Tech Investors Hope Time Really Has Speeded Up
Six straight down weeks on Wall Street, and a Nasdaq composite stock index that is still off 34% from its March peak even with Friday’s huge snap-back rally, leave many investors asking one very basic question:
Has the fundamental backdrop for stock prices changed so dramatically to warrant such destruction of market value--and perhaps to justify even more destruction ahead?
The problem with asking the market to justify its actions, of course, is that the market cannot be wrong--or so say believers in the “efficient-market” theory. At any given moment, that theory states, stock prices accurately reflect the knowledge and expectations of all investors. How, then, could that ever be wrong?
But as history has amply demonstrated, humans’ confident expectations of near-term events frequently are foiled. The Titanic was expected to cross the Atlantic. Dewey was expected to beat Truman. The White Sox were expected to be in the World Series this year.
If the stock market has been unraveling because investors consciously or subconsciously assume an economic recession is on the horizon--usually one of the best reasons to sell stocks, after all--the odds of that assumption being correct are perhaps 50-50.
As the old saying goes, Wall Street has called 10 of the last five recessions.
Most economists continue to argue that the U.S. expansion, while aged, is in no danger of crumbling. They point to consumer-sentiment surveys that invariably show that most Americans still feel great about the economy, which suggests that people will continue to spend money.
“Despite rising energy prices and the roller-coaster stock market, consumers have remained remarkably upbeat,” said Don Hilber, economist at Wells Fargo. “Sentiment is near an all-time high, led by the best attitudes ever about current economic conditions.”
*
They also continue to invest: Stock mutual funds’ net cash inflow this year, through August, totaled nearly $256 billion, surpassing the full-year record of $227 billion set in 1997. That doesn’t sound like a populace that’s fearful of the market’s future.
But consumer sentiment readings are snapshots of the moment. You may be spending money and investing with abandon now, but will you be doing so in 2001 if your job becomes threatened?
We haven’t had a recession since 1990, so it may be worth reminding: They often occur because something unexpected spurs a shift in consumers’ and businesses’ plans for spending and investing. Take the spending away, and an expansion can quickly become a contraction.
Which brings us to the situation in the Middle East.
The stock market had already been in a five-week slump before tensions exploded between the Israelis and the Palestinians last week. To say the least, the latest conflict in the Middle East, and the apparent attack on a U.S. warship in the region, were exactly what a depressed market didn’t need.
Though Wall Street is often accused of lacking much in the way of institutional memory anymore, many investors remember this much: The Arab oil embargo in 1973 helped fuel the worst recession and stock market decline since the Great Depression. Likewise, the surge in oil prices that accompanied the Iranian revolution in 1979 helped produce a recession in 1980 and crippled the stock market.
In 1990, it was the Middle East, and oil, again: Iraq’s invasion of Kuwait triggered a loss of more than 20% in major stock indexes (our last official bear market) and sent energy prices rocketing.
This year, oil prices had until last week been rising purely for fundamental reasons: The glut of recent years has disappeared, and demand has caught up to, and overtaken, supply. That has been worrisome enough for Wall Street, if not for the U.S. economy at large.
The risk of a significant Middle East conflict that could interrupt oil supplies, therefore, wasn’t a factor in the market until last week. It was enough to push oil futures in New York up $4.13 for the week, to $34.99 a barrel by Friday--and to help drive the blue-chip Standard & Poor’s 500 stock index down 2.5% for the week, leaving it down 10% from its record high set in March.
Things were looking a lot worse for stocks before Friday, however. Though there was arguably no meaningful change in the Middle Eastern situation, bargain hunters rushed into stocks on Friday, and especially into beaten-down technology issues.
The Nasdaq composite index on Friday recorded its second-biggest percentage gain ever, soaring 7.9% to end at 3,316.77, and cutting the loss for the week to 1.3%.
If there isn’t a full-fledged recession on the way, say many Wall Street bulls, then plenty of stocks are already fairly priced or even cheap.
Abby Joseph Cohen, Goldman Sachs & Co.’s investment strategist and perhaps the world’s most famous bull, told clients Friday that the S&P; 500 stocks were about 15% undervalued based on Thursday’s closing prices.
Edward Kerschner, PaineWebber Group’s strategist and another highly respected voice, told clients: “Today’s valuations suggest the most attractive buying opportunity since 1998,” when the market plummeted in the wake of Russia’s bond default.
In other words, the fundamental outlook for the economy hasn’t changed enough to justify what’s happened with stock prices in recent weeks, Cohen and Kerschner contend.
Because they say so doesn’t mean it’s necessarily so, of course. If the Middle East explodes, oil goes to $50 a barrel and Nasdaq falls another 25%, bulls like Cohen and Kerschner will say that their estimates of stocks’ values had not factored in $50 oil, because the likelihood of that price seemed remote. It’s all about expectations, and they don’t believe it’s reasonable to expect such a disastrous turn in the oil market.
But oil’s price reversal this year is just one of a number of issues that may be gnawing at investors’ collective optimism about the economy and therefore the market.
In the late-1990s, Wall Street marveled at its continuous good fortune. Every global crisis seemed to have a silver lining for the U.S. economy. Others got weaker; we got stronger.
*
Then came Internet mania, and a surge in technology stocks that made most other market manias in U.S. history look like pikers. The argument was put forth again and again: “Our economy is the greatest in the world, and our technology stocks just reflect that.”
Now, many people who fueled that mania concede they paid ridiculous prices for many tech stocks. What remains unanswered is whether the comeuppance so far--the one-third loss in Nasdaq’s value from the March peak--is penalty enough, or whether there is much more to come.
In the late 1980s, the junk-bond market and the U.S. commercial real estate market were caught up in their own manias. Though the 1990 recession officially ended in 1991, the hangover in the junk-bond and real estate markets lasted significantly longer.
Everything is supposed to happen faster these days. The tech sector can only hope that’s true in terms of its fall, and recovery.
*
Tom Petruno can be reached at tom.petruno@latimes.com.
(BEGIN TEXT OF INFOBOX / INFOGRAPHIC)
Fund Inflows: Already a Record
Despite the troubled stock market, mutual fund investors are buying more than ever: Stock funds have taken in net new cash of $255 billion so far this year (through August), already surpassing the full-year record of $227 billion set in 1997.
*
Stock mutual funds’ net cash inflows (purchases less redemptions), annual totals and total through August, in billions of dollars
*
2000 $255.5 billion (through August)
*
Source: Investment Company Institute
