Fears of rise in rates rattle stock markets

Dow industrials fall 134

Nasdaq, 35

S&p 500, 15

Many expect early Fed action

Strong retail sales report for March raises anxiety

April 14, 2004|By Bill Atkinson | Bill Atkinson,SUN STAFF

Fear that incipient inflation could soon prompt the Federal Reserve Board to push interest rates higher sent the stock market into a spiral yesterday as the Dow Jones industrial average fell 134.28 points despite an array of robust earnings reports.

Market observers blamed the decline on a stronger-than-expected March retail sales report that was released yesterday morning by the Commerce Department. The report underscored the growing belief that the economy is gaining strength and could accelerate in coming months, increasing the risk of inflation.

"That is the fear of today. They [investors] are worried about the Federal Reserve," said Don Hays, president of Hays Advisory Group in Nashville, Tenn. "The Fed is going to raise interest rates. Obviously, they are too low."

The report sent major indexes skidding. The 30-stock Dow Jones industrial average fell 1.28 percent to 10,381.28, the broader Standard & Poor's 500 slipped 15.76 points, or 1.38 percent, to 1,129.44, and the technology-heavy Nasdaq composite index lost 35.40 points, or 1.71 percent, to 2,030.08.

The sell-off surprised some stock market experts.

"Today is more of a knee-jerk reaction in terms of a one-day event," said Arthur Hogan, chief market analyst in Boston at Jefferies & Co. "We have gotten too much good news in too little time."

"I don't see anything," said James Paulsen, chief investment strategist at Wells Capital Management in Minneapolis. "All I can relate this to is that you have people think there is going to be a Fed tightening. It seems like we have gone from the idea that we don't have enough growth to, whoops, it is growing too fast."

The report that March retail sales were 1.8 percent higher than February's, the biggest gain in a year, follows the Labor Department report that a surprising 308,000 jobs were created last month.

Economists are revising their projections and expect the economy to grow at a swift 5 percent pace in the first quarter.

All of that bodes well for President Bush's hopes for re-election, experts said.

"People vote their pocketbook," Hays said.

Experts said investors overreacted to the Commerce Department's report and dismissed the strong earnings reports from companies such as Johnson & Johnson and Merrill Lynch & Co. Inc., both of which beat analysts' projections.

The tone for the day was set soon after the opening bell. Although the Dow rose immediately, it stalled within minutes and declined for most of the day. Shortly after 3 p.m., the index was down 154 points, but it staged a weak rally that cut into its losses.

Most experts say a rate increase is in order. Since June, the Fed's main lever to influence economic activity, the federal funds rate, has been at 1 percent, a 45-year low. "I think they are going to tighten fairly soon," Paulsen said. He said the Fed could raise interest rates as early as June.

"There is building inflation evidence," Paulsen said. "We are going to have a huge first-quarter growth rate. I think things are moving pretty rapidly."

Experts expect inflation in gasoline prices and such commodities as steel, health care, food and services.

"There is inflation everywhere," said William Lauer, chief investment officer at Chevy Chase Trust in Bethesda. "There is inflation when you go to the cleaners. It is becoming very evident, very fast."

Rising interest rates could slow sales of automobiles and take the steam out of the sizzling housing market. But experts don't think the impact would be immediate.

"If we raise rates a full percentage point tonight, no one is hurt tomorrow when they come to work," Paulsen said. "Markets ... tend to have a history of overreaction."

A year ago investors fretted that the economy might dip back into recession and drag the stock market along with it, experts said. Now, they are worried that growth could spell problems.

"A little ... inflation would be OK," Hogan said.

Many market strategists expect the stock market to end the year with a gain of 5 percent to 10 percent. "I think the path of least resistance ... will be positive and up," Hogan said.

Hays is more optimistic. He sees the market exploding after July as the economy picks up. He expects the S&P 500 to rise 30 percent and the Nasdaq even more for the year.

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