Dow Jones Closes at Record High — So What?

For all the headlines to the Dow Jones Industrial Average's new record, you'd think it was a big deal. But experts say it's time to curb the enthusiasm.

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When the trading day ended on Tuesday, the Dow Jones Industrial Average closed at a record high of 14,253.77. It surpassed the index’s previous closing high of 14,164.53 reached back in the pre-recession days of October 2007. For all the headlines devoted to the event, you’d think this was a really big deal — either a signal that our economy has zoomed past the lingering aftereffects of the Great Recession, or evidence of a bubble about to pop, as CNBC wondered a little while ago.

The reality is probably much less exciting. “Investors should curb their enthusiasm,” says Mitchell O. Goldberg, president of ClientFirst Strategy. Experts say the Dow’s record high means relatively little in the grand scheme of things. Here are a few reasons why:

The Dow Doesn’t Reflect the Entire Economy

“To the average guy in the public, the Dow means the market,” says Wayne S. Kaufman, chief market analyst at John Thomas Financial. “But it’s only 30 stocks.” What’s more, the index is price-weighted, meaning more expensive stocks have an outsized impact on the number.

The 30 stocks that currently constitute the Dow Jones Industrial Average make up a pretty narrow slice of American economic output. Analysts say the S&P 500, a much bigger index, is more reflective of the market as a whole. (It ended Tuesday at a five-year high, but fell short of record-breaking status.)

(MORE: Are We Already Planting the Seeds of the Next Financial Crisis?)

Also, the companies included in the Dow have changed over the years, and inflation is not factored in, so measuring today’s record against its previous high is an apples-to-oranges comparison. “When you see the Dow hitting new highs, it’s not the same Dow we had in ’07,” Goldberg says. He points out that manufacturing stalwart General Motors was booted out, as were Citigroup and Kraft, and he argues the current index skews too tech-heavy to encompass the true scope of the U.S. economy.

The Fed Did This — and It Can Undo It Too

Stocks have been particularly buoyant because they’re floating on an ocean of liquidity, courtesy of the Federal Reserve. The Fed has been buying up trillions of dollars of bonds to stimulate the economy. That has driven down yields and interest rates. “Back in 2007, bond yields were 5% on a 10-year [government] bond,” Kaufman says.  “Today, we’re at 1.9%.” As a result, many investors who are looking for better returns have given up on bonds and piled into the equities market, since many are still soured on real estate as an investment vehicle.

“So long as the Fed is in an accommodative mode and the economy is out of recession, the odds are that you will have a bull market,” David Rosenberg, chief economist at Gluskin Sheff and Associates, told the New York Times Tuesday.

“The Fed seems willing to remain accommodative,” says Matthew Coffina, editor of Morningstar’s StockInvestor subscription newsletter. Plus, he adds, stocks are considered to be a better hedge against inflation when the economy does pick up steam again.

(MORE: Why Many Americans Feel Like They’re Getting Poorer)

In addition to the Fed, central banks around the world have engaged in “globally synchronized asset purchase programs,” Kaufman said, which pumps more money into the system.

Other Numbers Matter More

Morningstar’s number-crunchers take the price of each stock they cover, divide it by what their analysts think it’s worth, rank all of them and take the median. (You can see the current ratio in this chart here.) Lately, it’s been pretty close to zero, which indicates a more or less fair value for the market in aggregate.

“The thing to focus on is price to fair value ratio,” Morningstar’s Coffina says. “Right now, our analysts think the market is right about fairly valued.”

The robust balance sheets of corporations help justify high stock prices. “I think the main positives for the market have been relatively strong corporate earnings,” Coffina explains. “Companies have been able to take advantage of high productivity.”

Even so, high stock prices don’t necessarily signify a strong economy. “I think the market may be feeling more strength than the consumer is feeling,” Coffina says.

(MORE: Warren Buffett on Berkshire’s ‘Subpar’ Year, Big-Game Hunting and Why He Loves Newspapers)

There are several other key data points to consider. “The most important metric people should be looking at is employment, bar none,” Goldberg says. “The second figure everybody has to look at is inflation. The third figure is bank lending.” Following that advice gives you a much more mixed bag concerning the overall health of the economy: Unemployment is stubbornly high, inflation isn’t really an issue, and bank lending looks encouraging.

We’re Not Out of the Woods Yet

Whether or not the market will continue its upward march is anybody’s guess. People get paid huge amounts of money to figure it out, and they still get it wrong more often than not. Analysts like to point out that it’s foolish to try to time the market right, and that there are still plenty of risks that could topple the market’s ascent.

“You have to trust [Federal Reserve chairman Ben] Bernanke and company to thread the needle and pull back on their easing policies without disrupting the domestic economy,” Goldberg says.

