Wall St. rebounds for a day

Dell's good news, rate rumors fuel Nasdaq, Dow

`Typical bear-market rally'

Fears exist that gain will stall, with slide in prices resuming

April 06, 2001|By William Patalon III | William Patalon III,SUN STAFF

After weeks of corporate profit warnings, investors desperate for good news yesterday seized on relatively upbeat comments from Dell Computer Corp. and speculation about another interest rate cut to drive the Nasdaq composite index up nearly 9 percent - its third-best gain ever.

But such big gains, after a three-day sell-off that shaved 11 percent off the technology-heavy Nasdaq and further dampened the mood of already-morose investors, left some veterans wondering whether yesterday's broad stock market advance was the start of a bull-market rebound or just a bear-market trap.

"This is a typical bear-market rally," said Robert Mewshaw, president of Van Sant & Mewshaw Inc., a money manager based in Lutherville. "It's very violent, comes with very little notice, and will last for three to five days," only to have stocks reverse course and continue their slide.

The technology-focused Nasdaq climbed 146.20 points, or 8.92 percent, to finish trading at 1,785.00. The Standard & Poor's 500 index rose 48.19 points, or 4.37 percent, to close at 1,151.44. The Dow soared 402.63 points, or 4.23 percent, to close at 9,918.05.

It was the second-largest-ever point gain for the Dow, which saw 29 of its 30 members rise.

After repeated earnings disappointments from high-tech stalwarts that only a year ago were viewed as invincible, analysts said Dell was the key catalyst behind yesterday's gains - and the leading maker of personal computers merely affirmed its fiscal first-quarter profit forecast. Dell shares, which are down 53 percent in the past year, rose $3.06 to close at $25.25.

"Dell came in and made people feel better," said Bob Rhodes of Trusco Capital Management Inc. "That's what the market was looking for - any sign of hope that the world wasn't ending."

Also important was spiraling speculation that the Federal Reserve - which already has slashed short-term interest rates three times this year - will cut rates again, perhaps soon, said Gil Knight, a principal with Allied Investment Advisors in Baltimore, who manages the firm's Ark Small Cap mutual fund.

Knight said there was speculation that a rate cut could come as early as today, if a government employment report shows that the economy has weakened even more.

Repeated rate cuts are good for stocks, in part because they lower borrowing costs for consumers and companies alike. As a result, both spend more, which boosts corporate profits.

`Suckers' rallies'

But whether this was just a single-day rally, or the start of something better, won't be clear for awhile, experts said. The Nasdaq, which is down 65 percent from its high, and the S&P 500, down 25 percent, still are in bear markets - defined as a 20 percent drop from their peak. As Mewshaw is quick to point out, such markets are often interrupted by "bear-market rallies," or bear traps - also known as "suckers' rallies."

During these prolonged sell-offs, investors scrutinize each day's market action, looking and hoping for hints of a rebound. But instead of a subtle turn in the temper of the markets, there are sharp, upward spikes in stock prices that instantaneously arouse investor ardor, drawing them back into stocks - quite often causing share prices to rise steeply for several consecutive days. With each day's gain, still more investors buy back into stocks with the expectation of further increases.

With a bear-market rally, "People who have been on the sidelines don't want to miss out on this action," said Allied Investors' Knight.

Although that creates a self-fulfilling prophecy, it's only temporary, because the fundamental conditions that caused the bear market in the first place - drooping earnings or a sagging economy, for instance - take over, and stocks begin to slide anew.

`Short squeeze'

Experts said yesterday there might be a second reason that such violent, albeit short-term, rebounds appear in the middle of lengthy bear markets: the so-called "short squeeze."

Short-sellers, or "shorts," are investors who are betting that stocks will fall in price. They borrow from other investors at the current prices, then sell the stocks, taking in the proceeds - reasoning that when stocks do slump, they will be able to buy back and replace those borrowed shares at much lower prices. The difference between what they took in when the shares are sold high, and the money needed to buy them back low, is their profit.

Short-selling, though, can be dangerous. Unlike a straight stock purchase, when the potential for a loss is limited to the amount spent buying the shares, a short-seller's loss is potentially unlimited, because theoretically there's no limit to how high a stock can rise. And the higher a stock climbs, the more the short-seller has to pay to replace the borrowed shares - known as "covering." When a trade goes awry, experts said, shorts have to be quick to cover.

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