As Of: May 29, 2001
Is The Glass Half Full?
Optimism Flies In the Face Of Logic
An article found in The Wall Street Journal dated Tuesday, May 29th has as its thesis that this stock market is a "bull in bear's clothing". The article by Gregory Zuckerman and Peter McKay points out that "just 20 stocks were responsible for more than 76%" of the trillions of dollars recently lost in the stock market decline. According to a study by Bianco Research LLC, those 20 stocks are in the technology or telecommunications business. An optimist can thus conclude that all is well with the world. If we just excise the tech and telecom stocks, the article states that "the past few years would have looked like a steady bull market". The article suggests that investors should feel reassured; and the fact that the recent decline was focused so narrowly in just a few stocks "may bode well for a continued broad market recovery". Frankly, the news terrified me!
I believe the technology stocks led the market up, and they are leading the market down. If the broad market is still acting like it is in a bull market, this means the worst is yet to come! If Cisco Systems alone cost investors $333 billion, what is it going to cost when General Electric gets taken apart? The indicators of a recession are just beginning to present themselves. But this early glimpse has already spooked the Federal Reserve into dropping interest rates at an unprecedented precipitous rate. Unemployment has barely crept up to 4.5%. What will the economy look like when unemployment passes 6%, as Stephen Roach, the chief economist of Morgan Stanley, predicts? During the past two months while the Federal Reserve has been pushing short term interest rates down, the Treasury bond futures market has moved from 107.16 down to 99.19. (This 8% drop in bond prices means longer term interest rates are going up.) Why? At the same time bond interest rates were rising, an ounce of gold ran up from $255 to $289. (Granted, there may have been some special circumstances at work in the gold market, but nevertheless . . . ) The market seems to smell a whiff of inflation.
If the broad market is going to continue to advance, one would expect earnings to improve, one would expect the consumer to remain strong in the market place, one would expect business to increase capital expenditures, and it would help to have strong foreign demand for products and services. Such optimism flies in the face of reality. Private debt is reaching scary levels, and the number of bankruptcies is increasing. Business is cutting capital expenditures and writing off inventory. Limited access to capital markets is making it hard for businesses to grow even if they could. We have at least another few quarters of murky earnings, and the contagion is spreading to Europe and other corners of the world.
Perhaps the stimulus of lower interest rates will help; but there is a higher probability that the actions of the Federal Reserve will simply cause an increase in inflation, a weaker U.S. dollar, and a further loss of confidence.
Much like an iceberg, what we have seen so far is only a small portion of the whole. When the growing list of negative forces has time to work its way through the system, the "old economy" stocks will cave in along with the "new economy" technology and telecommunication stocks. As much as one might like to be an optimist, the glass is half empty and leaking badly.