As Warren Buffet pointed out on CNBC on Monday, the economy could be rattled when this happens. “There are an awful lot of people who want to get out of a lot of assets if they think the Fed is going to tighten a lot,” he said. Even if the Fed chairman can get everything right, lawmakers could still make a mess of things, between dickering over sequester cuts and the looming budget showdown coming at the end of the month, analysts say.

(MORE: 6 Reasons Why the Stock Market Could Do Surprisingly Well in 2013)

Trouble could come from overseas, too. Goldberg says bold moves by the European Central Bank have mitigated the threat of a cascade of major bank failures, but an anemic Eurozone economy would be bad news for American export-driven companies.

“Although Europe is not nearly as significant a trading partner for the U.S. as it used to be, it still is a massive part of the developed world,” he says. “If consumers and businesses cut back, it hurts.”

16 comments
Calm47
Calm47

Financial bubble swelled even more. It would be naive to hope that it will resolve itself. He can only burst, bringing down the stock markets. ( http://crisismir.com )

btt1943
btt1943

Never mind the Dow is soaring. Somehow, it seems to be getting obsolete and outliving its purpose, not reflecting the actual state of the nation's economy. Time to replace it, the sooner the better.    (btt1943, vzc1943)

reasonableconservative
reasonableconservative

If any conservative president had been in office, this rag, and all the other proggie-leftist-lib rags, would be up in arms about what a horrible thing it is for unemployment to be so high while all of the fat cats on Wall Street are making out like bandits.  But since the proggie-lib B HO is in office, it's "no big deal."  What a bunch of tripe.

juliangavilane1
juliangavilane1


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alext0977
alext0977

At this rate, the media could've written the same headline if the opposite had happened "Dow Jones Closes at Record Low— So What?"


DeweySayenoff
DeweySayenoff like.author.displayName like.author.displayName 2 Like

@alext0977 Not so much.  Record highs indicate a lot of money floating around (virtual money, of course) in the form of investments.  But this money isn't circulating in the economy.  These record high stocks indicate that money is pooling in places which drive up stock prices (remember supply and demand?  The more in demand it is, the higher the price.  It's intended to reduce demand.)  

So there is a lot of money out there being invested.  This doesn't generate jobs.  It doesn't create new jobs.  All it does is sit there in a wealth-induced circle jerk that pays back to the investors a piece of what went into the business in a spiraling pyramid scheme which will, eventually, collapse under its own weight.  In a capitalist economy, if the money isn't circulating, the economy tanks.  The wealthy have more money now than ever before (even with the loss of equity in the housing market, because they were the ones holding the mortgages, not the property, and will mostly get a return on their investments while those who had bought the property get nothing for the money they - wisely or unwisely - spent.)  They don't spend their money in enough places in large enough amounts to stimulate the economy.

So I see record stock prices and a sluggish economy as a very bad thing from a purely economic point of view.  Money isn't circulating.  Demand isn't being generated by bottom-up spending (Please, no acolytes of the thoroughly discredited "supply-side", ":trickle-down" economic model.  If it actually worked, we'd all have jobs by now!) because that liquid capital went up the food chain from the poor to the wealthy and stayed there.  Yes, I'm talking about the need for wealth redistribution, but not from a political point of view.  It's pure and simple, hard economic law.

In 1980, the economy had over 40 trillion MORE dollars circulating (in today's money) than it has TODAY.  (The wealthiest 20% of the country controlled 65% of the wealth in 1980.  Today, it's over 93%, which today amounts to more than 40 trillion dollars in difference.)  The wealthy don't spend the majority of their money, they invest it.  The poorest 80% generally spend most of their money.  They neither save it or invest it on average.  SPENDING MONEY IS WHAT DRIVES A CAPITALIST ECONOMY.  When you take THAT MUCH MONEY out of circulation, the economy falters and will not start again.

Leftist or rightist, it does not matter.  This is how the economy works.  If the money doesn't circulate, the economy doesn't go.  If one is seeking to create a master/serf state, well, let's just say that they're doing a pretty good job of it so far.  A political solution is impossible under the circumstances.  The right is too married to it's sacred, and unworkable, fiscal policies (which have nothing to do with fiscal responsibility - they buy things without paying for them) and would never allow the tax burden to be shifted onto those who can most afford it while cutting them for those which can least afford it  (which is the only civilized way to redistribute the wealth - among the WORKING poor since cutting taxes on the poor doesn't mean hand-outs).  The left wouldn't balance the budget in such a shift, leaving future generations to pay off a crushing debt.  So a civilized, political approach to fixing the economy doesn't seem to be in our future.

