Very Good ( Positive??? ) Article:
US equities
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Global Investor: A dash of psychology
By Daniel Bogler
Published: April 1 2001 15:53GMT / Last Updated: April 1 2001 23:33GMT
Investors: Come out with your hands up! As the world's stock markets have continued to lurch around at dangerously depressed levels, those paid to explain their gyrations have been forced to add a dash of pyschology to their analysis. The latest buzzword among equity strategists and economists, therefore, is capitulation.
Markets are capitulating, it seems, so are investors and - in a rather different sense - some companies are too. Just think of Nortel Networks, the Canadian telecoms equipment maker, which admitted last week that things were so murky it could no longer offer guidance on its future performance. The idea, of course, is that the point of capitulation and maximum gloom is precisely the point at which the market reaches its bottom - and, having flushed out the bears, the level from which it should then rally.
So what exactly are these signs of capitulation? One, rather obviously, is selling. US retail investors pulled $2bn out of equity mutual funds in February, according to fund tracker Lipper, the first net withdrawal since the Russian crisis in 1998. Institutional money managers too have taken money out of the market and are now sitting on record levels of cash, calculates Merrill Lynch.
A second indicator is sentiment. The latest investor optimism survey from UBS PaineWebber, released last week, suggests sentiment reached rock bottom around the turn of the year and confidence has started to rise again, though it is still rather shaky. More significantly, perhaps, investors have tempered their expectations of future gains. In the US they now expect an average return from stocks of 10.4 per cent over 12 months, stil high, but more realistic than the 20 per cent and more they had hoped for in 2000.
But none of this has yet culminated in the sort of climactic, heavy volume, sell-off that often signals the end of a bear market. Many analysts thought that we had reached this point three weeks ago. Between March 8th and March 22nd, the S&P 500 index dropped 12 per cent in 10 trading sessions to its lowest level for more than two years. Then it rallied 6 per cent in just four days. Unfortunately, that upswing has since petered out. It seems that capitulation is turning out to be a rather messy, prolonged process that is probably best appreciated with 20/20 hindsight.
Rather than speculating about the exact timing of a market bottom, it may therefore be more helpful to look at the fundamental building blocks needed for the start of a new bull market.
The first is undoubtedly monetary easing and lots of it. This is happening: the US Federal Reserve, the Bank of Japan and the Bank of England have all cut rates this year and the European Central Bank is expected to do so later this month (APR). An indication that this is starting to have the desired effect is the recent shift of the US yield curve from inversion - which generally signals recession - back to a positive slope. But more may be required. In the early 1990s, the Fed cut rates five times and by 250 basis points before the markets turned. So far, it has cut only 150 basis points.
A second factor is clarity on the depth of the downturn. This is gradually evolving. Hopes of a short, sharp, V-shaped contraction have been replaced by grudging acceptance that the downturn is more likely to be longer and U-shaped. The most probable scenario for the US is two or three quarters of profit (though not necessarily economic) declines, followed by several quarters of below-trend growth. This is hardly pleasant. But given that corporate profits fell 4.3 per cent in the fourth quarter of 2000 and are estimated to have dropped 8 per cent in the past three months, according to First Call Thomson Financial, the US may already be through the worst. The muted reaction to some recent profit warnings, at least in the computer and semiconductor sectors, suggests investors are adjusting to reality.
The third requirement is cheap valuations. This is a hotly debated topic. But even established bears are starting to see bargains. Peter Oppenheimer, global strategist at HSBC in London, argues that until recently, valuations had merely wiped out the excessive expectations of the bubble period. Now, however, he believes they are showing evidence of recessionary expectations and even, in some cases, the kind of overshoot that tends to be seen at the trough of a cycle. Using a discounted earnings model that has proved accurate in the past, he calculates that at current market levels, the implied real earnings growth for global equities over the next 10 years is now slightly negative - which does indeed sound gloomy. Perhaps, without realising it, investors have capitulated after all.
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