OCTOBER 2, 2000

COMMENTARY By Sam Jaffe It's Starting to Feel a Lot Like 1973-74 Could the market downturn, the high oil prices, and -- scariest of all -- the inverted yield curve signal a similar recession?

Baggy pants, John Denver songs, and "Impeach Nixon" bumper stickers. That's what I remember about 1974. Of course, that's probably because I was only five years old at the time. If I'd been a bit older, I might be able to recall phrases like oil crisis, inverted yield curve, and stagflation.

Those terms come in handy today, since many analysts fear we may be living a repeat of the 1973-74 economic slowdown, which ushered in a bear market. Again we have an inverted yield curve. Again we seem to be enduring a very sluggish, if not a bear, market. We even have our own old-fashioned "oil crisis." History doesn't tend to repeat itself as neatly as some would like it to, but the similarities between that painful period and today are enough to make you think. It almost makes you want to hum a few bars of Rocky Mountain High.

For those who didn't live through it -- or were too busy recovering from the '60s -- here's what happened back then: The stock market started to fall in January of 1973, thanks in part to an economic slowdown but also due to the fatigue of a decades-long bull market that just couldn't go on anymore.

BAD THINGS HAPPENED. The so-called Nifty Fifty stocks of the day, dominant conglomerates such as Xerox and Gillette that were too big to fail, had carried the market to one new high after another. But the Standard & Poor's 500 turned down in January, 1973, and didn't begin a sustained rise until September, 1974. By the end of that 21-month bear market, the S&P 500 had lost 42.6% in value, according to Ibbotson Associates.

All the while, bad things happened. In October, 1973, the U.S. economy was hit by an oil embargo by Middle Eastern nations upset about America's support of Israel in the Yom Kippur War. The nation's oil supply dried up, leaving motorists' tanks empty and factories facing sky-high fuel bills.

Although the embargo didn't last long, the high prices did, as the Organization of Petroleum Exporting Countries learned that its hand was on the throttle of the world's economy. And in the face of all these inflationary pressures, the Federal Reserve loosened monetary policy. The Fed's missteps during this period have since become a primer on what not to do during a period of rising prices.

BOND OMEN. As usual, the bond market presaged all this. In March, 1973, the yield curve inverted. This means the yield on a one-year Treasury bill was higher than that of a 30-year Treasury bond. In normal times, financial markets believe that higher interest rate are needed to pay for taking long-term risks. In the upside-down world of inverted yield curves, which almost always accurately predict a bear market in stocks, you get paid more for taking on short-term risk. That's the bond market's way of saying rough waters are just ahead.

Today's situation is very similar. Inflation-adjusted oil prices are near 1973 levels. The stock market has endured a six-month period of stagnation that doesn't seem to be getting better. And since late August, we've had an inverted yield curve.

Of those three tidbits, it's the wacked-out yield curve that makes me most nervous. The stock market is still only about 1% below its March highs. Oil prices rise and fall, so there's no reason to think this crisis couldn't end soon also (see BW Online, 9/25/00, "The Good News in Costlier Oil: A Cooler Economy").

OFF-KILTER. But why the inverted yield curve? Nobody really knows for sure. Part of the explanation has to do with expectations of a Federal Reserve rate cut. Part of it comes from a lack of inflation. But what it really means is the bond market believes something is off-kilter in the economic and financial picture.

The good news is that much of the damage has already been done. The Internet bubble has been burst, and all those greedy dot-com millionaires are investing in shoe leather as they look for jobs. The inflated tech-stock balloon also has been rightfully deflated.

But what if we're living through 1973-74 all over again? History does repeat itself -- although rarely in such neatly predictable ways. The comparison is probably a bit too pat. But an oil-induced global recession could lead to an enormous downturn in U.S. stocks. Then the only thing we won't have to worry about is our President resigning. Well, better keep our fingers crossed on that one, too.

http://www.businessweek.com/bwdaily/dnflash/oct2000/nf2000102_439.htm

-- Carl Jenkins (Somewherepress@aol.com), October 03, 2000

Answers

Some good observations here, but the writer got one important fact wrong. The inverted yield curve did not start in Aug., but in Jan., and has been churning away, sowing its seed of recession, for 9 months now, until 2 weeks ago, when if finally reversed.

Traditionally, when an inverted yield curve endures for 6-9 months a recession will inevitably follow.

And, traditonally, recessions are preceded 6-9 months by a big stock market sell-off.

This should occur any day now--hopefully BEFORE the election, so as to "take out" any possiblity that Albert Gore, Jr. might become President of the United States.

-- JackW (jpayne@webtv.net), October 03, 2000.

Ironically, Xerox has a crack up in its earnings, announced yesterday, and the market doesn't even blink this time.

-- Billiver (billiver@aol.com), October 03, 2000.

The official start of the Arab Oil Embargo may have been October, 1973, but there were shortages before that. I recall a long car trip we took in the summer of that year, and encountering more than a few service stations that were out of gas.

-- LillyLP (lillyLP@aol.com), October 03, 2000.

The author doesn't even mention the natural gas crisis. This is the hidden bogey man this time that wasn't even a factor back then.

-- Wellesey (wellesley@freeport.net), October 03, 2000.

I believe all of the last 3 recessions were oil-induced.

-- Loner (loner@bigfoot.com), October 03, 2000.

I was ten and remember those days very well, My dad sold auto parts and we were the only store in town that had locking gas caps -- he got stuck with them a couple months before and thought he'd have a ten year supply. We sold all 2,000 in a few days. Do you have a locking gas cap, now?

October 10th is Yom Kippur, the holiest day on the Jewish Calendar, a day of fasting. Will this be the start of the October surprise? I pray not!

-- (perry@ofuzzy1.com), October 03, 2000.

Speaking of October Surprise, the stock market is only one of them. Think of all the things Clinton can to to counter a stock market collapse and help Gore: release another 100 barrels of oil from the reserve, bomb an aspirin factory, bomb Iraq, give $1 billion to low income families to pay their higher utitity bills. The list goes on and on and on.

-- Chance (fruitloops@hotmail.com), October 03, 2000.

I wonder why this guy got so screwed up on the inverted yield curve. It didn't start in August. It's been going on much longer than that.

-- Wayward (wayward@webtv.com), October 03, 2000.