With the major stock indexes falling recently to within sight of their September lows, some of the market's bastions of strength over the last year are finally showing signs of buckling.
Although there are scattered glimmers of hope that the market may soon regain its footing, analysts see few positives on the horizon as investors brace for the start of Wall Street's traditional summer doldrums.
The gloom deepened on Wall Street Thursday as the same concerns that have dogged the market for months--corporate accounting, global political tensions, tepid earnings, the falling dollar, Wall Street scandals--combined to push the market to its lowest levels since October and uncomfortably close to the three-year lows hit Sept. 21 after the first week of trading following the September terrorist attacks.
"The market is being 'T.A.R.R.E.D.' by terrorism, accounting, research, regulators, earnings and the dollar," said Sam Stovall, investment strategist at Standard & Poor's in New York. "There's so much going on that I have to make up an acronym to remember it all."
Most troubling to some analysts is the wavering of what had been bulwarks in an otherwise rickety market--stocks of small and mid-size companies, for example, and retailing shares. A pullback in smaller stocks, which had been enjoying a quiet bull market this year as major indexes remained stuck in a two-year downturn, and a drop in many retail stocks could be a warning that the economy is not gaining as much strength as many investors expect, some analysts say.
"The small- and mid-cap rally has mainly been based on the premise of an economic rebound. That premise is now in question," said Chip Hanlon, president of investment firm Unfunds Inc. in Huntington Beach.
From their mid-April peaks, the S&P SmallCap 600 index has dropped 9.9% and the S&P MidCap 400 index is off 8.3%.
"Small-cap value stocks, in particular, have been the most consistently strong part of the market for the last year, but they have backed off in the last 30 days," said Paul Rabbitt, president of Rabbitt Analytics in Hermosa Beach.
Seasonal trends could be taking a toll on smaller stocks along with big names, analysts say, as the market's summer doldrums may be looming. June, August and September historically are among the weakest for the market, according to the Stock Trader's Almanac.
Hanlon notes that the retail sector has softened, even though industry leader Wal-Mart Stores Inc. rallied earlier this week after reporting robust May sales. Wal-Mart is down 15.1% from its 52-week peak in mid-March, and Target Corp. and Home Depot are off from their late-February highs. "This could be signaling that the consumer is going to run out of gas in the second half of the year," Hanlon said.
Meanwhile, weak sectors--in particular telecom and chip stocks--remain weak. A key index of semiconductor makers has fallen 29% in the last three months, and the Amex telecom index is down 32% over the same period.
Moreover, the sector that has been leading the market this year--gold stocks--generally is out front at times when the rest of the market is in turmoil.
Some investment pros say smaller stocks may resume their superior performance.
James Stack, president of InvesTech Research in Whitefish, Mont., said he is still "guardedly and selectively bullish" on smaller stocks and on value stocks. Stack noted that year to date, S&P's small- and mid-cap indexes are practically flat--not exciting, but better than the large-cap S&P 500 index's 10.4% loss so far this year.
Some argue, however, that the decline in smaller stocks, while not representing a breakdown of the broader market, marks the early stage of a shift toward larger names leading the way once again.
Rabbitt said there are several reasons to expect such a "paradigm shift," including: weakness in the dollar, which could benefit large multinational companies as they translate overseas profit; uncertainty as tensions flare in the Mideast and in South Asia, which may send investors to the perceived safety of large and liquid stocks; and "the closing of the valuation gap" that had made smaller stocks more attractive than larger stocks. Their share-price strength over the last two years has made small-caps just as expensive as big-caps relative to company earnings, he said.
Adding to investors' troubles is Stovall's list of woes: threats of new terror attacks; the accounting scandal highlighted by Enron's collapse; distrust of Wall Street research analysts; regulators' probe into alleged conflicts of interest at brokerages; a lack of companies guiding profit forecasts higher with gusto; and a weakening dollar that could drive foreign investors away from U.S. securities.
Stovall and his colleagues at S&P's investment policy committee voted this week to cut recommended equity exposure by 5 percentage points to 55% and to raise cash allocation to 25% from 20%.
Stack said that although the market offers opportunities for savvy stock pickers, he believes there is "much more pain ahead" for the major Nasdaq names reeling from a lack of demand for technology and telecom products.
How much pain? At Thursday's close of 1,554.88, the tech-heavy Nasdaq composite index is within 9% of its three-year low of 1,423.19 reached Sept. 21.