You can invest by economic gauges, but pros pooh-pooh it. Indexes may beat guesswork, but they're iffy
New York — Question: Which economic statistic is the best one for investors to follow? Answer:
A.The leading composite index, a measure of future economic activity.
B.The government's producer price index, an inflation measure.
C.The gross national product estimate, a total of all goods and services produced.
D.The Business Week index, the magazine's gauge of economic activity.
E.None of the above.
It took Richard Aster 20 years on Wall Street and a graduate degree in economics to find the answer to this question.
``It's a waste of time to study economic statistics,'' says the head of Aster Investments, who is a Larkspur, Calif., investment manager running $150 million. He adds, ``We ignore them. You can't predict them.''
Other money managers confess the same. Peter Lynch, who masterminds the successful Fidelity Magellan Fund, has said he talks to economists only 20 minutes a year. And Brian Rogers, portfolio manager of the T.Rowe Price Equity Income Fund, with $80 million under management, says, ``There are 8 billion economic statistics to look at. I get confused just looking at them all.''
In fact, many Wall Street money managers do look at the economy, but usually in broad terms.
Mr. Aster, for example, believes the stock market and the value it places on his holdings tell him the state of the economy. When the economy is on a roll, stock prices are usually high. Conversely, when stock prices are low, expectations for the economy are low. How does he use this gauge for investing? When stocks are high, he sells. When they are low, he buys. ``When stocks are high, we know it won't last forever,'' he reasons.
Some economists are ``sensational'' at interpreting the economic numbers as they are issued. But Harvey Eisen, a portfolio manager at the $1.8 billion Integrated Resources Asset Management, likes to take a ``consensus '' of what is being said about the economy. ``If you take six guys, you get a bell-shaped curve,'' Mr. Eisen says, ``so you have to decide who you have confidence in.''
Eisen places less emphasis on actual statistics, because ``the numbers have become softer and softer'' as the government revises each month's or quarter's statistics. The key to understanding the economy, the money manager maintains, is interpretation.
What happens when the interpreters change their mind?
This can cause institutional investors to change their minds about the market as well. Mr. Rogers says he would look very closely at cyclical stocks if ``someone I believed in'' felt the economy was going into a tailspin.
Conversely, if the forecast were for a stronger economy, Rogers would increase his buying of cyclical stocks.
If an investor does want to zero in on an economic number, Richard Strong, president of the $2.5 billion Strong Funds in Milwaukee, recommends the inflation numbers. He reasons that the inflation picture will color the outlook for interest rates - a key determinant of future stock prices. If the trend is toward a rising producer price index, for example, interest rates will soon be rising as well.
Rogers of T. Rowe Price thinks investors can profit the most by watching the yield curve - the difference in yields between long-term and short-term bonds. Historically when long-term bonds are yielding much more than short-term vehicles, he notes that it means the Fed is in an accommodative state. This could indicate a stronger economy a few quarters later.
``A lot of economic factors are implicit in the yield curve,'' Rogers says. For example, if the economy is strong, the yield curve will be flat as corporations borrow to fund their inventories and other short-term expenses. During highly inflationary times, the yield curve will be inverted, since borrowers are willing to pay more for short-term funds than longer-term funds.
Currently the difference between 90-day Treasury bills and 30- year Treasury bonds is about 2 percentage points. This is a sharp, non-inverted yield curve, which Rogers believes indicates better economic times ahead.
Michael Kassen, a colleague of the well-known Mr. Lynch at Fidelity, also does not spend a lot of time with economists. Mr. Kassen, however, who runs Fidelity's $900 million Freedom Fund, does think investors can learn something about the state of the economy by watching paper statistics. ``It's such a pervasive commodity,'' Kassen says. For example, before goods are sold at retail they must be moved from warehouses. This means they are usually packed in cardboard boxes. If there is a big jump in paperboard shipments, it could presage a move in the economy.
Unfortunately the paperboard numbers are not always accurate. At present, the paperboard shipments are good but the economy is not. ``One reason for this,'' Kassen explains, is that ``the weakest segments of the economy, like the oil industry, do not ship things in boxes. The same is true for the farm sector, which is practically in a depression.''
So what should an investor do?
Rogers says the best economic indicator is what you see with your own eyes. ``If you work for GM and you see friends getting laid off, it says something about the economy,'' he says.
But Thomas Bailey, president of the Janus Fund in Denver, which manages $500 million, says it would be easy to have a gloomy outlook on the economy if he looked only at the Mile High City. The oil patch, agriculture, some high-tech companies and real estate are all on the skids.
Instead, Bailey tries to get a national feel by watching a composite of economic indicators that have some bearing on interest rates. These include retail sales, nondefense durable goods, housing starts, mobile home starts, and payroll employment. ``No single report makes a dramatic difference,'' he says, ``but together they sort of paint a picture of what's going on. A lot of statistics help determine the future course of interest rates.''