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Navigating the Market's New Frontier

After the Dramatic Shifts of 2000, Investors Struggle to Chart a Course


Astronomers deal in big numbers and in events that often defy easy explanation or description.

They might be right at home describing the stock market in 2000--and perhaps in forecasting what this year may be like.


* If ever a major stock market index resembled a supernova, that was the technology-dominated Nasdaq composite in late 1999 and early 2000. As tech shares soared amid a global mania for anything and everything in that sector, the stocks' price-to-earnings ratios took a quantum leap to the outer limits.

But by the fourth quarter, with the U.S. economy slowing, the tech mania had turned into a full-fledged panic to get out at any price. Nasdaq the supernova became Nasdaq the black hole. And despite a record one-day jump Wednesday, the index still continued to shrink in the first week of 2001.

* In the course of 15 months, the amount of U.S. stock wealth built up on paper, and then destroyed, dwarfed the federal government's massive projected budget surplus over the next decade.

The U.S. market's value surged by $3.3 trillion from October 1999 to March 2000, then sank by $2.9 trillion between March and year's end, as even the blue-chip Standard & Poor's 500 stock index suffered its worst calendar-year decline in two decades (a negative total return of 9.1%).

Though the average U.S. stock fund fell just 1.9% for the year, according to Morningstar Inc., that figure was bolstered by strong returns in relatively few fund sectors that hold a minority of investors' dollars, such as health-care and energy.

By contrast, the fourth-quarter losses alone in many popular growth-oriented stock mutual funds were mind-numbing: Many fell more than 25%. Some lost more than 40%. Year-end fund statements won't be pleasant reading for most growth investors.

* Wall Street's skies in late-1999 and 2000 were filled with shooting stars that lit up the market for a moment, then were gone. Most, of course, were "dot-com" shares. EToys, the Santa Monica-based online toy retailer, reached a record $82.50 a share in October 1999. Today the stock is worth 16 cents.

But there also were some spectacular crashes by former star stocks of much greater heft. Xerox, the copier giant that has been an American icon since the 1960s, plummeted to under $5 by year's end from a 1999 high of $62 as the company's sales and financial health deteriorated. Lucent Technologies, AT&T and WorldCom led a virtual collapse of many established stocks within the telecom sector.

* For the market and the economy overall, it was almost as though the nation's amazing journey of the late-1990s--the prosperity, the market gains, the feeling of American invincibility--took a sudden turn into a worm hole.

In astronomy terms, a worm hole is a hypothetical passage in space to somewhere else. And that's what investors are wrestling with now: Where is that "somewhere else" we're headed for, as consumer and investor confidence slumps, spending slows and corporate earnings growth dwindles? Is the next destination a mild economic slowdown, a severe recession, or something in between?

As usual at these junctures, the nation--and the world--look to the Federal Reserve. "It's all up to the Fed now," is a common refrain on Wall Street. To take the space analogy one step further, the Fed at these moments is more than a bit like the monolith in Arthur C. Clarke's "2001: A Space Odyssey." Its power to create or destroy seems total, though exactly what it's thinking at any given moment can only be surmised.

Wednesday, as the Fed cut its key short-term interest rate for the first time in more than two years, the stock market staged a tremendous rally. But it didn't last, and most major share indexes still lost ground for the week.

The reversal pointed up what is for many investors the most troubling aspect of the new market environment of the last year: The speed with which stock prices now rise or fall has become remarkable, and remarkably aggravating.

Market volatility can be measured in many ways, and by nearly all of them stocks' volatility rose sharply in 2000.

By the measure that most people can relate to--the intraday moves in share prices--2000 had no peer in the post-World War II era.

Market statistician Ned Davis Research in Florida calculates that the Dow Jones industrial index's average intraday swing last year was 3.7%. In other words, that was the difference between the Dow's low and high for the day, on average.

That was the largest intraday volatility figure for the Dow since the 4.5% recorded in 1932.

What does it mean? Historically, periods of wild volatility have been associated with the end of market declines. "Eventually volatility reaches extremes, and that's usually in conjunction with market bottoms," said Tim Hayes, global equity strategist at Ned Davis.

But extremes in volatility are only evident in retrospect. Many analysts believed that the Nasdaq index crash in April and May marked the bottom. Little did they know that it was just a prelude.

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