Dow Average Jumps to Record as Profits, Fed Stoke ReboundInyoung Hwang
The Dow Jones Industrial Average rose to its highest level ever, erasing losses from the financial crisis after a four-year rally fueled by the fastest profit growth since the 1990s and monetary stimulus from the Federal Reserve.
About $10 trillion has been restored to U.S. equities as retailers, banks and manufacturers led the recovery from the worst bear market since the 1930s. It took the Dow less than 65 months to rise above its previous high set on Oct. 9, 2007, more than a year faster than the recovery from the Internet bubble.
While the Dow has more than doubled in the four years since its bear-market low, its valuation remains 19 percent less than the price-earnings ratio at the previous peak and 14 percent below its 20-year average. Bulls say that’s a signal stocks have room to keep rallying, while to bears it shows a lack of confidence in earnings growth and concern over the Fed’s ability to continue spurring the economy.
“Psychologically, it may give a sense that we have recovered a tremendous amount from the depths of the crisis,” Wasif Latif, the San Antonio-based vice president of equity investments at USAA Investments, said by telephone. His firm oversees $54 billion. “On the other hand, it could create a sense of nervousness that we reached an all-time high, so how much more is there to go?”
The 116-year-old Dow jumped 0.9 percent to 14,253.77 today at 4 p.m. in New York, climbing above the 14,164.53 record closing level it reached before the global financial crisis. It also eclipsed its previous intraday high of 14,198.1 from Oct. 11, 2007. The gauge plunged 34 percent in 2008 for the worst performance in 77 years as the housing bubble burst and the U.S. financial system required a government bailout.
American Express Co., Caterpillar Inc. and Home Depot Inc. have led the Dow’s rally since its 2009 low, climbing more than 275 percent as the economy recovered from the worst recession in seven decades. Hewlett-Packard Co., the largest personal computer maker, is the only stock still in the 30-company gauge to fall since March 9, 2009. The shares tumbled 20 percent as mobile devices such as Apple Inc.’s iPad and iPhone began to compete with PCs. Exxon Mobil Corp., which has rallied 39 percent, is the second-worst performer since the gauge bottomed.
Bankruptcies and government bailouts helped make the Dow a different gauge than it was in 2007. Citigroup Inc., American International Group Inc. and General Motors Corp. were removed from the price-weighted average, while Cisco Systems Inc. and Travelers Cos. joined. Kraft Foods Inc., which took over AIG’s spot, was replaced by UnitedHealth Group Inc. last year after the food-maker split in two.
A rebound in corporate profits coupled with more than $2.3 trillion in Fed stimulus have pushed investors back into equities, sending the Dow up more than 116 percent from its March 2009 low of 6,547.05. The Standard & Poor’s 500 Index is less than 2 percent below its record, reached the same day as the Dow.
The Dow surpassed its dot-com-era record on Oct. 3, 2006, 81 months after it peaked in January 2000. The measure had tumbled 38 percent from the 2000 high of 11,722.98 to its bottom on Oct. 9, 2002, as the Internet boom collapsed.
The gauge on average has taken about 6 1/2 years to return to previous record levels, according to data compiled by Bloomberg. Should the measure have followed that path, the Dow wouldn’t have posted a new record until the middle of 2014.
Dow profits are projected by analysts to increase 9.2 percent this year and 9 percent next year. Profit from companies in the S&P 500 will exceed $120 a share by next year, double the level in 2008, according to Wall Street estimates. That’s the biggest increase since the 142 percent gain amid the rally in technology stocks from 1993 to 1999.
The expansion in the Dow’s valuation since March 2009 has been slower than the S&P 500’s, while both are cheaper than 2007. The Dow’s trading at 13.9 times earnings in the last year, compared with a multiple of 17.1 at its 2007 peak and 25.9 when it reached a record in January 2000. The S&P 500’s multiple is about 15.2 times profit, compared with 17.5 on Oct. 9, 2007.
