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Tech Investors Hope Time Really Has Speeded Up

October 15, 2000|TOM PETRUNO

Six straight down weeks on Wall Street, and a Nasdaq composite stock index that is still off 34% from its March peak even with Friday's huge snap-back rally, leave many investors asking one very basic question:

Has the fundamental backdrop for stock prices changed so dramatically to warrant such destruction of market value--and perhaps to justify even more destruction ahead?

The problem with asking the market to justify its actions, of course, is that the market cannot be wrong--or so say believers in the "efficient-market" theory. At any given moment, that theory states, stock prices accurately reflect the knowledge and expectations of all investors. How, then, could that ever be wrong?

But as history has amply demonstrated, humans' confident expectations of near-term events frequently are foiled. The Titanic was expected to cross the Atlantic. Dewey was expected to beat Truman. The White Sox were expected to be in the World Series this year.

If the stock market has been unraveling because investors consciously or subconsciously assume an economic recession is on the horizon--usually one of the best reasons to sell stocks, after all--the odds of that assumption being correct are perhaps 50-50.

As the old saying goes, Wall Street has called 10 of the last five recessions.

Most economists continue to argue that the U.S. expansion, while aged, is in no danger of crumbling. They point to consumer-sentiment surveys that invariably show that most Americans still feel great about the economy, which suggests that people will continue to spend money.

"Despite rising energy prices and the roller-coaster stock market, consumers have remained remarkably upbeat," said Don Hilber, economist at Wells Fargo. "Sentiment is near an all-time high, led by the best attitudes ever about current economic conditions."


They also continue to invest: Stock mutual funds' net cash inflow this year, through August, totaled nearly $256 billion, surpassing the full-year record of $227 billion set in 1997. That doesn't sound like a populace that's fearful of the market's future.

But consumer sentiment readings are snapshots of the moment. You may be spending money and investing with abandon now, but will you be doing so in 2001 if your job becomes threatened?

We haven't had a recession since 1990, so it may be worth reminding: They often occur because something unexpected spurs a shift in consumers' and businesses' plans for spending and investing. Take the spending away, and an expansion can quickly become a contraction.

Which brings us to the situation in the Middle East.

The stock market had already been in a five-week slump before tensions exploded between the Israelis and the Palestinians last week. To say the least, the latest conflict in the Middle East, and the apparent attack on a U.S. warship in the region, were exactly what a depressed market didn't need.

Though Wall Street is often accused of lacking much in the way of institutional memory anymore, many investors remember this much: The Arab oil embargo in 1973 helped fuel the worst recession and stock market decline since the Great Depression. Likewise, the surge in oil prices that accompanied the Iranian revolution in 1979 helped produce a recession in 1980 and crippled the stock market.

In 1990, it was the Middle East, and oil, again: Iraq's invasion of Kuwait triggered a loss of more than 20% in major stock indexes (our last official bear market) and sent energy prices rocketing.

This year, oil prices had until last week been rising purely for fundamental reasons: The glut of recent years has disappeared, and demand has caught up to, and overtaken, supply. That has been worrisome enough for Wall Street, if not for the U.S. economy at large.

The risk of a significant Middle East conflict that could interrupt oil supplies, therefore, wasn't a factor in the market until last week. It was enough to push oil futures in New York up $4.13 for the week, to $34.99 a barrel by Friday--and to help drive the blue-chip Standard & Poor's 500 stock index down 2.5% for the week, leaving it down 10% from its record high set in March.

Things were looking a lot worse for stocks before Friday, however. Though there was arguably no meaningful change in the Middle Eastern situation, bargain hunters rushed into stocks on Friday, and especially into beaten-down technology issues.

The Nasdaq composite index on Friday recorded its second-biggest percentage gain ever, soaring 7.9% to end at 3,316.77, and cutting the loss for the week to 1.3%.

If there isn't a full-fledged recession on the way, say many Wall Street bulls, then plenty of stocks are already fairly priced or even cheap.

Abby Joseph Cohen, Goldman Sachs & Co.'s investment strategist and perhaps the world's most famous bull, told clients Friday that the S&P 500 stocks were about 15% undervalued based on Thursday's closing prices.

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