U.S. Stocks Sink As Financial Fear Spreads

U.S. stocks plummeted in morning trading today as investors began to fear that a bailout of the financial sector would not be enough to prevent a global recession and Europe continued to grapple with a stabilization of its banking sector.

"People realize that the [bailout] is not going to prevent a more serious economic downturn in the U.S, including a couple of quarters of negative economic growth," said Marc Chandler, head of currency trading at Brown Brothers Harriman and Co. "The banking crisis spreading to Europe is another negative. It means the crisis is getting bigger."

Brian Rauscher, director of Portfolios Strategy at Brown Brothers Harriman and Co., was online Monday, Oct. 6, at 2:30 p.m. ET to discuss the economic downturn, the effectiveness of the federal rescue plan and the possibility of a global recession.

A transcript follows.

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Brian Rauscher: Hello

My name is Brian Rauscher, and I am the Director of Portfolio Strategy at Brown Brothers Harriman.

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Morrisville, N.C.: The day of the last big drop, news reports focused on the stock market percentages, and Mr. Bush noted that more than $700 billion of wealth was lost there. But the two bond funds I own my 401K dropped a larger percentage (9 and 11 percent) the same day without journalistic or presidential notice.

In the current environment, are stocks a safer investment than bonds?

Another question. Where I have investment options (not in my 401K) because of my bad temper, I am favoring CDs over treasuries (creating a government obligation without a government benefit). Are there others like me? Is a CD bubble in the process of creation?

Brian Rauscher: When looking at stocks versus bonds, it would be our view that equities do provided the better relative investment at this point.

However, that does not mean that they both can not do poorly.

I have been quite cautious on the US equity markets for some time, and my research suggests that being careful should be at the top of investors priority list.

I think that having some investments in both CDs and short-term treasuries do make sense in this environment.

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Silver Spring, Md.: Brian: let's get to the questions on everyone's minds -- do I pull my retirement investments out of stocks until there are signs that the market has finished dropping, and where do I park my money in the meantime? FYI, I'm a federal employee with 20+ years til retirement. Thanks.

Brian Rauscher: As of today, this is a tough question because the market is down quite a bit.

I will tell you actually what I told my parents (75 years-old) to do.

I am still worried about further downside risk from here, possibly to the 960 level (S&P 500 basis). So, that is about 5% downside from here.

I also think that there will be a good bounce (10-20%) once a bottom is in place.

Therefore, I am cautious here. I am not a believer in getting too cute (I have been in a defensive position for well over a year now) and trying to market time a bottom.

I would actually be looking for evidence that a bottom is near and look for what to buy.

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Alexandria, Va.: Brian, how close are we to another Depression? Everyone keeps saying that we're in a recession. When does the R turn into a D? My dad lived through the Depression and I know that I do not want to experience one myself, but it's looking grim. Thoughts?

Brian Rauscher: Just for the record, it is not official yet that we are in recession now (but that is probably just a matter of time until the officials that define a recession do so).

Depression? I think that it would be premature to bring up the D-word yet.

I will say that I have been quite concerned about what is going on with the economy and markets. We will have to keep our eyes open for further signs of weakness.

Until then, watch your spending, be careful with your investments. Remember: when this is over, it will be a great buying opportunity for those that have liquidity to put to use.

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Austin, Tex.: Should I be panicking after what happened today? It just seems like when things can't get any worse, they do.

Brian Rauscher: No, I do not think you should be panicking.

Worried? Concerned? Yes, those are warranted.

First of all, let's put some things into perspective. Markets do go down. Economies do go through periods of slow/negative growth. It is not the end of the world.

This is not meant to say that this is not very serious. I think investors should be very careful now with spending, and their investments.

Try to look on the brighter side. When markets do finally bottom (today or some time in the future), there will be some great companies whose stock prices will be depressed. I am a believer that more money is made at bottoms than at any other time. Just look at Mr. Warren Buffett. Do your homework and look who will be the next winners.

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Washington, D.C.: Brian, what are the short- and long-term ramifications of this kind of Wall Street free fall (-740 pts at this writing)? Is this turbulence, the sharp ups and downs, symptomatic of worse to come? Thanks for taking questions!

Brian Rauscher: This turbulence is quite remarkable.

A measure that we look at, the VIX (expected volatilty priced into the options market), is at nearly 60. Let me put that into perspective: that is the highest reading since before the TMT bubble burst (still searching for the last time it got this high). Thus, this is pretty unprecedented stuff.

Usually this type of volatility is more symptomatic of end moves not beginning moves. However, it is hard to pin point things here.

I do not want to be seen as Chicken Little, but I would not be surprised if we have not seen the largest down and up moves yet.

So, hold on and look for an opportunity.

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Washington, D.C.: Should the little investor do anything other than just wait around for stocks to fall more, and then wait around for stocks to recover in a couple of years? All the gurus say sit tight... but is this advice still valid?

Brian Rauscher: Although I do not think we have seen the lows yet it is hard to say that investors should be doing big selling here.

I think most should be thinking of ways to play the bounce, but I would be cautious going in.

We have been recommending the Consumer Staples Sector as one of our favorite areas.

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Blacksburg, Va.: Do you think that the market performance today would have been even worse if the American bailout had not been passed this weekend? If not, how long will it take for the bailout to have an effect on the markets?

Brian Rauscher: Yes, I think markets would have been worse without passage of TARP.

How long? That is a very good question.

The next step will be for Treasury Secretary Paulson to announce how and when the first step will be taken.

All eyes will be on how well the first step goes.

