Seeking an umbrella in inflationary shower

When the rain seems to pour incessantly, as was the case here last week, it's only prudent to carry a good umbrella. And when adverse economic conditions start to shower down on Wall Street, as has also been occurring here of late, prudent investors also start to look for a safe-investment umbrella. Wall Street is preoccupied these days with inflation and the threat of higher interest rates. In an inflationary climate, stock prices fall as rising yields make bonds more attractive than equities.

Thus, no amount of positive economic news, such as last week's federal report on foreign trade, could ease the financial community's long-term discomfort about rising inflation and the likelihood that the Federal Reserve Board will be forced to tighten credit. The report found that United States exports were higher than expected for March, resulting in a lower than expected trade deficit.

Many investors noted that the trade deficit was reduced precisely because of a significant boost in exports. The danger, of course, is that any overheating in the economy stemming from export-oriented production would force the Fed into a less accommodative stance, pushing the economy into recession at some point.

The movement of the market, argues G.Stanley Berge, managing director of Tucker Anthony Investment Research, of Providence, R.I, is clearly more on the down than the up cycle.

``If you are thinking in short-term conditions, then you might see a cresting for the moment,'' Mr. Berge says. ``But if you are thinking intermediate or long term, then it looks as though the market has yet to reach its bottom,'' following last October's market slide.

The trend of stock prices, says Berge, is still downward. He believes the market is anticipating a recession by the end of the year. ``A lot depends on whether the Fed,'' which Berge believes is primarily concerned with stabilizing the dollar, will ease monetary policy soon. If it cannot find a way to fine-tune monetary policy to shore up the dollar and yet stay accommodative enough to let the economy to continue to grow, the market ``will test the 1,700 range or lower'' before a final bottom is reached, he says.

Last week, interest rate worries pummeled the Dow Jones industrial average for much of the week. It fell 35.32 points alone on Wednesday, to reach its lowest point since February. For the week ended May 20, the Dow closed down 37.96 points, at 1,952.59.

Ironically, last week's lackluster pace took place against a backdrop of relatively upbeat economic news. The March trade report showed the trade deficit falling to a three-year low. The Federal Reserve Board reported that US factories, mines, and utilities are operating at 82.7 percent capacity, an eight-year high. And housing construction rose in April for the third month in a row, although construction of single-family homes was down.

But despite the inflation concern sweeping large parts of the market, not all analysts are bearish.

Writing in a recent report for the Morgan Stanley brokerage firm of New York, analyst Barton Biggs concludes that ``the world economy is still in what might be called a benign interlude of moderate growth and low inflation that will permit the rally in the equity markets to continue.'' He says that ``inflation may pick up a little, but there is nothing to get manic about.''

Mr. Biggs says he continues to be ``reassured by the very favorable supply/ demand situation, particularly for US equities. In the first quarter, about $100 billion of stock, or 4 percent of the total US supply, was taken out of circulation'' by foreign, domestic, and other buyers, he says, a factor that Morgan Stanley believes will continue. Such a pace, he reckons, underscores the underlying stability and strength of the current market, despite all the day-to-day evidence of turbulence.

Assuming that one stays in the stock market and doesn't flee to bonds, money market funds, or other high-yield financial umbrellas, where does one go, with so many uncertainties now at play?

One strategy, as pointed out by E.Michael Metz, an analyst with Oppenheimer & Co. of New York, is to think in terms of companies with strong cash positions.

Under most circumstances, says Mr. Metz, cash is considered a detriment to a company and, if nothing else, could invite the danger of a hostile takeover. But in uncertain economic times, such as now, companies rich in cash holdings have definite advantages.

If there is any economic setback, Metz says, companies with large cash flows tend to be better able to weather difficulties. In such circumstances, the possibility of an outside takeover can be a positive element. A cash-rich company can also acquire other companies. And management can buy back its own stock to shore up its market position.

Metz finds a number of companies now with enviable cash holdings, including Ford and Chrysler automakers; Trans World Airlines, Alaska Interstate, and Tiger International, among airline issues; GAF, Boeing, EDO, and Rohr.

Berge, however, chooses another form of investment umbrella: defensive stocks.

``From an institutional viewpoint, investors should be considering very conservative, high-yield issues,'' he says. ``That means such issues as utilities or telephones stocks. I'm not suggesting such issues will necessarily show market rises, but what one needs are stocks that, if the market goes down, say, 20 points, the issues will go down only 10 points.''

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