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stock market declined approximately 10% in its first week back following
the terrorist attacks on U.S. soil. On September 17, the first day
of trading after the attack, the best performers included industry
groups such as gold and electronics (defense). The worst performing
groups included airlines as well as lodging and hotels. To be sure,
one can easily build a story as to how the terrorist attacks altered
the relative performance of these sectors. But there is more to
the story than meets the eye.
Yes, it is
true that gold is the refuge of the cautious, defense spending will
now increase, and people are not likely to fly as much in the immediate
future. So, one can attribute some of the market's relative performance
to the incident. However, that is not to say that one should ignore
the fundamentals.
The following
table shows the five best and worst performing industries during
the first day of trading after the market shutdown, as well as the
earnings for these sectors during the first and second quarters
of the year. The results are quite interesting and somewhat surprising
to those who attribute the market's relative performance to the
incident.
It is apparent
that the worst performers either had negative earnings in their
first two quarters (entertainment and gaming) or a major deterioration
in earnings (automobiles and airlines). The one exception was lodging,
which saw its earnings remain unchanged, although it can be argued
that the sector was set to lag as the travel slowdown set in. Thus,
looking at the earnings data, you can argue that the airline industry
woes were anticipated.
The reverse
story seems to apply to the industry groups that outperformed during
the first day of trading. While the case for the defense and gold
industries is fairly obvious, the case for tobacco, health care,
and the S&L industries is not. The common thread tying together
these industry groups is that — with the exception of gold
— they all had positive and improving earnings in the year's
first two quarters. Gold had negative, but improving, earnings.
Investors
must now make a decision as to whether the market changed in a significant
way on September 11, or whether the fundamentals will still be our
guide. In large part, it appears that the relative performance we
are seeing in the market is due to the fundamentals; and also that
the layoffs we are now seeing are tied to an economy that's in the
doldrums.
Today, the
danger that the U. S. economy faces is one of a credit squeeze due
to the financial system's inability to extend credit (because the
net worth of the borrowers has declined). That is why we need a
capital-gains tax-rate cut and an accelerated depreciation schedule
for high tech. We need the federal government to jolt asset values
in a positive way and get us back on the virtuous cycle.
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