The panic on Wall Street

TOM FENNELL October 26 1987

The panic on Wall Street

TOM FENNELL October 26 1987

The panic on Wall Street


Three new books predicting a sudden and devastating collapse on the high-flying New York Stock Exchange have sold briskly over the past two months. Numerous recent magazine articles have forecast a bloodbath on Wall Street even worse than the calamitous crash of 1929. And last week the dire prophesies appeared to some investors to be coming true.

Record declines in stock prices on the New York exchange, accompanied by dramatic drops on exchanges across North America, produced what many analysts called panic in investment circles. In its biggest single-day drop ever, the New York exchange’s trendsetting Dow Jones industrial average plunged 108.36 points on Friday to end the week at 2246.73. For the week, the blue-chip index plummeted 9.49 per cent, the largest decline in the postwar era. By comparison, the Dow fell 12.82 per cent on Oct. 29, 1929, at the start of the Great Depression. Said one Wall Street analyst: “It’s not the end. But it is 1927.”

Bay Street’s barometer, the Toronto Stock Exchange 300 composite index, fell 76.27 points last Friday, its largest daily drop in seven years and its eighth losing day in a row. Said E. F. Hutton & Co. Ltd. market analyst Newton Zinder in New York: “People are dumping stock with reckless abandon. It’s extremely emotional.”

The Dow has been on the march since Aug. 13, 1982, when it posted a modest gain of 11.13 points on the previous day’s volume of 776.92. Although it went largely unnoticed at the time, the modest jump signalled the start of what was to become one of the longest bull markets in the history of the New York exchange, reaching 2722.42 last Aug. 25. And despite warnings by such distinguished economists as John Kenneth Galbraith that the market has gone too high and is simply feeding on its own momentum, other leading analysts believe that, when viewed historically, the market is not overvalued at all. And they add that when the week’s losses are placed against the market’s overall gains, they are not that bad.

Indeed, some economists say they believe that the market is still capable of making up the ground it lost last

week and will surge to even greater heights. And one optimistic brokerage executive pointed to last week’s panic as a sure sign of better things to come. Said Leon Tuey, a vice-president of the Toronto brokerage firm Dominion Securities Inc.: “Major bull-market tops are marked by overconfidence and euphoria. People are frothing at the mouth, not wetting their pants.”

And other analysts dismissed the market plunges as inevitable “corrections” that take place as investors decide that it is time to take some profits out of a booming market. Said Michael Manford, chief economist at Merrill Lynch Canada Inc.: “Corrections can be healthy things.” For his part, E. F. Hutton’s Zinder said that such “climactic” sell-offs are usually followed by a strong rebound in stock prices. Said Zinder: “I think we are getting very close to a vigorous rally.”

But a growing number of investment planners and financial analysts are becoming concerned that the long-anticipated downturn has set in and that individual investors will not be able to avoid big losses if stocks begin a free fall. Said Charles Alimón, a Chevy Chase, Md., money manager: “A lot of people are going to get stomped.” And at the same time, painful layoffs at bond-trading firms in New York, Toronto and London seemed to lend credence to

the so-called doomster theories.

The New York Stock Exchange and U.S. bond markets were pummelled on several fronts. The first blow came two weeks ago when the U.S. Federal Reserve Board announced that it was raising interest rates by half a point to 9.25 per cent —the fifth jump this year—and major U.S. banks quickly followed suit. And the second blow came when the U.S. commerce department announced that the country’s foreign trade deficit for August—$15.68 billion (U.S.)—was remaining

stubbornly high. Analyst Hugh Johnson of First Albany Co. called the trade figures “extremely demoralizing.” Then there was one more spur to the investors’ stampede out of the securities markets: the U.S. yields on long-term government bonds, which compete with stocks for investor favor, rose through the 10-per-cent level for the first time since November, 1985. Said prominent New York financial analyst Perrin Long: “This could be

the beginning of Wall Street’s longawaited retrenchment.”

