Stock Funds Rise a Seventh Consecutive Quarter : Despite Summer Scare, Average Gain Is 2.61%
The U.S. stock market made monkeys out of bears in the third quarter, overcoming a short but scary downdraft in July to finish the quarter at or near record highs.
For stock mutual funds, that meant the seventh consecutive quarter of positive returns: The average general U.S. stock fund rose 2.61% in the quarter ended Sept. 30, according to fund tracker Lipper Analytical Services.
That put the average fund up 13.7% through the first three quarters, after rocketing 31.1% in 1995.
In contrast, the average bond mutual fund was up just 1.8% in the first three quarters, a victim of higher interest rates. And the average money market fund has earned a mere 3.6% year-to-date.
What’s more, stock funds piled on more gains late last week as share prices surged again. The Dow Jones industrial average soared 60.01 points Friday to a record 5,992.86, just a hair’s breadth from the 6,000 mark.
The catalyst for Friday’s rally was another drop in market interest rates, as the government’s report that the economy lost jobs in September provided more evidence that growth is slowing.
That’s what the bond market has wanted to see all year, of course. The stock market, on the other hand, was happy with fast growth in the first half of the year and managed, for the most part, to ignore rising interest rates.
By July, however, higher rates finally got to some investors, helping to trigger the steepest stock market pullback since 1994.
Lipper calculates that the average U.S. stock fund tumbled 6.1% in July. The Dow index lost 10% from its May peak to its intra-day low of about 5,175 in mid-July.
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But by August, stock investors’ attitude returned to the mode that has sustained this bull market for six years: For stocks, pretty much all news is good news.
Investors now appear largely convinced that the economy will slow just enough to allow interest rates to drop further--always good for stocks--but not enough to pose a serious threat to corporate earnings growth.
Pumped up by resurging cash inflows from the public, the average stock fund rebounded 4% in August and 5.2% in September, Lipper says.
Bearish analysts argue that many investors are blithely ignoring the classic signs of a peaking stock market: Corporate earnings, while still growing, have slowed significantly from the 15%-plus annual growth rates of the last three years. And the prices being paid for stocks relative to earnings, dividends, asset values and other key measures are in many cases higher than ever.
Even many bulls don’t disagree that stocks are reaching dangerous levels, judged historically. But stopping a bull market of this magnitude, with so many people invested and many others still anxious to get in--and with so few other exciting options for peoples’ money--is “like turning the Queen Mary,” says veteran Wall Street analyst Dennis Jarrett of Jarrett Investment Research in New York.
Investors who were frightened out of the market in July badly misjudged, he adds. “In bullish trends, corrections tend to be short and sharp,” Jarrett says. In other words, they’re over quickly, and then stocks’ uptrend resumes--which is exactly what has transpired.
Even so, picking winners among stock mutual funds as the market rebounded got tougher:
* Falling interest rates were great for funds that focus on financial services stocks (up 7.6% in the quarter, on average) and for funds that own real-estate-related securities (up 5.8%). But they were little help for utility stock funds, which lost 1.9% in the quarter.
* Rising oil prices supported natural resources funds in the quarter, and they posted a 4.1% return on average. But higher energy costs still aren’t translating into any dramatic inflation problem, and that took the shine off gold stock funds in the quarter. They lost 2% on average.
* Most important, the stock market’s recovery has been led by big-name, blue-chip stocks, as buyers have decided to stick with issues that offer great liquidity (i.e., they’re easy to buy and easy to exit) and that offer a certain comfort level about their long-term prospects.
Hence, growth-and-income stock funds, which tend to focus on blue-chip stocks, gained 2.9% in the quarter, on average, while small-company stock funds added just 1.8% on average.
Plenty of small-company funds that were flying high in the spring still haven’t recouped their summer losses, as the July market pullback slammed the most speculative stocks hardest--though that shouldn’t have surprised anyone.
Even as the blue-chip Dow hit record highs on Friday, the Russell 2,000 index of smaller stoks closed at 349.30, still 4.4% from its spring peak.
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Yet there are strong signs that speculation is increasing in the market overall again. Michael Lipper of Lipper Analytical notes that mid-cap stock funds jumped 3.2% on average in the quarter, even better than blue chip funds’ average gain. He surmises that investors who wanted to take more risk in the market in September opted to buy mid-cap stocks, which as the name suggests are companies mid-way between smaller companies and blue chips in size.
Werner Keller, a principal at Sherman Oaks-based FundMinder Inc., which manages portfolios of funds for individual investors, says his measure of the market is that more speculative sectors, including small stocks, technology stocks and Third World (emerging market) stocks, are poised to lead the charge in the fourth quarter.
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Abby J. Cohen, strategist at Goldman Sachs & Co. in New York, also believest that smaller stocks are looking more attractive as interest rates decline and investors feel more confident that the Federal Reserve Board won’t tighten credit anytime soon.
And the stronger the U.S. market looks, the more likely it is that foreign stocks also will do better after a weak third quarter, she says. The average international stock fund eased 0.6% in the quarter, and is up 7.4% year-to-date.
Foreign stocks “are what [Americans] are going to buy with their new money” as they make investment choices in coming months, Cohen says, because the U.S. market’s health will give investors more confidence to continue diversifying globally.
There’s also a good fundamental argument for foreign stocks now, she says: With interest rates having already fallen worldwide this year, and now in America, “We think the global economic picture will brighten in 1997.”
And that, she says, will ensure that American firms’ profits continue to advance--at a slower pace perhaps, but enough to support the bull market, she says.
That may sound far too optimistic for many market bears, but in this six-year-old bull market, happy surprises have been the rule rather than the exception.
