The euphoric rally by the stock market following the Fed''s lowering of interest rates last week ended almost as soon as it began. (For details of the rate cut, see my E-Consultant column: "The 5 Es: Part 6 -- The Fed Cuts Rates") This echoed last year''s pattern of record highs followed by record lows. For example, during 2000, the Nasdaq registered all five of the biggest one-day point gains in its history and four of them were followed by declines that more than wiped out the one-day gain and left the index at a new low. Of the 15 biggest gains ever posted by Nasdaq, 13 came after April of last year during which the index performed an Olympic-quality swan dive.
The Nasdaq climbed over 14% in the first day of trading after the Fed rate reduction announcement on January 3, 2001. However, by the end of the week it gave in to concerns that the job market was weaker than expected and that ever more companies were issuing earnings warnings. As a result, the index finished the first week of 2001 in minus territory, which is how it ended 2000. For the week it was down 2.5 % to 2,407.65; the Dow Jones Industrial Average was down 1.2 % to 10,662.01; and the S&P 500 index dropped 1.7 % to 1,298.35. According to the Wall Street Journal, "The Nasdaq has given up all its gains, not just for the past year, but for almost the past two years, returning to a level it first saw in January 1999." Many people believe that market trends in early January are predictive of performance throughout the year.
There is substantial bad news on the horizon. Growth of private sector jobs in the fourth quarter, at 0.2 %, was the slowest it has been since the third quarter of 1992 -- a year and a half after the end of the 1990-91 recession. According to First Call/Thomson Financial earnings warnings since October have pulled the forecast for fourth quarter earnings down to 4.2 % from 15.6% for the companies in the S& P 500 index. The earnings growth forecast for the first quarter of this year is down to 5.2 % from 14.2 %.
Meanwhile, the labor market remains the tightest in 30 years, according to the December unemployment report that was released on Friday, Jan. 5. But the pace of job creation has clearly slowed and is more sluggish than it was throughout the latter half of the 1990s. It could deteriorate even further as corporations continue to lay off workers and the bankruptcy rate continues to climb. Also, there is still a shortage of skilled workers in sectors such as high technology, which yield the greatest gains in productivity.
No doubt that the stock market''s swoon played an important part in the decision to reduce interest rates, for the financial markets increasingly are linked to the general health of the economy. Yet for months Fed officials have maintained that monetary policy has been aimed at controlling inflation rather than equity and bond prices. The half point cut, however, seems clearly aimed at the sinking equities markets. In this regard psychology is very important.
The 10-year bull market has enriched millions of Americans. Between 1989 and 1998 the number of Americans who own stock rose to 84 million from 52.3 million, according to the New York Stock Exchange. The surge in stock wealth was a huge boon to the economy; as households felt wealthier and more secure they consequently spent more. The commerce department estimates that the "wealth effect" added a full percentage point to economic growth in recent years. Consequently, a fall in the markets is of even greater importance.
This suggests that the stock-market tail may even wag the economic dog. Is this part of the New Economy? Are stock prices, which have traditionally responded to economic activity, now just as likely to be the cause of that activity?
Don Sussis, our E-Consultant Columnist, is an eBusiness Strategist and Investment Advisor. He is member of the Angels Group of the New York New Media Association and a speaker for Tec, an international organization of CEOs based in California. He can be reached at dsussis@internet.com.
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