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July 26, 2002
Mortgages have been falling in lockstep with stocks for two months, but did not jump after Wednesday‚s 488-point rebound in the Dow. Rates for low-fee, 30-year mortgages have stayed below 6.50% all week long, and the overall economics of the situation favor lower-to-unchanged rates rather than higher.
The most current data are not quite so reassuring as they have been: housing is still doing well, and new claims for unemployment insurance continue to decline. However, the optimists were surprised by news that orders for durable goods fell hard in June, back toward post-9/11 levels.
If the hopeful are right that the stock market has found bottom here (Dow 8,000, S&P500 at 800, Nasdaq 1250), we will not know the extent of economic damage for two or three months. Every sane observer assumes some damage has been done. However, something like 60% of the American people don‚t have so much as a retirement account -- how much damage can a falling stock market do to people who don‚t own any stock?
The optimists, believing the economy is gently accelerating toward full recovery, argue that the stock market‚s 30-day dump is a „disconnect‰ from the economy. A good economy will mean good earnings soon, they say, followed by restored stock market values.
Pull the plug on the disconnectors. The fundamental evidence shows the stock market re-connecting to the economy after a five- (or ten-) year episode of lunacy. Price/earnings ratios are still above long-term average, and a moment of low confidence is precisely the situation in which they would fall below average.
One connection has been broken. Two whole generations, the Boomers and the Xers, came to believe that the best reason to buy stocks was because the market would rise in price. One person at a time, one statement envelope at a time, belief in rising prices is being crushed. For many, permanently ˆ just like the belief our grandparents once had.
If you can‚t make a case for a rapid rise back to Dow 10,000 ˆ let alone breaking through to the old highs ˆ why buy?
You buy for the old-fashioned reason: because you want to be a part-owner of a good business at a reasonable price. If the company has earnings, you expect it to pay you some (this practice is known as a „dividend‰). You expect to be kidded by the charlatans and pimps of the market, but not by the management of the firm. You expect a coherent business plan.
Is the stock market fairly priced by these measures?
The deep fear producing flight to bonds and mortgages (especially to the latter, as markets don‚t trust corporate bonds any more than the issuers‚ earnings) is a downward spiral, where falling stock prices hurt the economy, and a new sag in the economy hurts stocks.
The conspiracy freaks are worried about fraud, accounting, and politicians. The professionals worry, what kind of businesses does the nation have?
Good ones, or not?
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