Few American economists and investment strategists are ready to use the dreaded R word to describe the impact of last week's terrorist attacks on the nation's economy, although Europeans are considerably more pessimistic.
History suggests the U.S. stock markets typically react with knee-jerk selloffs in national crises, but rebound quickly.
And the disruption in trading - the longest since 1914, when World War I caused a 41/2-month shutdown - the dislocation of the nerve center of the U.S. financial markets, and telecommunications interruptions are expected to persist for several weeks, making it difficult for institutions to execute their investment strategies in the short term.
Trading costs could triple in the aftermath of the attacks, so that institutional investors could end up paying as much as 15 cents per share, including commissions and market-impact costs, said Peter Algert, head of U.S. growth equities at Barclays Global Investors in San Francisco.
But several investment strategists predict quick action from the Federal Reserve Board, which they believe will cut short-term interest rates, thus successfully bolstering flagging consumer confidence and helping ensure the nation pulls out of the slump by mid-2002.
"We are not going into a recession this time and oil prices are not going to hit $40 a barrel," predicted Donald G.M. Coxe, chairman and chief strategist at Harris Investment Management Inc. in Chicago. Rather, Mr. Coxe believes the attacks will "galvanize the central banks to re-liquefy the global economies."
Mr. Coxe, whose model portfolio is 51% in equities, is prepared to go to 60% in stocks as soon as he sees the Fed begin cutting interest rates. Among the sectors that should benefit in the current environment are energy, financials, retailers, base metals and defense companies, he said. Telecommunications companies that offer teleconferencing and videoconferencing facilities also will be the big winners as a result of the skittishness over long distance travel, said Jeremy J. Siegel, a professor of finance at the Wharton School of the University of Pennsylvania.
Stuart Schweitzer, global investment strategist at J.P. Morgan Fleming Asset Management in New York, expects the Fed will step in more than once to prop up the economy. The central bank's actions, combined with increased federal government spending in emergency relief - lawmakers in the Senate approved a $40 billion package on Friday and the House was expected to follow suit - could ensure a V-shaped economic recovery early next year, he said.
"There's no question the investment outlook has become even more difficult ... (but) it is important to guard against risk-aversion or pessimism," Mr. Schweitzer said.
Hugh Johnson, chairman and president of First Albany Asset Management, Albany, N.Y., and an incurable optimist, also discards the notion that the current crisis will send the economy into a long-term downward spiral.
Still, Mr. Johnson, who said the market dictates the moves he will make, already is defensive, with a model portfolio invested 50% in stocks such as consumer staples, beverages, foods, tobacco, food retailers and household products as well as health care, pharmaceuticals, utilities and financials.
Mr. Johnson sees little impact from the terrorist attacks on defense company stocks, because the nation is likely to beef up investment in manpower rather than new hardware, but he predicts defense stocks will go up because "there will be plenty of people who will assume this means war."
Oil, defense industry benefits
Edgar E. Peters, chief investment strategist and chief investment officer at PanAgora Asset Management Inc., Boston, is one of those people. He believes the defense industry will benefit from an increase in military spending, including technology. Like some other investment experts, Mr. Peters also believes the energy sector will benefit from concerns over oil imports being disrupted.
And instead of anticipating that consumers will put away their wallets, Mr. Peters believes the market will rebound quickly. "On top of that, the stock market is fundamentally down-valued, so there is not much more downside," he said, noting the firm's tactical asset allocation model already is 80% in stocks.
Sectors that are expected to be hit hard by the terrorist attacks are insurance companies, airlines, the tourism and entertainment industries, and some telecommunications companies such as Verizon Communications Inc., based in New York, and whose operations were badly affected by the collapse of the World Trade Center complex. Mr. Algert, who manages a $20 million U.S. growth stock portfolio for BGI, said he might unload some of his Verizon holdings.
Raymond T. Dalio, president and chief investment officer at Bridgewater Associates, a Westport, Conn.-based global bond manager, anticipates the effect of the terrorist attacks will be a "very modest" negative for the economy, little more than a blip.
Those who fear
Still, some investment experts fear the worst, and anticipate the economy, already teetering on the edge of a recession, will finally tip over.
"This is going to have a very negative effect, and perhaps more negative than people realize at the present time," Mr. Siegel said. Consumer anxiety about the current crisis could prompt consumers to curb travel and entertainment and postpone the purchase of big-ticket items, all of which will have an immediate impact on the already sluggish economy, he said.
If the terrorism attacks continue, he said, "it will have a totally devastating effect on the economy."
A. Gary Shilling, president of an eponymous Springfield, N.J., economic consulting firm, concurred.
With various sectors of the economy already experiencing a slowdown and consumers jittery, a crisis of this magnitude is "more than enough to push consumers into a full-blown retreat and give us a recession that will run through roughly the middle of next year," he said.
