- The Washington Times - Monday, October 2, 2006

The Dow Jones Industrial Average is flirting with an all-time high after spending 6 1/2 years in the wilderness recovering from a bubble in technology stocks, a recession, terrorist attacks, a wave of corporate scandals, sharply higher energy costs and interest rates, and recently, worries about a housing bust.

The Dow has struggled to top the 11,723 level it reached in January 2000, with its recent treadmill action of advance and retreat typical of the solid but unglamorous gains it has been eking out for investors since the bubble burst in early 2000.

Yesterday’s market action was in line with the trend. The Dow briefly topped its high, then pulled back to end 9 points lower at 11,670 on worries about a steep slowdown in manufacturing. The blue-chip Standard & Poor’s 500 index also has soared to 5-year highs, but the technology-driven Nasdaq Composite Index stands at less than half the record high it hit in March 2000.

The last time the Dow visited these heights, few analysts questioned that the market would continue its swift upward march. But the long, tortuous path it has followed since then has fed chronic questions about the sustainability of market gains and produced a plethora of opinions about where the Dow is headed from here.

“The best is yet to come,” said Jeffrey N. Kleintop, chief investment strategist at PNC Financial Services Group, predicting that the S&P; 500 index will gain at least 14 percent in the next year as energy prices continue to recede, uncertainty about corporate earnings and control of Congress is resolved, and the Federal Reserve reverses its anti-inflation campaign and cuts interest rates.

Last month, the market got a “head start” on the “fourth-quarter fireworks” that Mr. Kleintop said he is expecting, in line with the usually robust market performance in the second year of a president’s term.

“The stock market is entering what has historically been the best 12-month period for its performance during the four-year presidential election cycle,” he said, citing many similarities to the midcycle years 1966 and 1986, during which the market experienced explosive gains.

Mike Ryan, head of UBS Wealth Management Research, said the dramatic drop in oil and gas prices since Labor Day — which should boost economic growth and help tame inflation — is largely responsible for the turnaround in the market and investor sentiment.

“Investors seem to believe the U.S. economy is headed towards a so-called soft landing,” he said.

But Alexander P. Paris, stock strategist at Barrington Research Associates Inc., said the market is due for a “rest” because investors have exaggerated the benefits of a “surprise collapse in oil prices” while overlooking pitfalls.

Among other things, Mr. Paris questioned whether investors have braced themselves for the fallout from a possible Republican loss of Congress in next month’s elections.

“Despite considerable confusion, worry and uncertainty about the Fed, inflation, a housing bust and the economy, the market has put together a lengthy rally from the July lows,” he said. “Despite the recent celebration, the market may have a difficult time extending its rally in the months ahead.”

Mutual fund managers helped lift the market by engaging in some “window dressing” at the end of last month, buying winning stocks so they can include them in their annual reports to investors. But now they are likely to “sit on their hands” for a while and wait to see whether earnings hold up and the economy rebounds from a soft third quarter, he said.

Daniel C. Chung, chief investment officer at Fred Alger Management Inc., said the market should continue to expand, if not “take off,” not so much because the economy is doing well but because corporate profits are at extraordinarily high levels and are likely to remain so.

Earnings growth for the S&P; 500 companies averaged 18 percent in the first quarter, much better than Wall Street analysts had expected, and even managed 15 percent excluding record energy profits, he said.

“For nearly four years, the S&P; 500 has registered more than 10 percent earnings growth, and we believe that the run is not over,” Mr. Chung said, because corporations continue to benefit from cost-cutting due to the globalization of production at the same time their workers have little leverage to push for a greater share of corporate income that would cut into profits.

“This is a recipe for all sorts of social discontent,” he said, and may explain why voters are so disenchanted with an otherwise healthy economy, but it should be welcome news for the stock market, where price gains have been trailing earnings growth.

Lawrence Kudlow of Kudlow & Co. LLC said the Dow’s plodding rise toward record highs has important political implications.

“This powerful combination of rising stocks, falling gasoline prices and the Goldilocks economy are powerful pluses for election-year Republicans,” he said. “The Dems aren’t even talking about the economy anymore.”

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