The debacle on the New York and Toronto exchanges spread to Vancouver and Montreal. The Vancouver Stock Exchange was down 112.73 from last Friday’s close of 1837.59. Meanwhile, stock prices plunged across the board on the Montreal Exchange. Its portfolio index of leading stocks was off 42.35 to 1762.03, a drop of nearly 100 points since last Friday.

On the surface, at least, rising interest rates would appear to benefit the bond industry because it would be offering investors higher rates of return. Indeed, climbing interest rates do boost sales of new bond issues. But existing bonds, which offer lower yields by comparison as the new, higher rates are established, become difficult to sell. And last week, when the rates on new long-term government bonds jumped, that so-called secondary mar-

ket shattered and the layoffs began.

At Salomon Brothers Inc, New York’s premier bond-trading house, chairman John Gutfreund announced on Oct. 12 that the firm was closing down its municipal bond department and laying off more than 800 employees earning an average of $165,000 a year in salary and bonuses. The following day, in the midst of the rapidly deteriorating stock and bond market, Salomon’s archrival, Kidder Peabody Group, followed suit. It announced that it was cutting 100 jobs from its municipal bond department. Said William Ferrell, a Kidder Peabody vice-president: “The industry is experiencing a shake-out, which is likely to continue throughout 1988.”

Rumors quickly circulated that more layoffs would follow at every major bond house. And in Toronto, Chemical Bank of Canada, a subsidiary of the giant Chemical New York Corp., cut 50 people, many of whom were working in its bond and foreign exchange departments. The staff cutbacks also hit hard in London’s financial district, the City, where Salomon said that it would eliminate 150 jobs. Chemical Bank followed with the grim announcement that it would cut its 950-person London workforce by 170, and just last month Shearson Lehman Brothers International Inc. dismissed 150 London staffers, nearly 11 per cent of its local workforce. Said analyst George Brewster of Boston-based Bear Stearns & Co. Inc.: “There have been some pretty dramatic downdrafts recently, and there are more firms out there that are about to face the music.” But most analysts say that there was room to trim staff in the securities industry. The sector had been expanding at a breakneck pace to keep up with the booming equities and bond markets. In

fact, the securities firms accounted for one of every four new private-sector jobs created in New York in the past decade. Salomon, for one, employs more than 6,500 people on its payroll worldwide, up 4,300 from just two years ago.

Still, competition from new issues is not the only reason for the lagging performance in bond markets, the heart of the trading business. Some analysts date the current decline to U.S. tax reforms that came into effect this year, limiting investors’ tax advantages from some municipal bonds. And other analysts said that the sector is trimming staff to position itself to do battle with major U.S. commercial banks, which may soon be allowed to compete directly in the investment sector.

But while most corporations can retrench in a declining market by falling back on their assets, individual investors have a more difficult time protecting their investments. Said money manager Alimón: “There is going to be a lot of weeping and gnashing of teeth.” Indeed, many investors who try to sell out when stocks are falling rapidly will find it difficult to find a buyer until a bottom firms under their plummeting share values. And last week some mutual funds managers were simply refusing to take sell orders over the telephone. But in a crashing market, those that do take telephone orders will have their lines jammed.

While the mood in the U.S. and Canadian investment industry is definitely apprehensive, few analysts subscribe to the popular disaster scenarios that predict a collapse of the stock and bond markets and a subsequent recession—or even a full-blown depression. In fact, many economists were still predicting last week that North America could rebound and surge ahead through 1988, and officials with both the White House and the U.S. Federal Reserve Board announced that interest rates were running ahead of the U.S. inflation rate and would likely fall back again.

Still, both the Dow Jones industrial average and the TSE 300 recorded significant drops. By week’s end, the Dow, the most frequently cited barometer of the New York Stock Exchange, had fallen more than 475 points—or 17.5 per cent—since hitting its record high of 2722.42 on Aug. 25. Losing stocks outnumbered winners by 10 to 1 in New York on Friday. The TSE index had fallen 514 points—12.5 per cent—since reaching its closing high of 4112.86 on Aug. 13. And no matter what the optimists say, the authors of the new “doomster” sagas—Blood in the Streets, The Panic of ’89 and The Great Depression of 1990—will likely find their books being read with renewed interest.