Still, the 30-year Treasury bond yield ended Monday at 6.92%, up just slightly from 6.91% on Friday. The yield was 6.89% at the start of the quarter.
Foreign stock markets ended mixed Monday, but most followed the U.S. market higher in the quarter after a July dip. Hong Kong shares rose 8% in the quarter, Frankfurt jumped 3.5% and London gained 6.5%. But Mexico City shares edged up just 0.8%. The Tokyo market lost 4.3% in the quarter.
Associated Press contributed to this report.
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Bears Challenge, but Bulls Win Again
The stock market suffered its deepest sell-off since 1994 in the thrid quarter, hurt by worries over rising interest rates and slowing corporate profit growth. But share prices quickly rebounded in August and September as interest rates pulled back and earnings concerns receded. Strong merger and corporate share buyback activity also helped. The Dow Jones industrial average, daily closes since June 3:
* June 28: End of second quarter; Dow at 5,654.63. 30-year T-bond at 6.89%.
* July 5: Dow plunges 115 points as bond yields soar on strong jobs report.
* July 12: Hewlett-Packard and Motorola report poor earnings.
* July 23: Market hits six-month lows on profit worries.
* Aug. 2: Stocks resurge as moderate economic data send bond yields plunging.
* Sept. 13: Dow hits record after modest inflation report.
* Monday: End of third quarter; Dow at 5,882.17; 30-year T-bond at 6.92%.
How Key Indexes Fared
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Index Third quarter Year-to-date Dow Industrials +4.0% +15% Nasdaq composite 3.5 +16.6 S&P; 500 +2.5 +11.6 S&P; mid-cap +2.5 11.1 Wilshire 5,000 +2.3 +11.7 NYSE composite +2.3 +11.5 Russell 2,000 Nil +9.6
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Buybacks Flourish
Companies have pledged share buyback plans of $108 billion so far this year, a record. Dollar volume of buybacks announced each year, in billions:
1996: $108.0*
*Through Friday
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Source: TradeLine, Securities Data
Best and Worst Stock Groups
Here are the stock industry groups that rose the most, and fell the most, in the third quarter, out of about 90 groups tracked by Standard & Poor’s Corp. Year-to-date returns also are shown. The S&P; 500 stock index rose 2.5% in the quarter and is up 11.6% year-to-date.
Best Groups
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3rd qtr. Y-T-D Oil and gas drilling +23.3% +69.0% Shoes +15.9% +63.6% Major regional banks +12.2% +19.2% Drugstore chains +11.9% +16.4% Health care (misc.) +11.4% +6.6% Medical products +11.1% +13.1% Cosmetics +10.9% +29.8% Computer systems +10.7% +18.7% Leisure time +10.3% +17.3% Money center banks +10.2% +27.3%
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Worst Groups
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3rd qtr. Y-T-D Machine tools -23.5% -27.7% Truckers -21.2% -34.4% Defense electronics -16.4% +8.7% Hotels/motels -14.8% +18.1% Airlines -14.6% +3.4% Broadcast media -13.7% -21.1% Long-distance telephone -13.3% -13.0% Tobacco -13.1% -2.0% Telephone utilities -9.0% -13.1% Gold mining -7.3% -3.1%
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* Source: Bloomberg Business News