Mr. Shilling was defensive even before last week's events, with a hypothetical investment portfolio holding 60% in long bonds, primarily Treasury bonds; 20% in stocks such as utilities, and a few food companies; and 20% in cash.
Mr. Shilling advocates steering clear of new technology firms, as well as Tiffany & Co., Starwood Hotels & Resorts Worldwide Inc. and Marriott International Inc., because he believes people will cut back on travel and luxury items. His hedge funds already have been betting against some old-line firms hit by the nation's slowdown, including Alcoa Inc., Boise Cascade Corp., E.I. du Pont de Nemours & Co., Ford Motor Co., DaimlerChrysler AG, 3M Co., International Paper Co. and credit card providers such as Capital One Financial Corp. and Providian Financial Corp.
At the same time, Richard Seamans, managing director of Seamans Capital Management in Concord, Mass., a global bond investment research and advisory firm, also sees the fallout as "contractionary for both world trade as well as the domestic economy."
Although Treasury bonds, and bonds issued by quasi-governmental agencies such as Fannie Mae and Freddie Mac, are the logical safe haven for investors fleeing to quality, increased government spending - meaning more issuance - could cause yields to go up and prices of the securities to drop, Mr. Seamans said. U.S. investors might do better to invest in global bonds for at least the next three years because of the downward pressure on the dollar as a result of foreign investors becoming more skittish about investing in the U.S.
Mr. Seamans also expects North American energy producers and gold-producing companies will benefit from the fallout.
Pessimism in Europe
Likewise, European-based economists and investment strategists are quite pessimistic, and predict the attacks likely will tip the U.S economy into a full-blown recession.
But all forecast an improvement in U.S. economic growth by the middle of next year and a sustained recovery well into 2003. Few expect recent events to derail the economy over the long term.
Kevin Grice, senior economist for American Express Bank, London, does not plan to revise his six- to 12-month asset allocation for the United States. That mix overweights U.S. equities and cash by two percentage points, compared with the firm's internal benchmark for global portfolios with moderate risk profiles, and underweights bonds by two percentage points.
But he has switched his short-term view of the market to take a more defensive position that is neutral on equities, slightly underweight on bonds and slightly overweight on cash.
Domestic and international investors are likely to return swiftly to the U.S market at the first signs of an economic recovery, he said. But he is concerned that any sudden recovery in U.S. stocks in the short term might not be sustainable, as U.S. equities still seemed overvalued prior to the terrorist attacks.
Dick Howard, director of strategy for Julius Baer Investment Ltd., London, does not expect to see a full-blown U.S. recession and expects a relatively swift recovery in 2002. His firm favors German government bonds over U.S. Treasuries over the next three to six months, he said.
Han de Jong, head of investment strategy for ABN AMRO Asset Management, Amsterdam, is confident the terrorist attack will not upset the long-term economic fundamentals in the United States. But consumer confidence, which has been supporting the U.S. economy in the past months, is likely to be hit hard.
"That will increase economic problems but it will not fundamentally change the course of the economy," he said.
He is relatively cautious on the prospects for equities globally, but expects the medium-term prospects of falling inflation and low growth to be beneficial for bond investors. He warned bond yields might fall in the short term if investors see them as a safe-haven investment.
Sectors such as tourism and aviation are likely to be hit hard by negative investor sentiment worldwide, said James Williams, chairman of the Strategic Policy Group at Baring Asset Management. But investors likely will favor defense, security and resource-related stocks, he added.
Europe and the Far East would not be immune from a further deterioration in the U.S. economy, said AmEx's Mr. Grice. He expects the economic downturn in Europe to be amplified, with a recovery similarly delayed until the end of the first half of 2002.
Recessions in Japan and emerging markets likely will continue until at least the end of next year. "The implications for Japan over the near term could be quite severe," said Mr. Grice. Prior to Sept. 11, the only "silver lining" for the Japanese economy had been the prospect of a recovery in the United States.
Emerging-markets countries might trail the United States in terms of recovering from recession, said ABN AMRO's Mr. De Jong. "But if you believe there will be a recovery, you should be long in emerging markets. They tend to respond positively to the smallest indication of a recovery."
With the U.S markets closed in the immediate aftermath of the terrorist attacks, European- based economic commentators were having difficulty taking the pulse of U.S. investor sentiment.
But Mr. Grice warned of a number of wild cards that could upset current forecasts.
Retaliatory action by the United States could trigger political upheaval in the Middle East, which could push oil prices higher and further entrench the downturn in the U.S economy, he said.
And it is unclear whether widely anticipated cuts in U.S. interest rates will limit the expected slump in consumer confidence.