Are the Markets Steeled to Terror?

The latest warnings from Tom Ridge failed to have much of an effect. But an actual attack would be a different story

By Amey Stone

Judging from the stock market's muted reaction to the latest terrorism warnings, it might be tempting to assume investors aren't worried about the economic implications of potential attacks to financial institutions in New York and Washington, D.C. After all, the Dow Jones industrial average rose 39 points, to 10,179, on Aug. 2. And stocks of companies such as Citigroup (C ) and Prudential Financial (PRU ), both cited as specific targets in the government's latest warning, barely budged that day (see BW Online, 8/3/04, "Frightened? Not Financial Stocks")

Investors and economists are worried about terrorism, however. The explanation for the quiescence on Aug. 2 is that, prior to the government's July 30 warning, investors had already spent plenty of time and money worrying about and preparing for potential terrorist attacks.

Experts say fear of terrorism is one reason the market has been flat and listless for the past six months. "There is a terror overhang already," says Nicholas Bohnsack, a strategist with research firm International Strategy & Investment (ISI). And many had predicted it would get worse as the Presidential election date approached. Back in May, ISI factored heightened risk during convention season into its forecasts. We still have a ways to go: The Democrats ended their convention in Boston at the end of July and the Republicans are scheduled to meet in a heavily-secured New York City at the end of August.


  Liz Ann Sonders, chief investment officer at Charles Schwab (SCH ), believes the threat of terrorism has played an important role in keeping individual investors on the sidelines, despite the rebounding economy and strong corporate earnings. But ever since the attacks of September 11 three years ago, professionals have had to learn to live with the risk that a terrorist act could torpedo their portfolios. "Professional investors do worry," says Michel Leonard, U.S. chief economist at Aon Corp.'s Trade Credit group. "At the same time, this isn't the first time we've had a terror alert."

Over time, Dick Bove, a financial analyst at research boutique Hoefer & Arnett, believes government warnings have lost some of their teeth. "If an actual event occurred which was disastrous in nature, then certainly the market would react," he says. "But lacking an event, words from [Secretary of Homeland Security] Tom Ridge just aren't enough to make investors change their attitude."

If there was an attack of some sort, Bohnsack agrees the market would fall -- but probably not by as much as it did on September 11, and it would rebound quicker after. On the bright side, if there was some relief from the terror threat, such as an announcement of the capture of Osama bin Laden, believed by the government to be the mastermind of the September 11 attacks, the market would rally, he believes.


  Another reason the market may have taken the news in stride: There is potential for such warnings to prevent terrorist action. "The goal of warnings in many ways is [for terrorism] to become obsolete," says Leonard. It's also beneficial that the intelligence that led to the latest warnings to the public comes along with a new call for intelligence reforms by the White House, says Bohnsack. Even without an attack, terrorism is exacting a toll on the global economy. Leonard's firm estimates it provided an $800 billion drag on the global economy in 2003 due to things like reduced corporate investment and increased spending on security. That's equal to a quarter point of growth in the global gross domestic product, he says.

This additional warning, assuming no attack occurs, shouldn't add too much to that drag, economists predict. The fact that the warning was confined to specific buildings in New York and Washington also likely blunted the warning's broader economic impact. "People in Omaha aren't likely to produce any perspiration over this," says Richard Hastings, retail sector analyst with Bernard Sands. "I don't see any impact on commerce at this point."


  Given all this, it's not surprising that the market seemed to react more to a report of solid growth in the manufacturing sector and healthy earnings out of Procter & Gamble (PG ) than the heightened terrorist alert on Aug. 2. So far, investors and economists have adopted an attitude toward terrorism of, "We'll deal with it when it happens," says Hastings.

That doesn't mean investors believe another attack won't happen. But it is keeping them from running for the exits ahead of any actual event. In his mid-morning commentary, Wachovia Securities analyst Larry Wachtel gave the market an "A" for courage. The same goes, for now, for economists and investors.

Stone is a senior writer at BusinessWeek Online and covers the markets as a Street Wise columnist

Edited by Beth Belton

    Before it's here, it's on the Bloomberg Terminal. LEARN MORE