Seeing a bubble within a boom

Cheery economic times are ahead in 2000 - maybe.

The "leading indicators," a statistical predictor of economic activity, last week hinted that the boom in the United States will continue at least until spring. Economists expect about 3 percent growth in the output of goods and services in 2000.

"It's a pretty optimistic outlook," says Mickey Levy, chief economist Banc of America Securities in New York.

On top of that, most retailers are delighted with their Christmas sales. Corporate profits are forecast to be healthy in 2000. The consensus of economists is that consumer prices this year will rise 2.4 percent, up a tiny bit from about 2.2 percent in 1999.

"Should auld inflation be forgot," sings David Wyss, chief economist of Standard & Poor's DRI, an economic consulting group in Lexington, Mass.

Western Europe's economy is reviving, Japan's economy looks better. The Asian economies are coming out of their crises.

A sprinkle of chocolate on the cake is the stock market, especially the technology stocks. The Nasdaq Composite Index, which includes many technology stocks, such as Microsoft and Intel, broke the 4000 level for the first time last Wednesday. Wall Street cheered.

But not Robert Parks, a Wall Street economist who frequently offers his views of the economy to managers of big investment money. He describes the tech-stock boom as "the biggest single financial bubble in US history."

Moreover, says Mr. Parks, many money managers he talks to agree that most tech stocks are overpriced. But they find they must stick them in their portfolios regardless. They are afraid that if they buy more realistically priced stocks that aren't rising so fast, their investment performance will look poor. So they will lose clients and perhaps their jobs. Those managing mutual funds worry shareholders will jump to hot funds.

Thus the technology fad feeds on itself. But such manias end.

Parks recalls forecasting the burst of the 1980s bubble in the Tokyo stock market. It did so in 1990, with stock prices bouncing back some in the past year.

Now he's betting the Nasdaq bubble will burst in the next few months, risking a small chunk of his personal investment money on that assumption.

A stock market bubble burst doesn't necessarily mean the whole economy will similarly pop. With Federal Reserve help, the US economy kept on going after the 1987 stock market crash. The Tokyo bust, though, was a factor in Japan's decade-long economic doldrums.

"You can have a gigantic bubble in an otherwise healthy economy," notes Parks.

Parks is bothered by the extraordinary distance between prices of stocks in the "Old Economy" and in the "New Economy." For example, stock of Federated Department Stores (Bloomingdale's, Macy's, Filene's, etc.) sells for about 0.5 times revenues. Shares of Amazon.com, the online retailer of books and other products, sell for 25 times revenues. And Federated is moving into sales on the Internet as well as through stores.

Kathryn Welling, who writes a newsletter for Weeden & Co., a brokerage in Greenwich, Conn., cites research showing that the motto many net companies use to justify their high stock prices is "all wet."

Internet companies often say that all they must do to become profitable is to cut back on marketing. Newspapers these days are full of their advertising as they attempt with some success to increase their "hits" and sales.

What David Simons of Digital Video Investments, in New York, points out is that most of the e-retailers would still be deep in the red if they cut out all marketing. At the same time, revenue growth - the propellant for their high prices - would slow.

EToys, for instance, with a total stock-market value early last month of $6.4 billion, had marketing costs that were 769 percent of its revenues. Its operating loss was 1,308 percent of its revenues.

Mr. Simons tells a similar tale, though not so extreme, for three dozen other e-retailers. Only eBay, Yahoo!, and America Online have no operating loss.

There are other risks to the economy. Parks charges the Fed with pumping too much money into the economy, risking excessive growth and inflation.

In the past six months, one measure of the money supply, M2, has slowed a little to a 5.5 percent annual rate. However, money is churning faster than it used to in recent years, so new money goes further in buying goods and services, notes Parks.

Mr. Levy is not so worried by that money growth. But he expects the Fed to raise interest rates 0.5 percent in the first half of this year to restrain the economy further.

Many economists expect Fed action. But they are still predicting a "happy new year."

(c) Copyright 1999. The Christian Science Publishing Society