Stock Market Could Be Headed for a Downturn

By , Staff writer of The Christian Science Monitor

SURGING corporate profits, steadiness in the bond market, and a slowing United States economy continue to push the US stock market to new highs.

But many market experts hold that the stock market is flashing a number of warning signs that indicate a modest correction -- or at the least -- a slowdown in the pace of market gains in the months ahead.

''This is a 'love-hate' market,'' says James Stack, publisher of InvesTech, a market newsletter. In terms of his model portfolio, Mr. Stack has moved in recent months from being more than 80 percent invested in the market to a cash position of around 85 percent.

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''From the standpoint of 'fundamentals,' it is hard not to like this stock market: Corporate earnings are hitting record levels, and economists seem almost universal in not seeing any signs of a recession in the next 12 months,'' Stack says.

''But from a 'technical' standpoint, it is hard not to hate this market,'' he says. ''Divergences in stock-market indexes alone,'' he says, suggest potentially underlying ''problems'' in the months ahead.

For example, Stack says: While popular indexes such as the 30-stock Dow Jones industrial average, the 100-stock Nasdaq Over-the-Counter Index, and the Standard & Poor's 500 index continue to post gains -- and in the case of the Dow, blaze new highs -- broader market indexes, including several indexes regarded as bell-weathers, continue to lag.

The Value Line Index of 1,700 stocks, for example, ''remains well below peak levels of a year ago,'' Stack notes. And the Dow Jones transportation index and the Dow Jones utilities index have ''barely recovered to levels of last August,'' when both indexes were heading down. The transportation index, in particular, is often seen as a harbinger of future US economic activity, since the index in part measures business shipping activity.

Still, the Dow Jones industrial average continues to post new highs.

The Dow has set a new record high 18 times this year, moving up more than 500 points from last November. The Dow has shot up from just under 3,700 points to the current level of more than 4,200 points. Last Friday the Dow closed at 4,270.09 points, a new high.

''Corporate earnings are looking very good right now,'' says Hildegard Zagorski, an analyst with investment house Prudential Securities Inc. ''And we've got the Fed off our backs for awhile, ''since no additional interest-rate increases are expected for the time being.

''But there are a lot of uncertainties,'' Ms. Zagorski says.

If the US dollar were to continue to fall in value against other major currencies, such as the Japanese yen, the Fed might have to step in with another rate hike to help prop up the dollar, she says. And higher rates could further dampen economic activity, reduce corporate profits, and thus slow stock-market momentum.

Still, while Prudential analysts see the market continuing to rise, they do not discount the possibility of a modest downturn in the next few months. Ralph Acampora, chief technical strategist for Prudential, says he believes the US is in the ''early stages'' of a ''long-term bull market.''

But stocks may move in a ''choppy'' or ''sideways'' fashion during May, June, and July, he argues, although no single decline will measure 10 percent. Once these modest ''pullbacks'' occur, Mr. Acampora says he expects the new bull market to resume its upward course.

Not all analysts see the current market as being a ''new'' bull market, however. ''We've been in a long-term bull market since about 1982, with an interruption in 1987 [when the market crashed late in the year] and in 1990,'' says Rao Chalasani, chief market strategist with investment house Kemper Securities Inc. in Chicago.

''This is a very mature stock market,'' he says. ''There is definitely the possibility of a correction, though probably coming in under 10 percent.''

The sharp divergence between the Dow industrial average and broader market measurements suggests that price gains in individual stocks will be harder to come by in the months ahead, Mr. Chalasani says.

For now, however, higher corporate profits are prompting institutional investors to pour money into blue-chip stocks -- the type of stock that is measured by the Dow Jones industrial average.

Major US companies posting strong earnings gains recently include IBM Corporation, Sears, Roebuck and Co., and Johnson & Johnson.

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