It was there. Then it wasn’t. Last week the stock market passed a milestone: the Dow Jones industrial average closed above the 3000-point barrier for the first time. The Dow flirted with the elusive marker last summer–just before Saddam Hussein’s invasion of Kuwait sent stocks plummeting. But since October, the average has gained more than 600 points. Wednesday’s breakthrough showed the market’s renewed faith that the economy is heading out of recession.
Why is the market so strong when the economy still looks weak? U.S. business sales are plunging, and many workers who haven’t gotten pink slips can’t help worrying about whether they’ll soon get one. While times remain tough, the market has been heating up because investors see good economic news on the way. Says economist Richard Hoey of Barclays de Zoete Wedd, “If they waited till the good news actually materialized, they’d be dumb.”
Put another way, the market is anticipating at least a modest recovery. At the end of January the Federal Reserve began to ease monetary controls decisively, improving the chances of an early recovery. Meanwhile, inflation appears to be in cheek. America’s performance in the gulf war stilled fears of a drawn-out conflict, adding to the bullish atmosphere. The banks have been looking less shaky; fears of a widespread collapse in the financial industry had cast a pall on the market. But recently weak banks like Citicorp have been able to sell stock, and the Bank of Boston has even been able to line up financing for an acquisition. “These events show that the fever’s broken,” says Hoey. “It doesn’t mean the banks are healthy, but they are on the mend.”
Stocks have also outperformed other investments. Mutual-fund investors have soured on junk-bond funds and real estate limited partnerships. “The other kinds of investments have scraped a lot of skin off people since the mid-1980s,” says William Melton of IDS Financial Services. Money mutual funds are paying little more than checking accounts. “It’s not like a love affair for equities,” Melton says. “It’s more a hate relationship with everything else.”
U.S. stocks are drawing money away from foreign markets. Germany and Japan have experienced rising inflation rates, and their economies are expected to slow down considerably by this summer. “The U.S. may have problems,” says Hoey, “but other countries have worse ones–and the dollar goes up despite U.S. weakness.” Those weaknesses, in fact, set the stage for the latest run-up. Many analysts say the trigger for the market was some news that was less bad than expected: first-quarter earnings were hardly robust, but they were less sickly than many had feared.
Despite the celebrations, hitting 3000 is largely symbolic. “It’s almost like the 4-minute mile,” says Jeremy Siegel, a professor of finance at the Wharton School. “Was there anything real about breaking it?” The grouping of 30 stocks, descended from a list devised in 1896 by Charles Henry Dow, is only one yardstick used to measure the market. But other popular measures tell much the same story; the Standard & Poor’s 500 and the NASDAQ index of over-the-counter stocks have hit record highs in recent weeks as well.
Still, symbols mean a lot on Wall Street. The publicity surrounding each breakthrough attracts new cash, as investors decide to jump back into the market. And individual investors aren’t as picky about the technicalities that trouble the analysts, says Laszlo Birinyi of Birinyi Associates, a financial-consulting firm. The small guy is “buying a mutual fund,” says Birinyi. “That ‘25 times earnings’ is somebody else’s problem. " And the market tends to be a leading indicator. Siegel warns, “It’s a very imperfect indicator of the economy, let’s face it.” The stock market crashed in 1987, but the economy did not.
Will the Dow hold its ground? Last Friday, investors pulled back, and the Dow dropped to 2965.59. A little shying at milestones isn’t unusual: the market took six years to break the 1000 mark after it first drew close in 1966-and cleared 1000 for good in 1982. The Dow sprinted past 2000 in 1987 only to fall back temporarily after the Oct. 19 crash. Even professional optimists aren’t making strong predictions as to the average’s future course. With the economy still dragging, Michael Boskin, President Bush’s chief economic adviser, could offer only faint reassurance last week: “In the next two or three or five months, a recovery will get underway.” If the turnaround takes too long, or if interest rates creep up, the economic recovery could be blunted. Recession-stung companies might be forced to cut back on their stock dividends, which are at historic highs. If that happens, the market could lose its appeal once again–and the Dow could find itself stalled in the neighborhood of 3000 for some time to come.
