There's Lots Of Life After Dow 5000Jeffrey M. Laderman
By any measure, 1995 has been a hell of a year for the stock market. The Dow Jones industrial average smashed through 4000 in February and vaulted past 5000 on Nov. 21. The Standard & Poor's 500-stock index sailed through 500 in March and just topped 600. Both benchmarks are up more than 30% for the year, the best showing in two decades.
But while the stock market has been good to some, not many have a good word to say for stocks. Even November's surprising surge, in which the Dow leaped 268 points (chart), has been greeted warily. "The stock market's not nearly as strong as it looks," warns Philip J. Roth, a top market analyst for Dean Witter Reynolds Inc. And the Investors Intelligence poll of investment newsletters shows a paucity of enthusiasm--only 33.8% are bulls.
But stocks deserve a better rap. True, the stock market is not dirt cheap, but even at 5000 it's still a good deal. That's because the economy is growing slowly, inflation is low and nonthreatening, interest rates are falling, and investors keep pouring cash into the market. Equity mutual funds are taking in about $1.5 billion a week, according to AMG Data Services, and a good chunk of that is in long-term 401(k) investments. So even at today's heights, says A. Marshall Acuff Jr., portfolio strategist for Smith Barney Inc., "the backdrop for equities is still favorable."
And it should remain so for some time. George W. Jacobsen, president of the institutional investor Trevor Stewart Burton & Jacobsen Inc., notes that the economy has added manufacturing capacity all through the 1990s and labor is plentiful. Because of that, Jacobsen says, "we're more poised for growth in November, 1995 than we were in March, 1991, when we emerged from recession." And because of the unused capacity, "we don't have to worry about the Federal Reserve tightening monetary policy." Indeed, the Fed's next move is expected to lower short-term interest rates. Long-term rates are already down nearly two percentage points in the past 12 months--a major force in driving stocks higher.
Even the contretemps between President Clinton and the Republican Congress over the budget shouldn't derail the stock market. "Some kind of settlement will emerge from all of this that will be positive for the markets," says Warren B. Lammert, who runs the $1.5 billion Janus Mercury Fund. "We're not heading toward a major increase in government spending."
INEVITABLE CORRECTION. Sure, there's a lot to worry about. Roth warns that though the blue-chip stock indexes are making highs, the "breadth," the number of stocks following suit, is unimpressive. "We had a new high in the Dow, and should have had 300 to 400 new highs on the New York Stock Exchange," says Roth. "Instead, we had only 130." And many analysts hold that a correction is only a matter of time. "If we have a strong December, I'd expect a 5% pullback after the new year," says market watcher Laszlo M. Birinyi of Birinyi Associates. Over the last year, the market has hardly corrected at all.
Others look to see which stocks are making the market move--and they don't like what they see. The big gains have been focused on large-cap growth stocks like Coca-Cola, Merck, and Procter & Gamble. "That's what you buy to ride out a recession," says Daniel T. Plager, a hedge-fund manager at Citibank Global Asset Management. Other winners are big oil stocks, which sport solid financials and fat dividends. Because of the rush to the blue-chips, the S&P 500 topped small-cap and mid-cap stock indexes (table).
What worries many is the breakdown in technology stocks. For November, the S&P High-Tech Composite Index is down 3.5%. Even more troublesome to many is that the tech group is evolving into a two-tier market in which both sides are going the wrong way. Profitable chipmaker Micron Technology Inc., at 50, was pounded down from 95 in just three months. And world-class technology companies like Intel Corp. and Motorola Inc. have also come down more than 20% from their highs. On the other hand, the barely profitable "Internet companies," like Netscape Communications Corp. and UUNet Technologies, sell at ethereal levels. Even after a Nov. 21 sell-off, the stocks trade at more than 300 times 1996's expected earnings. "That's a warning flag if I ever saw one," says J. Michael Pinson, who publishes J. Michael Pinson's Investment Digest and runs a hedge fund.
A CASE FOR COKE. Is it dangerous for the market if tech stocks stumble? Not at all, says Janus' Lammert. "No one sector can lead forever," he says. "It's encouraging the market can transfer leadership so smoothly." If investors soured on stocks entirely, they would put their proceeds on the sidelines instead of reinvesting in other companies.
If the economy continues to grow slowly, consumer growth stocks--beverage, drug, food, and tobacco companies--should continue to shine. The reasoning: Investors will pay up for their earnings predictability. Sure, it may be tough to swallow Coca-Cola Co. shares trading at 27 times expected earnings for 1996. But Coke's profits are forecast to grow at 18% next year, several times the expected growth rate of the S&P 500 companies. "You can make a case for Coke," says Elizabeth R. Bramwell of Bramwell Capital Management Inc. "Its price is not out of line in a noninflationary economy."
As stocks reach new highs and the year draws to a close, many investors might be tempted to heed the bears' warnings and bank their profits. But remember, those same bears were giving that advice this time last year--when the Dow was 1300 points lower.