What’s Ahead For 2001

Happy New Year!! Please note – American has moved it’s offices to 226 North Adams Street from 107. This move is official as of January 3rd. Our main telephone number (301-251-1002) remains the same, as do all of our other numbers.

We are into a new year which gives us time to reflect on these past twelve months and make plans for the year ahead. As we look back over the year 2000, we are thankful that our portfolio management philosophy and strategy have kept us out of high risk, earnings and dividendless, technology stocks. Yes, we did have some clients pressure us to buy stock like Cisco (down 53.4% from its ’00 high) and Sun Micro (off 56.4% from its high). The technology stocks that we did buy had earnings and most paid dividends. Many people told us that, as a firm, we should abandon the “old economy” and enter the world of the “new economy.” Our answer was that we would stick with the “real economy.” History tells us that companies that comprise a “new economy” tend to pass by the wayside, and that companies that makeup the “real economy” tend to live on.

Over the last several weeks, one question has been repeatedly asked of us: “What happened to cause a slowdown in the economy?” The short answer to a complicated question is best summed up in a January 5th analysis in the Washington Post by staff writer Steven Pearlstein, who writes: “As the expansion progressed, overconfident consumers began to spend beyond their means while overconfident companies expanded their production. The Fed, hoping to prevent an outbreak of inflation, raised interest rates enough to dampen consumer spending on high-priced items. As inventories of unsold dishwashers, houses and cars built up, companies cut back on production, employees and investment and the slowdown occurs.”

Along with the question about the rapid slowdown in the economy comes the question of how three trillion dollars of value could evaporate from total stock values in less then a year. Again, the simple answer is that the Nasdaq and tech stocks in general were enormously overvalued and in many cases, were selling at insane valuations. These losses are history, but the Nasdaq is still selling at better than 100 times earnings (40X would be normal) and the individual investor still remains complacent. This forecasts volatility ahead for many sectors of the market.

For 2001, we see a road that promises to be choppy, but full of opportunities. We expect to see value, as a measure of investment criteria, return to the marketplace. Sane valuations are returning, but it has been a painful transition as investors and mutual funds go through the rotation from NASDAQ stock to Dow-type stocks. Income in the form of dividends and interest payments will again become a important part of the total return equation.

We are looking for two things to happen in 2001 that will signal the bottom of the present market slide. Most important are corporate earnings and the multiples that investors place on these earnings (the P/E ratios). Analysts’ estimates for this year’s corporate earnings have been coming down over the last several weeks and so has the multiple on the Dow Jones Industrial Averages. A year ago, the P/E on the Dow was 24.7 times earnings. At year-end 2000, the ratio stood at 20.5 and now it’s 18.9. We have seen the Dow P/E ratio decrease by over 23% and yet the DJIA is only about 3% below it’s level of a year ago. This tell us that investors are not paying up for shares. To us this is good news! Buying opportunities may not be far ahead.

At present, over half the population of this country owns common stocks or mutual fund shares, either individually or through a retirement plan. Most have become “experts” on the market and are fascinated with the “talking heads” seen on CNBC and other financial programs. Stocks have become a national obsession. When this begins to wane, we will see the markets begin to bottom. This may be starting. Over the last four weeks mutual funds have had net reductions in purchases, so we may be seeing the investing public slowing down their dollar flow into the market. This reduction in share purchases may cause the saving rate to turn positive, an additional sign that the bottom is near.

Gordon B. Lamb

January 16, 2001