March 11, 2003
Investors worldwide bailed out of stocks and fled for the perceived safety of government bonds on Monday, as fears deepened about the approach of war and its consequences.
Although markets have been reeling for weeks, Monday saw a number of worrisome milestones reached in the same trading session -- including a 20-year low for Japan's main stock index, six-year lows for major European stock markets and a drop in rates on U.S. Treasury securities to levels last seen when Harry S. Truman was president.
"Fear of war may be at its height," said Edward Keon, an investment strategist at Prudential Securities in New York. But he added that there is no way of knowing how much more damage might be done to markets, because "you can't rule out any scenario" for how a war might go and the effects on the global economy.
Apart from the obvious erosion of wealth as stocks slide, the trend in securities prices is raising questions about the broader message of the markets. More often than not, the collective decisions of investors are supposed to be a good barometer of where the economy is headed.
In recent weeks, investors' willingness to accept ever-lower yields on government bonds has suggested a growing concern not just about the economy's near-term trend but also about its longer-term health.
On Monday, buyers of 10-year Treasury notes were accepting an annualized interest yield of 3.56% on the securities, the lowest in 45 years. The yield on two-year Treasury notes dipped to 1.33%, the lowest since 1950.
For anyone who plans to hold such bonds to maturity, "the only way they could be good investments at these rates is if we go into deflation," Keon said -- meaning the economy enters a period of falling asset values and falling prices, a situation the United States last experienced in the Depression of the 1930s.
If, instead, the economy rebounds over the next year, and inflation just holds at recent levels, interest rates could rise markedly, which would make buyers of Treasury securities at today's yields look foolish -- and leave them holding bonds worth much less on the open market than what they paid.
On the flip side, many Wall Street pros believe that stock prices have fallen to levels that are attractive if investors have any faith that the economy will grow in the next few years, boosting corporate earnings.
But even money managers who concur with that view are finding it too risky to step up and buy, analysts say. That reluctance made for another dismal session on Wall Street on Monday, where the Dow Jones industrial average fell 171.85 points, or 2.2%, to end at 7,568.18. The Dow is nearing the five-year low of 7,286 it reached in October.
Many foreign stock markets are faring even worse than the U.S. market. In Japan, the Nikkei-225 index dropped 1.3% on Monday to 8,042.26, its lowest close since 1983. Early today the Nikkei slid below 8,000.
The German stock market fell Monday to its lowest level since 1996, while German government bond yields sank.
Some experts say there isn't much point in reading more into the action of markets than the obvious issue, which is that investors are frightened by the idea of a U.S.-Iraq war and are taking the knee-jerk approach of choosing safety first. Government bonds in the U.S. as well as those of Germany, Japan and other nations offer at least the assurance that an investor eventually would be repaid the face value of the security.
Markets are supposed to be able to reasonably assess what an investment is worth, but in this environment "it's hard to know what is the right price for a Treasury bond" or a stock, said David Malpass, economist at brokerage firm Bear Stearns & Co. in New York. So more investors are taking the worst-case-scenario view, he said.
Experts also note that markets often are prone to overreaction in the short term. Indeed, some investment pros say the level of gloom today is the mirror image of the excessive optimism that drove Internet stock prices to absurd levels three years ago.
"In bull markets there are no problems, while in bear markets there are problems as far as the eye can see," said Tad Rivelle, a bond fund manager at Metropolitan West Asset Management in West Los Angeles. Investors tend to overdo it in both types of markets, he said.
Others say bond traders are betting that the Federal Reserve will cut its benchmark short-term interest rate again soon to try to soothe investors, in the wake of the report last week that the economy lost a net 308,000 jobs in February. So traders may simply be lowering market rates in anticipation of the Fed.
But some Wall Street veterans worry that the level of fear apparent in securities prices today is in fact a warning of serious problems ahead for the global economy, if a U.S.-Iraq conflict goes poorly for the United States or creates a great divide among former allies.
"If Iraq doesn't go right, it could be really bad" for globalization of the economy, including the trend toward greater trade, Malpass said. "I think markets are screaming about how interlinked we are" and the new risks to those links.
Investors also worry that war could frighten consumers and businesses into a spending moratorium, triggering another recession that could deepen concerns about a deflationary trend.
Even if a conflict is settled quickly, economists are concerned about foreign investors' willingness to continue funding the huge U.S. trade and budget deficits. The nation remains critically dependent on foreign capital, and that could be jeopardized if there is a backlash against the United States for going into a war with much of the world opposed to it.
Worries about the nation's ability to continue importing capital have helped drive the dollar's value down to four-year lows against the euro and other rival currencies.
"Our [economic] partners are trying to say there's a line in the sand for us," said James Glassman, economist at J.P. Morgan Securities in New York.