WASHINGTON, June 24 (UPI) -- The NASDAQ index was down 72 percent from its March 2000 high at Friday's close. Conversely, the Dow Jones Industrial Index was down only 21 percent from its high of January 2000,while the Russell 2000 Index, of smaller capitalization stocks was down 29 percent. What's happening, why, and what does it portend?
The Wilshire 5000 Index, which includes all U.S.-headquartered publicly traded stocks weighted by their market capitalization, closed Friday at 9,389.98 -- 5 percent above the low of Sept. 21, 2001 but 36.3 percent off its high of 14,751.64 on March 24, 2000. This represents a loss of approximately $6 trillion in value of U.S.-listed stocks in 27 months. The Standard and Poor's 500 Index, representing primarily large stocks, weighted by market capitalization, closed Friday at 989.14, off 35 percent from its March 2000 high.
Compared to the lows in September 2001, the S&P 500 Index closed Friday up just 2.4 percent, the NASDAQ up 1.5 percent, while the Dow closed up 12.3 percent and the Russell 2000 closed up no less than 21.7 percent.
The pattern here is clear, when you clear away the clutter of the numbers. Since March 2000, the highly capitalized tech stocks, represented in the NASDAQ and to a lesser extent the S&P indices, have been very weak, and are now down to their September 2001 lows. The big stodgy stocks, represented in the Dow -- and better represented at the peak, since the Dow does not weight by market capitalization, but by stock price so stocks which rise enormously, assuming they split regularly, do not become an inordinately large part of the index -- have been considerably less weak. The Russell 2000 Index's behavior is even more interesting; it is an index of price movements in the 1,001st to 3,000th largest U.S. stocks, capitalized in 2001 between $147 million and $1.4 billion, so any high-tech glamour stocks quickly migrate from the Russell 2000 to the Russell 1000 index of large stocks. Thus small and medium sized stocks have been very strong indeed since last September.
It's also worth looking at index movements since say Jan. 1 1995, which can be taken roughly as the point at which the moderate market rise of the early 1990's -- the Dow Jones index at that point was already 40 percent above its 1987 peak value -- became a bubble. Since that point, the Wilshire 5000 index is up about 100 percent, as is the S&P 500 index, both representing the level of the overall market. The NASDAQ composite index, on the other hand, is up only about 80 percent, as is the Russell 2000 Index, so both tech stocks, which zoomed up and then fell, and medium sized stocks, which have been much steadier, have under-performed the overall market. The Dow Jones Index opened 1995 at 3,834.44; it is therefore up 141 percent and has substantially outperformed the overall market.
In nominal terms, U.S. gross domestic product has grown from $7,218 trillion in the fourth quarter of 1994 to $10,428 trillion in the first quarter of 2002, a rise of 44.5 percent. If we assume that stock prices at the start of 1995 were at reasonable levels -- they were certainly somewhat towards the high end of their historical range, yet had not at that stage shown excessive signs of bull-market frothiness -- than a stock price index level 44.5 percent above its January 1995 value may be thought to be reasonable, albeit slightly elevated, today. That would give a value for the Russell Index of around 350, for the S&P 500 Index of around 700, for the Wilshire 5000 Index of around 6,500, for the NASDAQ Composite Index of around 1,100 and of the Dow Jones Industrial Index of 5,539.
This suggests that the stock market as a whole has still a considerable amount further to fall, maybe another 40 percent, but that it is now somewhat closer to the bottom than the top. Medium sized stocks will fall only slightly further than they did last September, while the NASDAQ Composite index, while it will fall substantially below September's levels, has also endured the great bulk of its huge fall from the March 2000 high.
The sector of the market that must fall much further is that of the Dow Jones Industrials. These have been propped up by a "flight to quality" in the fall of the tech stocks since 2000, and are thus now horribly over-valued. In particular, companies and sectors that have been strong in the last six months, notably the retail sector and that of consumer goods, are due for a sharp price correction. The second phase of the bear market, therefore, is likely to be concentrated not on the tech and telecom stocks that have already lost a huge percentage of their March 2000 value, nor on the medium-sized and small-capitalization stocks that rose less than larger stocks in the great stock market bubble of 1996-2000, but on the supposedly "blue chip" stocks, traditionally safe havens for investors' money, that can now be expected to lose around half or more of their current value. In some cases, where they have traded up to speculative levels on the back of the relatively strong consumer spending performance of the last year, such stocks may lose 70 percent or more of their value, trading more like dot-coms than the safe havens they were supposed to be.
Even though the $4 trillion still to be lost in U.S. stocks, based on a Wilshire 5000 Index decline to 6,500, is less than the $6 trillion that has already disappeared since March 2000, its psychological effect on investors, on the U.S. economy, and on the well being of Americans as a whole, will be greater. After all, of the $6 trillion that has already gone, $4 trillion was pretty temporary -- it appeared less than a year before the peak, and it was gone by the bottom of March 2001, a year after it. A lot of this was "hot money" made by day-traders and other speculators; overall, some will have made money and some lost it, but the great bulk of them will be well able to cope.
More troubling has been the last $2 trillion of the $6 trillion already gone; effectively, this was made in 1997-99, so had already been three years in people's calculations. It was lost in the drop before Sept. 11 and the desperate days after, appeared to have been regained in the six months to March, and now, inexorably, has been dribbling away again, much to the horror of its owners.
Even more traumatic will be the loss of the last $4 trillion. Most of this loss will come from blue chip stocks, particularly in retail, consumer goods and homebuilding sectors, that were resorted to after the initial downturn as a safe haven, and since Sept. 11 have played that role admirably, as consumer spending has been boosted by the Fed's interest rate cuts. Consumer confidence is now beginning to drop, which will cause these portfolios, too, to show losses as they revert to their historic valuation levels from the inflated stock prices of 1996-2002. However, this is "safe haven" money, most of which first appeared early in the bubble, in 1995-96, and having been around more than five years, has been completely factored into the spending, retirement and lifestyle calculations of its owners. Those losing the money will be not so much young speculators, who can pick themselves up and try again, but the middle aged saving for retirement, who believed themselves more or less immune from serious losses on money they had always intended to invest conservatively.
The effect on the confidence and self-belief of the American people will be very considerable indeed. It will also be exacerbated, as it has until now been counteracted, by what is going on in the housing market. Long term interest rates are at a 40-year low, and a burst of mortgage refinancing in the last six months, fueled by low interest rates and high house prices, has put yet further money into consumers' pockets. As stock market wealth evaporates, it must be more than likely that the housing market, too will dry up, at least compared to its exuberance in 2001-02, and hence that even the poorer half of the U.S. public, who are not themselves greatly concerned by developments in the stock market, will find their net worth diminishing, and their ability to generate new purchasing power through mortgage refinancing drying up. High levels of credit card debt, and a continued slow rise in unemployment, will worsen this problem.
The stock market may well be more than half way through its drop, although one cannot discount the possibility, indeed likelihood, of "overshooting" on the downside. The social and psychological effect of the drop is however only just beginning.
Of course, the economic effect of such trauma will itself be grave, and is likely to delay an economic rebound for several years.
(The Bear's Lair is a weekly column which is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that, in the long '90's boom, the proportion of "sell" recommendations put out by Wall Street houses declined from 9 percent of all research reports to 1 percent, and has only modestly rebounded since. Accordingly, investors have an excess of positive information and very little negative information. The column thus takes the ursine view of life and the market, in the hope that it may be usefully different from what investors see elsewhere.)