The operating margin, a measure of profitability, for S&P 500 companies is 19.9 percent after reaching 20.7 percent in August, the highest level in Bloomberg data going back to 1998.
“In many ways, the valuations on this market look more attractive because the profit margins that we’ve seen are outstanding,” said Hayes Miller, who helps oversee about $48 billion as the Boston-based head of asset allocation in North America at Baring Asset Management Inc. “Companies have found ways to cut costs and raise productivity levels,” he said. “It’s an argument to the idea that what happened in 2008 won’t occur in 2013. Equities are now fair-valued versus expensive, which they were in 2007.”
U.S. stocks have rallied this year as fourth-quarter earnings beat estimates and lawmakers reached a compromise on taxes, avoiding the so-called fiscal cliff that would have drained more than $600 billion from the economy.
The Dow has climbed more than 18 percent since last year’s June low as Fed Chairman Ben S. Bernanke pledged the central bank will buy $85 billion of mortgage and Treasury securities a month until the labor market recovers. Minutes from the Federal Open Market Committee’s January meeting showed policy makers were divided about Bernanke’s program of buying bonds. The U.S. unemployment rate has fallen to 7.9 percent from 10 percent in 2009.
Laszlo Birinyi, among the first money managers to advise buying U.S. stocks four years ago, has said the bull market rally is entering a final phase as investors who had previously shunned shares capitulate and buy. The Dow is about one month away from matching the average length of bull markets since 1962, data compiled by Westport, Connecticut-based Birinyi Associates Inc. and Bloomberg show.
Investor deposits with global equity mutual funds in the first week of January were higher than any other period except one, according to data compiled by research firm EPFR Global in Cambridge, Massachusetts, going back to 1996. Money flows into stock mutual funds were positive in January for the first time in 11 months and the highest in nine years, according to data from Washington-based Investment Company Institute. That represents a turnaround after investors pulled more than $600 billion from stock funds in the last five years, ICI data show.
Inflows into stock mutual funds at the start of the year are typical and can often fade quickly afterwards, according to Jeffrey Kleintop, the Boston-based chief market strategist at LPL Financial Corp., which oversees $350 billion.
“It could be a while that we hang out around 14,000 before we definitively leave it behind us,” Kleintop said by phone. “History shows that flows and market milestones have coincided and we consolidated for a while after that,” he said. “Any tone from the Fed that suggests they might take the punch bowl away sometime this year could cause the market to pull back. A big part of the rally to all-time highs has been powered by the Fed’s very aggressive stimulus programs.”
The S&P 500 posted its first weekly decline of the year on Feb. 22 amid increasing concern the Fed will curtail its stimulus program. The Dow posted its biggest gain since June on Jan. 2, surging 2.4 percent as lawmakers passed a bill averting most of the fiscal cliff. The gauge had the second-largest rally of the year on Feb. 27 amid better-than-forecast housing data.
Eighteen of the 30 largest U.S. stocks are in the Dow. The gauge includes General Electric Co., the oldest member of the average, and Exxon Mobil, the world’s biggest company by market value.
“The Dow is an indicator of sentiment for the blue chip of blue chip, bellwether companies,” Latif said. “It doesn’t necessarily speak to the broader market as a whole.”
Investors may also be lured to companies in the Dow that pay higher dividends, as the 10-year Treasury note’s yield has remained below 2 percent for most of the year. The Dow’s payout rate is 2.5 percent, compared with the S&P 500’s 2.15 percent rate, according to data compiled by Bloomberg. AT&T Inc. returns 4.9 percent of its share price in dividends, the highest yield in the Dow.
“You’re now entering no man’s land and that’s what sparks people’s imaginations,” William Nichols, senior managing director in equity trading at Cantor Fitzgerald LP in New York, said by phone. “Once stocks and markets start to break out, it’s hard to put a limit on how far they’ll break out.”