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Economic Forecast for 1997: 'Pretty Soft'

NEW YORK -- Wall Streeters think they're on a roll. Their postelection celebration sent stocks up 96 points in a single day. Now they're hailing the "January effect" -- a rally in smaller issues that used to happen in January but, in recent years, has been showing up in November or December.

After that, however, history tells an iffier story about the relationship between presidential elections and stocks.

Take the 12 four-year election cycles that have occurred since 1948. In six of those cycles, stocks have dropped in the year after the election. Stocks also dropped six times in the second year after the election.

By contrast, stocks dropped only once in the year before an election and only twice during an election year. So the two best years of the cycle are behind us, and two potentially riskier years are coming up. Not since Calvin Coolidge has any four-year election cycle bred rising markets all the time.

Will next year be the weaker one? Some economic numbers are looking pretty soft. Over the summer, growth slowed to 2.2 percent, down from the zippy 4.7 percent that was registered last spring.

Some vital demographic data also suggest a cooling trend. The number of young householders is dropping off, and they're the secret spark of economic growth, says Richard Hokenson, chief economist of the investment bank Donaldson, Lufkin & Jenrette in New York.

Hokenson ties the level of consumer spending to the number of 25-year-olds in the United States. At that age, men commonly marry for the first time and move into their first grown-up home. More than any other age group, Hokenson says, young people drive the market for housing, cars and durable consumer goods.

Their numbers are currently in decline and will drop precipitously in 1997. When fewer young shoppers hit the malls, consumer spending flattens or drops, Hokenson says.

A similar worry, from a different perspective, comes from David Levy, director of forecasting for the Jerome Levy Economics Institute in Mt. Kisco, N.Y. Banks are currently granting less consumer credit -- a poor omen for the holiday shopping season. Consumers have beefed up their personal savings rather than spend their wallets dry. The savings rate currently stands at 5.4 percent, a big jump from the second quarter's 4.3 percent.

If these trends continue, corporate profits could dip through the middle of next year, Levy says.

Some analysts think we're looking at a brief and temporary dip, with minimal damage to stocks. If so, you'll cheerfully chug along with your current investment plan. But you need a fallback plan, in case there's a serious market rout.

For the past 15 years, the single best strategy has been to buy and hold brand-name stocks and mutual funds. Prices sometimes dip. Investors who bought during those dips saw their stocks rise to astonishing new heights.

Shelby Davis, who runs the respected Davis New York Venture Fund, argues that enormous profits lie ahead, especially for American firms. "The whole world has opened to business opportunity," he says. "Technology is creating enormous new markets, just as railroads and the telegraph did in the 19th century."

Nevertheless, he advises you not to invest any money you're going to need within five years. New York Venture itself lost money in its first five years, because it bought into the bad bear market of 1969. Stocks are truly for money that you'll leave alone.

Today's faith in buying stocks and holding them hasn't always worked out, says economic consultant Peter Bernstein, author of the recent book, "Against the Gods: The Remarkable Story of Risk." In the 17 years between 1966 and 1982, stocks rose to 1,000 on the Dow roughly seven times and then dropped back, without delivering a net gain.

During that era, buy-and-hold investors lost money after adjusting for inflation, Bernstein says. To make a profit, they tried to time the market by buying into upswings and selling when they thought stocks were going to fall. Not an easy job. Most investors can't get it right often enough to stay ahead.

Bernstein opts for buy and hold, but only if your investments are well enough diversified to cover you in any market. Because none of us can know the future, it's dangerous to make a heavy bet on any single investment type -- even stocks.

To prepare for a possible postelection dip, spread your money over cash, bonds, real-estate investment trusts and U.S. and international stocks, he says. You never know which one will pop.

Jane Bryant Quinn welcomes letters on money issues and problems but cannot offer individual financial advice.