For Lehman Brothers Inc's chief investment strategist, Jeffrey Applegate, the Federal Reserve's interest-rate cut last week in the US was the signal to plow money back into computer-related shares, among the bear market's biggest losers.
The Fed's 12th reduction in the past 20 months sliced the overnight lending rate to 1.25 percent. That's below the 2 percent third-quarter annual inflation rate used by Lehman economists, meaning rising prices erode the value of cash holdings faster than interest accumulates.
"The magic of negative real rates is they cause economic actors to put cash to work, whether investors buying stocks and bonds or companies investing in their business," Applegate said. "You lose money in real terms for holding cash."
His call to boost holdings of technology stocks to 16 percent of a model portfolio from 6 percent contrasts with recent comments by Merrill Lynch & Co's Richard Bernstein to avoid computer-related shares.
Forecasts by companies such as Cisco Systems Inc, the biggest maker of telecommunications-networking equipment, and KLA-Tencor Corp, the world's largest maker of semiconductor- inspection equipment, that sales may fall this quarter didn't faze Applegate. He recommended buying both.
"The new level of real short-term interest rates," Applegate wrote in a note to clients, "is one associated with sustainable stock market rallies and profits recoveries" every time going back to 1969.
The last time real interest rates were negative for any length of time was the last three quarters of 1992. In 1993, the S&P 500 climbed 7 percent.
The cost of borrowing is now far enough below the rate of inflation to prompt companies to increase capital spending and investors to put more cash into stocks, Applegate said.
When the spread between capital goods and labor costs has been greater than minus 5 percent -- it is minus 5.3 percent now -- information-technology spending historically has grown over 20 percent, according to government data from the past two decades, Applegate said.
Investors have lost plenty holding technology stocks the past 2 1/2 years.
While the Standard & Poor's 500 Index has lost 23 percent so far in 2002, the benchmark's Information Technology group lost 37 percent, second only to utilities. The technology stock index has lost three quarters of its value from the March 2000 peak, the most among the 10 groups the constitute the index.
In April 2000, Applegate's model portfolio was 80 percent in stocks -- half of those in computer-related and telecommunications shares. In April 2002, he said technology shares were as much as 35 percent overpriced, advising investors to keep 8 percent of their stock holdings in that industry.
Now, he said, the turnaround in technology may be at hand.
The latest GDP report showed technology spending is growing at an 8 percent rate over last year. In the third quarter, the S&P 500 Information Technology group exceeded Wall Street analysts' consensus IPS expectations by 18 percent, the best of the 10 groups.
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