Waiting
for the bear to stop growling
JOHN WASIK - PERSONAL FINANCE
When will the bear stop growling? According to a well-established tenet of behavioural finance, the stock market typically overreacts to good and bad news. This market, the theory goes, may have declined too much because of the plethora of bad news. It may be due for a rebound soon.
“Investors are feeling a deep
sense of uncertainty right now because of global instability, accounting
scandals, corporate governance problems as well as the economic recession,”
said Werner De Bondt, a professor in behavioral
finance at
Prof De Bondt is a pioneer of behavioral economics, which employs psychology research to explain economic behavior. He surmises the current market may be “irrationally exuberant” as reverse. In other words, investors may have become overly pessimistic and abandoned stocks — for now. That may be a signal the worst is over.
Measuring mass psychology, of course, is like making long-term weather forecasts. Many attempts are made, most fail.
Since stock prices gauge investor expectations and rears, stocks will continue to be depressed as long as business spending and consumer confidence, which hit a nine-year low in February, continue to sag.
Despite investors’ fears, though, there are some genuine signs of hope. For example, a Thomson First Call survey reported US corporate profits will grow by 13 per cent in the fourth quarter of 2002 — the third consecutive quarter of growth after five quarters of decline.
Meanwhile stock prices may have come down to a
reasonable level. The Nasdaq composite, for example, is about where it was at the end of 1996 when it closed at 1,291.38. “There may be grounds for reassurance that much of the market’s excesses appear to have been wrung out,” write Tim Koller and Zane Williams in Anatomy of a Bear Market, a report published by management consultancy McKinsey.
Housing continues to be the smiling Cheshire Cat of the economy. With mortgage rates still under 6 per cent, existing home sales, which were projected to fall in January, actually rose 3 per cent from December, according to the National Association of Realtors.
That seems to be happening despite analysts’ reports that businesses and investors are sitting on their money due to war anxieties. For example, the Institute for Supply Management suggested “economic activity in the manufacturing sector grew for the third consecutive month and the overall economy grew for the 15th consecutive month”.
Moreover, the ISM survey showed “nine out of 20 industries in the manufacturing sector were showing growth,” including several such as metals, electronic components and computers that had been languishing over the past three years.
“Looking forward, the factors that produce positive equity returns — growing profits, stability of the overall economy, lower taxes
and transactions costs — are coming together,” said One Dudley, chief investment officer of Northern Trust Global Investments, which manages $JOObn. Mr Dudley made his observation in the bank’s February Global Investments Strategy newsletter.
Timing this market is folly, of course. You can look for all sorts of signs until you see deities’ faces in your morning toast. Noting that investor optimism is lowest just before a war, Prof De Bondt says. markets have rallied following the onset of a conflict. “All evidence in history suggests that you should be a contrarian but most people are not capable of it.”
Although it sounds counter-intuitive, there are some opportunities to buy shares in bargain-priced stocks and mutual funds that offer you broad investment in every asset. Waiting for a bona fide rebound, though, will cost you dearly.
“Procrastination may be worse than timing,” states a recent report from discount broker Charles Schwab. “The worst returns belonged to investors who waited indefinitely — and never invested in stocks at all.”
Want to keep investing even though you haven’t looked at your retirement plan statement in two years? Two market indices come to mind: the Wilshire 5000 and the Lehman Brothers Aggregate Bond Index. Both are tracked by index mutual funds or exchange-traded funds at very low cost.
If the market’s volatility has you staring at your bedroom ceiling all night, you can shield your funds by purchasing US Treasury Inflation-Protected Securities, which guarantee principal and inflation protection.
Who knows when the bear will stop growling and find peace. It will be important, though, not to stay in your cave when he retreats to his.