Sendhil Mullainathan, an economics professor at the Massachusetts Institute of Technology, has spent the last two weeks plugging worst-case possibilities into his economic and market forecasts.
Even if there are no further terrorist incidents, he is concerned that just a minor change in the outlook of consumers and investors could wreak havoc with the economy and drive down the price of stocks.
"Two hundred fifty million people are going through the same grieving process," he said. "How long does it take the human mind to get back to normal?"
Economists, market strategists and money managers are struggling to revise their forecasts of stock market returns in the wake of the Sept. 11 attacks. Most are trying to analyze not only the likelihood of protracted disruptions of financial markets, but also the chance that the trauma has caused huge changes in investor attitudes. As a result, current forecasts are even fuzzier than usual, ranging from a quick return to robust economic and stock market growth to a fundamental scaling back of long-term expectations. At the same time, market analysts are aiming to identify sectors that are likely to prosper despite the turmoil.
Edward Yardeni, the chief investment strategist at Deutsche Banc Alex. Brown, said that he normally expects the stock market to anticipate economic shifts, but that may not be the case this time. Investors have probably not grasped how badly the attacks will hurt corporate profits, he said. Once companies report earnings for the third quarter, he said, investors may grow more skittish.
The coming earnings decline
Although he expects the Standard & Poor's 500-stock index to end the year at roughly its current level, he said that there was a chance it could fall an additional 15 percent this year if investors were frightened by the coming earnings decline.
He has lowered his 2001 forecast for operating earnings for the S&P 500 to US$40 a share from US$45 before the attack. But he left his 2002 estimate unchanged, at US$55. In his view, the market is likely to bottom around March 2002 and then rebound significantly. He expects a 20 percent gain for the S&P 500 next year.
Yardeni is telling clients to put relatively little money into technology shares, believing that businesses will restrict capital spending for technology improvements.
"We're reassessing our outlook, asking ourselves `What do we know for sure?'" he said. "We know, for example, that aging baby boomers will drive long-term demand for health care services and equipment." So he is emphasizing health care stocks.
Hugh Johnson, the chief investment officer at the First Albany Corp, expects subpar stock returns through 2005. He said he believes that stocks will return an average of 8 percent a year in the period, more than two percentage points above his forecast for 10-year Treasuries. By contrast, Johnson said, stocks outperformed bonds by an average of 17 percentage points a year from 1995 through 1999.
His outlook reflects his expectation of "uninspiring growth for the economy" in the next several years, he said, adding that all forecasts warrant some skepticism because of the current uncertainties.
Jeremy Siegel of the Wharton School at the University of Penn-sylvania, who described the superior long-term performance of stocks in Stocks for the Long Run, says he does not expect stocks to outpace bonds by much in the future. Stocks will return 5 to 7 percentage points a year above inflation over the next 20 to 30 years, versus a spread of 2 to 3 percentage points for 10-year Treasuries, he said.
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