By whatever means, reigning the unfettered greed that runs rampant among the wealthy is the only way to alleviate the situation, but I honestly expect class warfare to be how it happens rather than a political solution.  The wealthy have too much money and don't spend it.  The poor have too little money and want to spend it.  Those who spend make the economy work.  Make that situation a little tighter, toss in a little revolutionary rhetoric and will you have the French Revolution all over again.  It's not the ideal solution to the problem, but it would certainly change the rules of the game.  People just need to get desperate enough to decide to do it.  And the longer this situation remains, the more desperate people are getting.

jwarrencollins
jwarrencollins

The market has recovered to its 2007 high. The dynamics of this is simplified and explained by the filtering distillation of partisanship. Like Obama? Don't like Obama? Either way, you can explain the dynamics with a simple stroke of a partisan brush. But the truth is that there's no place to put money for yield (perhaps gold?) except to take the gamble in the markets. Banks and savings institutions pay nearly two percentage points beneath inflation rate, which means your hundred dollars, saved for a year at current rates, is worth about 98.75 less income taxes. You take this loss year after year if you choose thrift over gambli...uh..."investing". This is because Bernanke has taken it on himself to give money to large institutions that are legally required to have reserve funds as they lend money. Normally those funds are covered by depositors, but why would a bank pay you six percent, or two percent, or even one percent, when they can get those funds from Bernanke for nearly nothing (currently around a quarter of one percent). Answer: the banker doesn't want your deposit...unless he can get it on the cheap, then perhaps lend it to (an indebted) government and keep the spread as profit. The system is so contorted that even the best economic minds observe different dynamics. But the bottom line, and this is the reason economics and a monetary system exists in the first place, is that the very very rich have acquired wealth heavily lately, and at the expense of all classes lower than they. Given this, why would the wealthy, who generally steer governmental direction via office holding and lobbying, want to change course? Would you want to change things if the system were weighted heavily in your favor? Of course not. And this is why the world was plunged into the dark ages after the Roman Empire was taken down by the Visigoths...and the world stayed there for nearly four hundred years. Human nature does not change that much in terms of physical need and distribution of wealth. The scary part is that there are so many more humans on earth. Now THAT'S a dynamic that might prove rather interesting when the modern day Visigoths arrive angrily at the gates of civility.

rutnerh
rutnerh

So what? Because what Bernanke does is sheer lunacy that stokes an irrational WS feeding frenzy with his lunatic policies of QE propping up a mega greed driven banking system, all at enormous financial losses to current anf future middle class retirees. WS is totally disconnected and heading in a direction opposite to economic recovery. But the folly will end soon as foreign investors wise up and other nations are implementing similar policies...and the global bubble will burst again.

Ricardo77
Ricardo77 like.author.displayName like.author.displayName 2 Like

part2

Or is it that one party is trying to fool us by pulling the wool over our heads like we immune to the facts. I say again my fellow citizens stop buying the mythical nonsense spewed at you by the party that only fights for the selfish rich and by party I mean the GOP!! Bravo to the media connecting the obvious dots that someone is full of you know what! By the way these records have been happening for the last 3yrs you don't reach these highs overnight so seems the president ideas have worked afterall or are we just going to ignore the facts and keep on letting the GOP lie to our face an infuse on us those unfair ideas of the past!? Not me!

Ricardo77
Ricardo77 like.author.displayName 1 Like

5 Years thats all it took for these companies and the people who invest in the market to recoup all the money they lost during the ressesion! Yes you read it right 5 years and the top 30companies have not hired one person since this all started going to the argument where I've said they holding on to over 6trillion in capital refusing to hire not because, they can't cause they don't want to until they know we regular Americans will pay off the majority of the debt while they keep on cashing in on our backs or sacrafices! We bailed them out, the Feds helped them out, stimulus clearly worked also and what have they done for us huh?? Not a damn thing but complain and feed us this outdated logic when dealing with the debt. I am happy that the media is making the connection between what the republicans share regarding the doomsday economic debt issues and who should be paying off the debt but all the while you see the top who remember caused the ressesion in the first place not poor folks doing better than ever! How is that possible?

BobJan
BobJan

@Ricardo77 "How is that possible"? We've got the best Congress money can buy.

WilliamJay
WilliamJay

Higher and higher until Mr B stops handing out free credit. Hold on is a long way down.

BobJan
BobJan like.author.displayName 1 Like

@WilliamJay Oh stop it. Congress is the big problem. The Congress is the legislative branch. The president is the Executive branch.

jwarrencollins
jwarrencollins

It's such gratifying news that the very well off is doing so much better. Keep pumping, Bernanke. You can retire knowing that you filled the banks with meaningless paper, none of which has found its way to regular citizens, thwarting any efforts of savers to do anything but lose buying power to inflation while savings rates remain beneath inflation rate....less tax of course. The new dark ages....the banking lords and the working serfs.

FredFlintsone
FredFlintsone

This new Dow record is an excellent lesson for anyone who sill confuses the markets with the economy.  Or it must mean economy is better than ever before (sarcasm) .Simon property group or SPG, largest REIT in the country  is trading 40%higher than during the housing bubble. Must be that housing recovery they keep talking about. Home Depot too sits  at a higher multiple than it did back in bubble yrs.Bubbles by their very nature must burst