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Tuesday, Mar. 7, will go down as a momentous day for the capital markets. We've all gotten used to drops of hundreds of points in the Dow, it's true. But this one is different. Never before has the Old Economy Dow industrials index taken such a divergent path from the tech-stock-laden Nasdaq. At one point during the day, the Dow was down more than 400 points while the Nasdaq was up 25 points -- and had crossed the all-important psychological barrier of 5000.
By the end of the day, the Nasdaq had fallen from its highs and closed down 65, at 4390. The Dow, meanwhile, had a late afternoon pop that left it down 375 points, at 9796. Nevertheless, the point was clear: Now, there really are two separate stock markets. One has a few hundred high-flying technology stocks, and the other has everything else. And the latter isn't faring so well.
Some good reasons were behind Tuesday's decline. The most important was bad earnings news from Dow heavyweight Procter & Gamble (PG). The maker of household products shocked analysts when it announced that its coming results will be far less robust than the Street was expecting. Management said that while revenue growth would continue as expected, the company's earnings will increase by only 7% this year, about half what analysts had estimated. The mood in Cincinnati, P&G's home base, was grim: "We aren't getting our innovations to market fast enough," said CEO Durk Jager. "I'm deeply disappointed that we're not making more progress in driving profit growth."
"CLEAR MESSAGE."
Several factors contributed to the slower earnings growth at P&G. A big push into Latin America seems to have faltered as local manufacturers have aggressively competed against the U.S. behemoth. Another strategy gone sour is "Organization 2005," a Mao-style five-year plan to cut costs, fire workers, and increase profits that clearly isn't working. Finally, prices of paper and oil, two of the company's biggest raw inputs, have gone through the roof.
The bad news knocked Procter's stock down 30% for the day. But why should one stock affect the entire market so much? "The market sent a clear message: It's scared that rising interest rates will slow the economy and end this business cycle," says First Albany Corp. Chief Investment Strategist Hugh Johnson. "In other words, it feels that there are going to be more Procter & Gambles."
Meanwhile, the Nasdaq seemed nearly impervious to the calamity that was occurring around it. The drop in the Dow was the fifth-largest one-day fall in the history of the index. But it's the first Top 10 drop of the past decade where the Nasdaq didn't fall dramatically also. Look at the leaderboard for the Nasdaq and you'll mostly see a picture of happiness and tranquility. Telecom services provider Net2000 (NTKK) doubled in its IPO debut. IGate (IGTE) was up 49% on news of a new e-business strategy. Over at the Nasdaq, no one seemed to be paying much attention to interest rates, oil prices, or the cost of tissue paper in Mexico.
ANTIDOTE?
As for those interest rates. For now, the Federal Reserve has set the federal funds rate target at 5.75%, and Alan Greenspan has hinted that it needs to go higher. That's bad news for big manufacturers such as P&G, because a slower economy will drag down sales and profits growth. But the tech sector, which traditionally has been affected by rises in interest rates, appears to be invulnerable for now -- a pocket-protected Superman that has found the antidote for kryptonite poisoning.
However, First Albany's Johnson isn't so optimistic about tech stocks. Indeed, he thinks the divergent markets will return to equilibrium soon. He points out that if the economy does indeed enter a slowdown, corporations will reduce their technology spending. "You can't spend money that you don't have, even if you want new computers," says Johnson.
Not everyone agrees. Economic forecasting firm DRI (a division of the McGraw Hill Companies, which owns Business Week Online) expects spending on information processing equipment and software, a catchall phrase for technology spending, to increase 10.8% in 2000 and 7.1% in 2001, higher interest rates notwithstanding.
CRUDE SQUEEZE.
The other specter hanging over the market is the price of oil. Although it may not be as important as it once was, oil is still a fundamental driver of economic health. And on Mar. 7, it reached $33 a barrel, higher than it has been in real terms since the 1973 oil crisis. That will crimp profits at manufacturers and transportation companies, which might in turn have to cut their capital spending.
Where does the market go from here? "When bonds and the utility sector are up and stocks are down [the case on Mar. 7], the signal is clear that we are entering the end of the business cycle and possibly the beginnings of a bear market," says First Albany's Johnson. "Sometimes, the market can send false signals. This one sounds pretty loud to me, though." If so, the only question left would be, will both markets become bears together -- or continue on their separate ways?
Sam Jaffe covers investing for Business Week Online
Copyright 2000 , by The McGraw-Hill Companies Inc. All rights reserved.
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