Wingding On Wall Street

Explosive stock market rallies have a way of creeping up on investors. And for most of this summer, Wall Street didn't expect much upside action. Nonetheless, from Aug. 23 to Aug. 31, the Dow Jones industrial average racked up 162 points, or 4.3%, to close above 3913, its highest point in more than six months and only 1.7% below the 3978 record set on Jan. 31. Some old-timers ask: Could this be a repeat of August, 1982, when an out-of-the-blue surge kicked off the 1980s bull market?

There are a number of reasons for optimism. Dealmania, for one. Through August, companies have announced more than $200 billion worth of merger-and-acquisition activity--about half of it since the beginning of July alone, says Securities Data Co. The frenzied activity is giving stocks a nice boost: On Aug. 30, for example, aerospace and defense stocks soared on the news of the Lockheed-Martin Marietta deal.

Small investors also get credit for the market's upswing: Net cash flow into equity mutual funds in July was $9.2 billion, a 20% increase from June. August inflows should climb about 15%, says Robert Adler of AMG Data Services.

BEAR TRAP. The market's rally didn't really take hold until the street had digested news of the Federal Reserve's Aug. 16 hike in short-term interest rates--its fifth in six months. "When the market didn't swoon, buyers rushed in with cash that had been building up all summer," figures investment manager Christopher P. Baker of C.P. Baker & Co.

How strong is the rally? Most likely, it's neither the start of something big nor a "bear trap"--a temporary revival that lures investors into believing it's the beginning of a bull market. The market's trading range may ratchet up, but rising interest rates mean even optimists don't foresee a new beachhead beyond Dow 4000. Investment strategist Charles I. Clough of Merrill Lynch & Co. notes that the yield on 10-year Treasury bonds is 2.5 times that of the yield on the Standard & Poor's 500-stock index. Four of the last five times that happened, the stock market advance ground to a halt. Yet despite healthy corporate profits, dividends are up just 1.5% this year.

Still, some investors are looking beyond the rate squeeze. Strategist Jeffrey M. Applegate of CS First Boston expects the Fed to have done most of its tightening by early 1995. So he remains a bull, reasoning that tight monetary policy will contain inflation, prolonging the economic expansion--and the bull market. The bottom line: This market may not soar, but it isn't about to tank either.

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