<THE RULE BREAKER PORTFOLIO>
Relief Rally Rocks the Street
by Louis Corrigan (TMFSeymor@aol.com)
Atlanta, Ga. (March 5, 1999) -- A relief rally on Wall Street sent the broad market averages rocking ahead, slightly outpacing the 2.3% gain for the Rule Breaker portfolio despite a strong surf in the eBay (Nasdaq: EBAY). Indeed, the venerable Dow Jones Industrial Average (DJIA) rose 268.7 points (2.8%) to hit a new all-time high of 9736.10, taking all of our Dogs along for the ride, too.
The Dow flew higher from the get-go, ending the first week of March with a bang thanks to a Goldilocks employment report. The U.S. economy added 275,000 non-farm jobs in February, up from the downwardly revised 217,000 new jobs created in January, but not too far above the 250,000 job increase projected by economists.
That was good news because the market had feared a much stronger number, perhaps as high as 400,000. Because more folks who were previously content to watch soaps (or maybe CNBC) are entering the labor force, the unemployment rate actually ticked up to 4.4% from the record low 4.3% registered four weeks ago. This continued influx of new workers is helping to keep wage inflation in check for now. Average hourly earnings increased just 0.1% for February, below the expected 0.3% hike.
While this benign combination can't continue indefinitely, investors breathed a big old sigh of relief, hoping that maybe the economy will slow a bit without the Federal Reserve needing to take action. As a result, the 30-year bond rose 1 13/32 to 94 31/32, pushing the yield down to 5.605% and making equities more attractive.
To many of you, all of this may make as much sense as the hokey pokey. Heck, probably even less. At least the hokey pokey is good family fun. The unemployment rate goes up, so Wall Street is happy? Go figure! But it actually makes a lot of sense once you piece together the basics.
For starters, stocks are priced, fundamentally, off of bonds. That's because investing in stocks is risky whereas investing in the U.S. government's debt is not. Really. So there's a risk/reward analysis at play. As the rate of return you can get by owning bonds increases, stocks become relatively less attractive, and vice versa.
Secondly, a fixed amount of corporate earnings are simply worth more if inflation falls (and less if inflation rises) because what matters is the inflation-adjusted buying power. That's one reason price-to-earnings ratios for the major market indexes have headed way above historical norms in recent years. The inflation rate has generally been falling, so people have been willing to pay more for the same amount of earnings.
A furious bond rally (rising prices, falling rates) during last fall's market mayhem signaled a series of interest rate cuts by the Federal Reserve. Since October, though, the bonds have been giving back their gains (falling prices, rising rates). In his recent appearances before Congress, Fed Chair Alan Greenspan made it clear that the third quarter point cut in the Fed Funds rate in November was maybe a mistake given that, contrary to expectations, the U.S. economy has indeed proven to be an oasis of prosperity in a world full of troubles. In other words, people who had thought Greenspan might need to cut interest rates some more had recently become convinced that's not going to happen anytime soon. In fact, the bias at the Fed is neutral but unofficially leaning a bit toward taking back that last quarter point cut. But as that old tower in Pisa teaches us, leaning doesn't necessarily mean diddley.
Historically, economists have figured that strong growth produces inflation as demand for resources increases. The Fed must head off inflation with higher interest rates to slow the economy down. Yet, that's not been the case over the last few years, prompting many to speculate that we're in some kind of New Era. Still, with the economy roaring, the bond market has been pricing in some potential Fed backtracking. People were fearing that a blowout jobs report today would make it tough for Greenspan to avoid raising rates, and any increase would inevitably spark worry over additional rate hikes.
All of this would be very bad for stocks because it would mean A) that Greenspan is sufficiently worried about a pickup in inflation to finally stomp on the brakes, and B) bonds would become even more attractive, forcing the fat P/Es of growth stocks to slim down.
Blah blah blah, you say, and I agree. But that's what happened today. The jobs report was strong but not as strong as feared, and investors who had been hoarding cash threw it into the market while buying bonds, which now appear to offer a good rate of return compared to what they might offer a few months from now if the Fed does nothing.
This detour into market commentary must be blamed on the fact that our Rule Breakers reported no meaningful news that I can find so that we're basically left with a rising tide raising all ships. Yes, eBay surfed ahead $18 7/16 to $149 1/4 to a new all-time high. Maybe some folks were finally persuaded by Jeff's recent buy report, but I have to figure some of this was just momentum investors riding the wave of price appreciation as the stock washed through its previous high. While buying a stock just because this portfolio is buying makes little sense if you're really a do-it-yourself Fool, buying because of price momentum alone makes even less sense. Still, we'll take a 14.1% one-day gain anytime.
The only smidgen of news regarded @Home (Nasdaq: ATHM), which rose $2 1/2 to $117 3/4. Nasdaq announced last night that this high-speed Internet access provider will join the highflying Nasdaq 100 index at the close of trading next Tuesday. It's replacing Tele-Communications Inc. (Nasdaq: TCOMA), which is being acquired by AT&T (NYSE: T). That's nice for the stock, but it don't mean much for the business.
With that, time to enjoy your weekend. Go Heels!
Day Month Year History Annualized R-BREAKER +2.28% 1.98% 15.83% 1062.60% 70.85% S&P: +2.31% 3.00% 4.08% 191.80% 26.34% NASDAQ: +1.93% 2.15% 6.59% 224.52% 29.30% Rec'd # Security In At Now Change 8/5/94 2200 AmOnline 0.91 86.88 9458.78% 9/9/97 1320 Amazon.com 6.58 121.50 1746.72% 5/17/95 1960 Iomega Cor 1.28 5.56 334.43% 12/4/98 450 @Home Corp 56.08 117.75 109.97% 12/16/98 580 Amgen 42.88 66.13 54.23% 4/30/97 -1170*Trump* 8.47 4.19 50.55% 2/26/99 300 eBay 100.53 149.25 48.47% 2/23/99 300 Caterpilla 46.96 49.88 6.20% 7/2/98 235 Starbucks 55.91 58.75 5.08% 2/23/99 290 Goodyear T 48.72 51.00 4.69% 2/23/99 180 Chevron 79.17 81.31 2.71% 2/20/98 260 DuPont 58.84 53.56 -8.98% 1/8/98 425 3Dfx 25.67 13.25 -48.38% Rec'd # Security In At Value Change 8/5/94 2200 AmOnline 1999.47 191125.00 $189125.53 9/9/97 1320 Amazon.com 8684.60 160380.00 $151695.40 12/4/98 450 @Home Corp 25236.13 52987.50 $27751.37 2/26/99 300 eBay 30158.00 44775.00 $14617.00 12/16/98 580 Amgen 24867.50 38352.50 $13485.00 5/17/95 1960 Iomega Cor 2509.60 10902.50 $8392.90 4/30/97 -1170*Trump* -9908.50 -4899.38 $5009.13 2/23/99 300 Caterpilla 14089.25 14962.50 $873.25 7/2/98 235 Starbucks 13138.63 13806.25 $667.63 2/23/99 290 Goodyear T 14127.38 14790.00 $662.63 2/23/99 180 Chevron 14250.50 14636.25 $385.75 2/20/98 260 DuPont 15299.43 13926.25 -$1373.18 1/8/98 425 3Dfx 10908.63 5631.25 -$5277.38 CASH $9924.87 TOTAL $581300.50Note: The Rule Breaker Portfolio was launched on August 5, 1994, with $50,000. Additional cash is never added, all transactions are shared and explained publicly before being made, and returns are compared daily to the S&P 500 (including dividends in the yearly, historic and annualized returns). For a history of all transactions, please click here.
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