Navigating the Market’s New Frontier
Astronomers deal in big numbers and in events that often defy easy explanation or description.
They might be right at home describing the stock market in 2000--and perhaps in forecasting what this year may be like.
Consider:
* If ever a major stock market index resembled a supernova, that was the technology-dominated Nasdaq composite in late 1999 and early 2000. As tech shares soared amid a global mania for anything and everything in that sector, the stocks’ price-to-earnings ratios took a quantum leap to the outer limits.
But by the fourth quarter, with the U.S. economy slowing, the tech mania had turned into a full-fledged panic to get out at any price. Nasdaq the supernova became Nasdaq the black hole. And despite a record one-day jump Wednesday, the index still continued to shrink in the first week of 2001.
* In the course of 15 months, the amount of U.S. stock wealth built up on paper, and then destroyed, dwarfed the federal government’s massive projected budget surplus over the next decade.
The U.S. market’s value surged by $3.3 trillion from October 1999 to March 2000, then sank by $2.9 trillion between March and year’s end, as even the blue-chip Standard & Poor’s 500 stock index suffered its worst calendar-year decline in two decades (a negative total return of 9.1%).
Though the average U.S. stock fund fell just 1.9% for the year, according to Morningstar Inc., that figure was bolstered by strong returns in relatively few fund sectors that hold a minority of investors’ dollars, such as health-care and energy.
By contrast, the fourth-quarter losses alone in many popular growth-oriented stock mutual funds were mind-numbing: Many fell more than 25%. Some lost more than 40%. Year-end fund statements won’t be pleasant reading for most growth investors.
* Wall Street’s skies in late-1999 and 2000 were filled with shooting stars that lit up the market for a moment, then were gone. Most, of course, were “dot-com” shares. EToys, the Santa Monica-based online toy retailer, reached a record $82.50 a share in October 1999. Today the stock is worth 16 cents.
But there also were some spectacular crashes by former star stocks of much greater heft. Xerox, the copier giant that has been an American icon since the 1960s, plummeted to under $5 by year’s end from a 1999 high of $62 as the company’s sales and financial health deteriorated. Lucent Technologies, AT&T; and WorldCom led a virtual collapse of many established stocks within the telecom sector.
* For the market and the economy overall, it was almost as though the nation’s amazing journey of the late-1990s--the prosperity, the market gains, the feeling of American invincibility--took a sudden turn into a worm hole.
In astronomy terms, a worm hole is a hypothetical passage in space to somewhere else. And that’s what investors are wrestling with now: Where is that “somewhere else” we’re headed for, as consumer and investor confidence slumps, spending slows and corporate earnings growth dwindles? Is the next destination a mild economic slowdown, a severe recession, or something in between?
As usual at these junctures, the nation--and the world--look to the Federal Reserve. “It’s all up to the Fed now,” is a common refrain on Wall Street. To take the space analogy one step further, the Fed at these moments is more than a bit like the monolith in Arthur C. Clarke’s “2001: A Space Odyssey.” Its power to create or destroy seems total, though exactly what it’s thinking at any given moment can only be surmised.
Wednesday, as the Fed cut its key short-term interest rate for the first time in more than two years, the stock market staged a tremendous rally. But it didn’t last, and most major share indexes still lost ground for the week.
The reversal pointed up what is for many investors the most troubling aspect of the new market environment of the last year: The speed with which stock prices now rise or fall has become remarkable, and remarkably aggravating.
Market volatility can be measured in many ways, and by nearly all of them stocks’ volatility rose sharply in 2000.
By the measure that most people can relate to--the intraday moves in share prices--2000 had no peer in the post-World War II era.
Market statistician Ned Davis Research in Florida calculates that the Dow Jones industrial index’s average intraday swing last year was 3.7%. In other words, that was the difference between the Dow’s low and high for the day, on average.
That was the largest intraday volatility figure for the Dow since the 4.5% recorded in 1932.
What does it mean? Historically, periods of wild volatility have been associated with the end of market declines. “Eventually volatility reaches extremes, and that’s usually in conjunction with market bottoms,” said Tim Hayes, global equity strategist at Ned Davis.
But extremes in volatility are only evident in retrospect. Many analysts believed that the Nasdaq index crash in April and May marked the bottom. Little did they know that it was just a prelude.
What disturbs many Wall Street veterans is not that the market is down, but that the vast backdrop for the market seems to have changed for the worse. Obviously, the economy has weakened. Beyond that, it’s easy to look at such factors as the crumbling situation in the Middle East, the surge in energy prices and the rise in the U.S. murder rate in the last year, and wonder whether the equity market is losing many of tangible and intangible factors that made investors so eager to own stocks in the 1990s.
And if that’s the case, are share prices cheap enough already--or do they have to get a lot cheaper to reflect the new realities?
It isn’t comforting to contemplate such reversals, but it’s a necessary exercise. As famed economist John Maynard Keynes said: “When the facts change, I change my mind. What do you do?”
Still, even confronted with the possibility that the U.S. market could be in the middle of its first two-year decline since 1973-74, many individual investors probably look at things this way: “If I’m really in this for the long term, I can’t get too pessimistic.”
That is a sensible approach, of course--depending on your definition of “long term.”
It also forces one to consider that the next major turn for the market may in fact be up, not down.
The Fed, after all, has tremendous leeway with interest rates. The Bush administration likewise has tremendous leeway in terms of tax cuts. Either or both could keep the economy out of recession and set it up for a new phase of strong growth that would drive corporate profits and stocks.
However this year plays out, many of the dramatic shifts of 2000 won’t soon be forgotten. Hopefully.
Many people turned more conservative in their investing last year, and that was probably overdue. Risk again became a four-letter word, as it should be.
Many people also looked around and discovered that there was more to investing than funneling more money into highly valued tech stocks. Long-ignored sectors of the market got attention, including smaller stocks, “value” stocks, energy issues and real estate-related shares.
In a market universe out of kilter, one could argue that some sense of balance has been restored. In the long run, that’s a good thing.
*
Tom Petruno can be reached at tom.petruno@latimes.com.
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Nasdaq: Where’s the Bottom?
The Nasdaq composite stock index, dominated by tech giants such as Microsoft, Cisco Systems and Intel, posted a record gain in 1999--then a record dive in 2000. It still isn’t clear whether the tech bear market has reached a bottom.
