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Bubble burst flattens investors

 
Published March 11, 2003|Updated Aug. 31, 2005

Exactly three years ago on Monday, all seemed bright to investors. Now there is little to cheer about, as investors who once were able to see only the positive now seem transfixed by what could go wrong.

It was on March 10, 2000, that the Nasdaq composite index hit a peak of 5,048.62. It had doubled since the previous summer, and those who had warned of a bubble in technology stocks had been so wrong for so long that few listened to them any longer.

But they were about to be proved right. Within little more than a month, the Nasdaq had lost a third of its value, and while it temporarily rebounded after that, it has never come close to its old highs.

Then, in March 2001, a recession began. Six months after that, two planes hit the World Trade Center, and another slammed into the Pentagon. The recession probably ended in late 2001, but the aftereffects of the bubble continue to plague the economy. The telecommunications industry _ whose bubble was far larger than the Internet's, at least as measured by dollars invested and lost _ remains depressed, and the term "jobless recovery" is popular.

No wonder it is the onetime bears who are now most likely to get a respectful hearing from investors. Jack B. Grubman and Frank P. Quattrone, who three years ago could dole out millions in initial public offering profits, are now more likely to be spending time with their lawyers than with speculators seeking their wisdom and favors. The IPO market is all but dead.

"The striking difference between now and then is that the supreme confidence that things would work out has been replaced by a ghoulish fascination with what could go wrong," said Robert J. Barbera, chief economist of ITG/Hoenig. A bear then, Barbera now thinks prices are depressed by concerns about Iraq, and expects a rally if a war goes well from the American perspective.

Warren E. Buffett repeatedly issued bearish pronouncements when stocks were nearing their peak, and he refused to buy technology stocks for the portfolio at Berkshire Hathaway, the company he runs. As a result, investors gradually concluded that he had lost his touch. From mid-1998 through the peak three years ago, the price of Berkshire Hathaway shares fell 47 percent, while the Nasdaq composite was rising 166 percent. Since then, Berkshire is up 56 percent, while the Nasdaq composite index is down 74 percent.

Buffett remains unimpressed by valuations. In his annual letter to shareholders, released last week, he said he could find very few stocks that seemed worth buying. "That dismal fact is testimony to the insanity of valuations reached during the Great Bubble," he wrote. "Unfortunately, the hangover may prove to be proportional to the binge."

Buffett's core holdings of eight stocks _ the largest being Coca-Cola and American Express _ declined 2 percent last year, far better than the 23 percent decline registered by the Standard & Poor's 500. Those holdings ended the year valued at $23-billion.

Despite his bearishness, the annual report issued over the weekend showed that Berkshire had put $350-million into the stock market during the year, selling $1.4-billion worth of stocks and buying $1.75-billion. But that amount paled against the $10-billion Berkshire put into the bond market.

At the market's peak, Hoenig noted, Alan Greenspan, the Federal Reserve chairman, was comparing Internet stocks to lottery tickets. To an economist, lotteries and casinos are interesting because people pay to take risks even though they know that the odds are against them.

It turns out that Greenspan had something of a point. Most of the initial offerings near the peak turned into disasters, with the ones that doubled and tripled the first day of trading being among the worst. An exception is the Hotel Reservations Network, since renamed Hotels.com. It rose 62 percent on its first day of trading a couple of weeks before the peak and has more than doubled since March 2000. Unlike most of its peers in the late-bubble class of new offerings, that company is reporting growing profits.

For most investors, safety has become a watchword. Perhaps the safest investment one can think of is a Treasury bond with inflation protection, and investors have flocked to them. Overall, Lehman Brothers calculates, investors in inflation-protected Treasuries have seen gains of 46 percent over the last three years.

Conventional Treasuries have also done well, as the yield on 10-year Treasuries, at 6.39 percent when the stock market peaked, has fallen to 3.62 percent, producing substantial profits for investors.

Stocks that pay dividends have done better than those that do not, and there is a small trend toward paying dividends, with Microsoft issuing its first payment last week. Three years ago Microsoft was the stock market's most valuable company. It still is, but its shares are down 53 percent.

On the market's way up, the belief in stocks spread to most parts of the world. But it turned out that there was little safety to be found from international diversification. Japan's market had been depressed for years, but even it put on a rally in the months before the U.S. market peaked. Since then the Nikkei 225 is down more than 60 percent, measured in dollars. The markets in France and Germany have lost more than half their value, and Britain has done almost as badly.

Among American companies, some shares have done well since March 2000. Seven of the 30 stocks in the Dow industrials are up, led by Altria, the former Philip Morris, which has gained 88 percent. Cigarette litigation did not kill Altria, and its dividend remains high. Johnson & Johnson, Procter & Gamble and 3M, all deemed boring at the peak and all losers in the final six months of the Nasdaq run, are each up at least 50 percent over the last three years.

The strongest part of the American economy has been the housing market, and indexes of homebuilding stocks have doubled since the overall market peaked. NVR, a company that builds and finances homes, trades for nearly seven times what it was worth three years ago.

But another industry that has benefited from surprisingly strong sales _ autos _ has not won favor on Wall Street. Detroit has kept sales high, but only with big discounts, and recently there have been signs that sales may be starting to weaken. Since the peak, Ford is down 68 percent and General Motors is off 60 percent.

What is most amazing is just how many substantial companies have lost a huge part of their value since the peak. The list of companies that are down at least 90 percent includes Lucent, Qwest, JDS Uniphase, Gateway, LSI Logic, Corning and Sun Microsystems. Meanwhile, Cisco, Yahoo, EMC, El Paso, AMR, Delta, Motorola, Texas Instruments, Nextel and AOL have lost at least 80 percent.