The Stock Market: Zap!

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The staggering amount of lost wealth over the past year is perhaps the most oppressive development. Half of all households own stocks, up from 4% in the early 1950s. Stocks account for about 20% of total household assets, and because stocks fell last year, the net worth of the average American declined for the first time since 1945, according to the Federal Reserve. In the past six months, the market value of household stocks and stock funds fell more than $2 trillion--roughly the same amount of money households earned through wages.

For sure, much of the lost money was the easily coined spoils of a long bull market. In that sense, all a lot of people really lost was the casino's money. Still, it's causing consumers to pull back somewhat. Retail sales went negative in February, a third drop in five months. Consumer confidence is at more than a four-year low. Any further market losses could multiply the gloom exponentially because, with the NASDAQ at a 2 1/2-year low, the casino's money is about gone. The next dollar lost for many will be money earned at work, not in the market.

"There are all kinds of unforeseeable and unintended consequences of what's going on," says Barton Biggs, chief global strategist at Morgan Stanley Dean Witter. He's especially dour on the economy, saying corporate earnings will fall 20% this year and that before it's all over we will have a full-fledged recession with bouts of Japanese-style deflation. He's less worried about the stock market, though, believing a rally is imminent. (For more on his bearish view, see Personal Time: Your Money.)

There's also some doubt that Federal Reserve Chairman Alan Greenspan can ride to the rescue with another rate cut. "He's a gradualist. Each little step is expected, and there's never any surprise, so cumulatively there's no impact on the psychology," argues Michael Murphy, editor of the California Technology Stock Letter. Last week the market was begging for an interest-rate cut beyond the half percentage point already factored in. The Fed cut rates twice in January a total of 1 percentage point.

Yet the corporate spending slowdown continues unabated. Merrill Lynch projects that business spending on equipment and software will rise only 4.5% this year--the weakest showing since the last recession, in 1991. On Friday the government reported that industrial production dropped for the fifth month in a row. "People are counting too much on the Fed," says Ken Shea, head of stock research at S&P. "The cost of capital is not the issue. The corporate executives do not want to spend right now." After huge technology investments in the past 10 years, many companies have all the firepower they will need for a while, he says.

If all this gloom has you ready to cash in your stocks and put the money in a mattress, stop right there. The critical link between the stock market and the economy is this: the stock market always looks ahead. The barrage of poor earnings, layoffs and dismal headlines that has driven stocks to this low point is over. That's not to say there won't be more negative news; there almost certainly will be. But at some point the stock market will have anticipated the worst and begin to move higher, even in the face of recession-like conditions.