Long-term faith in stocks wavers

Wall Street pretty much agrees that a successful invasion of Iraq by the United States and whatever allies it can round up would be good for the stock market.

Share prices will be "substantially higher by year end," says David Malpass, chief economist of Bear, Stearns & Co., a major investment firm based in New York.

Beyond such a rally, though, the financial community is divided and undecided on the course of stock prices. Perhaps the most significant question for investors, especially baby boomers facing retirement, is this: Will stock prices return soon to their historic growth pattern?

Since 1926, stocks (free of taxes, dividends reinvested) have provided an average annual return in nominal dollars of 10.7 percent. That's a sizable premium over the 5 percent return on bonds.

Three years ago today, the Nasdaq Composite Index bubble began to burst. It closed that March 10 at 5048. Last week the index was running around 1300. The index, with its heavy load of high-tech companies, has declined 30 percent in the past 12 months alone.

The Standard & Poor's 500 index hasn't been hit quite so hard. Still, it is down about 28 percent in the past 12 months.

"People have postponed their retirement because of what has happened to stocks," notes Mark Wohar, an economist at the University of Nebraska, Omaha.

Professor Wohar's hope is that the "New Economy" is real and sustainable, that computers and other innovations will boost productivity sufficiently that corporate earnings and the economy will flourish, and thus stock prices will thrive nicely in the future.

But he and others aren't so sure of that outlook.

Several major companies have been modestly lowering the expected return on their pension investments - for example, IBM from 10 percent to 9.5 percent, Fidelity Investments from 7.75 to 7, Citigroup from 9.5 to 8.

Economists at Goldman, Sachs & Co., an investment-banking firm in New York, predict the long-term return on equities will be about 6 to 6.5 percent a year. That implies corporations will have to trim their projected pension returns further.

One reason, explains chief economist Bill Dudley, is lower inflation. Over 40 years, the average inflation rate has been about 4 percent a year. It is now running between 1.5 and 2 percent.

To Mr. Dudley, the market debacle of the past three years has taught investors that stocks are riskier than bonds and some other investments. The "love affair" with equities has decidedly cooled.

"But people are not yet realistic," he says. "They are not saving enough from their income to have a good retirement."

Three years ago, Yale economist Robert Shiller's book, "Irrational Exuberance," was published. In it, he argued that stock prices in the 1990s displayed the usual features of a speculative bubble - "wishful thinking on the part of investors that blinds us to the truth of our situation."

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