The combination of a good first step and the increasing possibility of the Fed cutting interest rates could provide some stability. Let's hope for the best.

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Vienna, Va.: In your opinion is the decline in stocks today due to the expectation of a world wide recession? Demand for goods and services is expected to decline, and we see signs of it in things like commodity prices. How will the financial rescue package impact this, if at all?

Brian Rauscher: I think that is a contributing factor.

Over the past couple of weeks, most people have had to lower their expectations for both U.S. and global economic growth. This is certainly adding to today's market action. As well as the realization, that there are also real problems with Financials in Europe.

Bailout impact? In the short-term, do not expect a lot. The goal is to try and restore some confidence and get banks to lend to each other once again. This is not happening as of yet.

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U.S. vs. international?: Much of the news surrounding today's stock market plunge has focused on the fact that the U.S. started implementing the bailout package today. Yet it seems that the big financial news was the weekend summit by EU leaders in which it was decided there would be no EU-sponsored bailout of European financial markets, and that each country would handle its own companies. It also seems the initial sharp drop in prices reflects international markets, which started trading much earlier than Wall Street today.

Do you believe that today's drop reflects concerns over the bailout, or is it a response to international financial instability?

Brian Rauscher: I think both have contributed as well as growing concerns about economic slowdown both here in the US and abroad.

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Annapolis, Md.: I'm not sure you answered Silver Spring's question. Could you restate in understandable terms for dummies like me?

Brian Rauscher: Sorry about that, and I am sure that you are quite bright.

Please post the question again and I will take another shot.

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Wayne, Pa.: What to do? If one is 59 years-old with a solid (hopefully) teacher's pension and money in a 403(b) highly diversified, would you keep putting $15,000 per year into the diversified mutual funds or go into bonds at this point when retirement is two years out? Thanks.

Brian Rauscher: I have been contributing and putting my money into money market mutual funds.

I am looking for an opportunity to put the money to work, which is getting closer. The downside equity move is creating longer-term opportunities.

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St. Mary's City, Md.: Have the relevant committees in Congress ever called you or your colleagues to testify as to what would make the markets respond favorably? Seems like the politicians are trying to guess how investors would react instead of trying to find out for themselves.

Brian Rauscher: No, I have not been asked to testify. And I am unaware of anyone who has.

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Roseland, N.J.: "Looking for a bottom" -- but where? I've never seen such boundless pessimism. Bad news keeps piling up. How can we possibly tell when we've bottomed?

Brian Rauscher: We use certain technical analysis measures. This research states that there could be more downside risk as I stated earlier (possibly down to 960 on the S&P 500).

Also, we use fundamental analysis. Here we would be looking at valuation levels of quality companies. This is getting interesting as some areas of the market seem to be reasonably to attractively valued.

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California: Hello, Brian. I've recently retired. I am 62. Bad timing, I know, but it's done. My retirement savings have taken a huge hit, 30% and going down. Most of my assets are in mutual funds, index shares, etc. with some cash. I believe I have enough cash to sustain myself for the next 8 or 9 years. This seems to be such a bad time to cash out all the mutual funds/index shares I own. What do you recommend? Thank you.

Brian Rauscher: If you can withstand 5-9% more downside (and you say you can), it is hard to do big selling here.

Be careful. Once a bottom is in, it may make sense to actually raise your equity allocation slowly as some bargains should be available.

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Washington, D.C.: It seems that today's sell off is more irrational than those of the past few Mondays. Yes, Europe saw evidence of the contagion spreading, but there are positives that are completely lost in the media coverage. Oil is way down, easing inflation and household pressures. The dollar is up vs. the Euro and the Pound. While the TED spread is near 4, it seems to be stabilizing. And most importantly -- no new U.S. bank failures today. Thus the market drop seems almost purely psychology based -- meaning a big rally could be in store once fear subsides. Thoughts?

Brian Rauscher: Certainly getting closer.

At this point, as I have stated earlier, I think investors should be looking for ways to play a potential bounce.

I would not go crazy here and make big bets yet.

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University Park, Md.: How much of this market drop might be related to hedge fund withdrawals? How much time do such funds have to sell when they get end-of-quarter withdrawal requests?

Brian Rauscher: Annecdotally, there is some data that points to hedge funds redemptions that may be contributing to market weakness. How much? That I do not have hard data for. Each fund is different so it would be hard to provide an overall answer to this part of your question.

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Rockville, Md.: Brian, why are people so afraid of going short in this market?! That would seem like the logical thing to do to me.

Brian Rauscher: I do not know. Are people afraid to go short? For a good part of this year, I have been using some of the new ETFs that allow investors to replicate a short position (SKF,SDS,EEV,FXP).

Be careful now though, with the market down so much, there can be short snap back rallies.

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Claverack, N.Y.: In your opinion, will the market have any reaction at all to the results of the presidential election?

Brian Rauscher: At some point, but I do not think they are looking at it right now.

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Vienna, Va.: My time horizon is apparently much longer than the corporate CEO's and board chairpersons. I'm looking at 15 years down the road. All through this "mess" I've been putting a few hundred monthly in Growth Mutual Funds. I figure that I buy more shares when it's lower. Question is, are the Growth funds the right segment at this time to be in?

Brian Rauscher: If your time horizon is long, yes that makes good sense. Five years from now you will likely be okay.

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Brian Rauscher: Sorry I did not get to everyone's questions, but I enjoyed spending time with you all. I hope you got some value out of it, and I hope to be here again. Best of luck with your investments.

Regards,

Brian Rauscher

Director of Portfolio Strategy

Brown Brothers Harriman

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