Many Washingtonians have been sick in recent days with the flu or a virus. And if they don't take care of themselves, chances are they will suffer relapses.
It's the same way with the economy. There was apparant recovery in recent months from the malaise suffered earlier in 1980. But the patient hasn't taken proper care of itself by taking the medicine it needs to fight inflationary expectations, and the economy may well suffer a relapse. The prospects are that the nation is heading into the next phase of what could be called a double-dip recession.
The sudden realization that recession may be returning, and that the future government in Washington is talking tough about beating back inflation, contributed to some chaos in financial markets over the past two weeks. A lot of investors and business have programmed their activities to take advantage of inflation; if there is to be a serious effort to reduce the inflation rate, these individuals and corporations will have to regroup.
The incoming Treasury secretary, Donald T. Regan of Merill Lynch & Co., said last week that since it takes so long to confirm the existence of recession, we should wait for six months to find out if that is what's taking place. But Regan is a no-nonsense manager, and left little doubt that facing up to inflation is a priority for him. That could add to ressionary pressures.
Washington-area business leaders already are nervous, and many are preparing for a substantial slowdown once the holiday shopping season is over. The Reagan administration people will be moving to town and settling in their new houses, but will create only a temporary lift for the area's real estate business, whose current fever reads more than 15 percent on the mortgage rate thermometer.
Sheldon W. Fantle, the president and chief executive at Peoples Drug Stores Inc., has a good opportunity to monitor economic trends because his Alexandria-based retail firm is one of the largest in the nation, with stores in 14 states and the District.
A pharmacist who is credited with a substantial modernization and business turnabout at Peoples, Fantle normally is an optimist. But last week he quantified current business only as "good, not great," and described the economic situation as "somewhat frightening." Peoples Drug sales volume is holding up to the extend that "we are just making our budget [projected sales], which is relatively high, but you can sense a reluctance of the consumers in Christmas buying . . . . They are being very cautious," he said in an interview.
Looking ahead to 1981, Fantle added: "I'm concerned that the first quarter of the calendar year could be less acceptable for retail sales." He expressed strong criticism of the Federal Reserve Board for assuming "sole responsibility to control inflation" by boosting interest rates, "when you consider that automobile sales and housing are practically shut off."
Fantle also emphasized what he thinks he must do as a prudent business person. "I've instituted a criticl program to control expenses, and if every aggressive manufacturer and merchant does this, things will come to an absolute grinding halt. Unless we do something to counteract this, I'm afraid the results will be catastrophic," he said.
His prescription for the Reagan economy is in the form of tax incentives that will allow business to enhance productivity, sales and profits through expansion and innovations. "Tax benefits are the only way to get extra dollars we'd feel free to spend," he asserted.
Even in Washington, which is relatively immune from recessionary business cycles, the outlook is not promising, because people tend to react similarly to broader national trends. "Psychologically, if things are bad, people don't invest in the stock market. They read it is going down, and they get a feeling of insecurity. The new administration must do something dramatic to change the philosophy of the country to an upbeat one, rather than being somewhat depressed," Fantle said.
Peoples, meanwhile, produced well-above-average business gains during the first recessionary dip. Fantle said his firm, which specializes in necessities, tends to do even better when the economy is weak, because its goods are priced at levels below those or typical department stores, for example. Sales and profits both rose 27 percent in the recent fiscal year, an unusually strong performance. Sales jumped to $562 million from $441 million while earnings were $8.2 million ($2.17 a share) for the 12 months ended Sept. 27, compared with $6.5 million ($1.77) a year earlier.
The drug retailer has placed special emphasis in recent years on store remodeling and unusual marketing techniques such as dental and optical centers and promotion of generic (non-brand names) drugs.
The recessionary trends in future weeks will be accompanied by sharp downward price trends both in stocks and gold, according to one former Washington broker who specializes in monitoring charts and indicators for technical as well as economic analysis.
According to Kenneth Hooley, the most important events of last week were not the confirmations of media rumors about Ronald Reagan's Cabinet choices but "confirming" technical indicators in the financial markets. Some investors in gold, many commodities and stocks of corporations that will suffer from another recession, see a deflationary cycle coming that poses a threat. Corporate profitability will be depressed further, dividends will be cut, and the threat of bankruptcy is in the air.
Arnold Moskowitz, first vice president and economist at the investment firm of Dean Witter Reynolds Inc., says that interest rates are poised to fall substantially from the record levels of today. "However, as the recession continues in 1981, bankruptcy fears will rise, and we would urge investments in only high-grade issues or Treasury bonds," he advised in a research bulletin.
Backing up such forecasts, Hooley has computed data on some of the most important market trends. On gold, Hooley noted a "definite sell signal" as the price of London gold per troy ounce plummeted below the $600 level last week. The price of gold should continue falling all the way to about $335 an ounce, if Hooley's analysis is correct, although gold prices rebounded on Friday to $575 an ounce in New York from $544 on Thursday.
Said Leslie Deak, executive vice president of Deak-Perera: "We have an incoming government that looks like it's going to take a crack at inflation. There's nothing out there to support gold right now."
Stock trends are more complex, although Hooley finds gold prices to be an indication of future Wall Street prices. A possible rally on Wall Street apparently was in progress until about noon Thursday, at which time the Dow Jones average of 30 industrial blue chips began to sink again. There was another rally on Friday, as the Dow gained 8.70 points to 917.15 in light trading and closed out the week with a net loss of 39.08 points.
The Johnston, Lemon index of 30 Washington blue chips also continued to fall, ending the week at 136.178 vs . 141.388 seven days earlier. A prime rate of more than 20 percent is possible this week, since business borrowings at banks continue to surge. And the Federal Reserve Board's open market committee meets on Tuesday. According to Commercial Credit Co. analysts in Baltimore, this policy-setting Fed panel "is likely to vote for additional restraint on bank reserve availability, because money stock continues to exceed the fed's 12-month target for 1980."
Most likely, we face a further squeeze on credit coupled with record interest rates. "But if recent sharp drops in commodity prices continue, a dampening of inflationary psychology may shortly dominate financial market thinking," said Commercial Credit on Friday.
According to Hooley, the Dow propably will decline sharply and may not stop until it bottoms out at about 495 to 500. There always are ups and downs along the way, and Hooley was unable last week to indicate how many months of falling stock prices may be anticipated. He did forecast reduced trading volume in contrast to the record trading of recent months.
At this time, any stock market rally would have to push the Dow average above 965 with daily average volume over 51.5 million shares to change the course of future stock activity, Hooley stated. It looks like the Dow's recent high of 1000.17 in November may not be challenged for some time.
One factor in Hooley's analysis is inflation. Some analysts look only at the actual Dow figure and inflation (9.875 percent a year since the end of 1974) and conclude that, if adjusted for inflation, the Dow average would be about 1750. Some analysts argue that this means stocks have been undervalued. aBut Hooley cautions that price/earnings ratios and stock and bond yields, also should be adjusted for inflation. He has worked out exact formulas to do this and concludes that the Dow industrial companies' yield on Nov. 28 was just .3114 percent, instead of the 5.48 percent reported before inflation adjustment. For 20 bonds monitored by Barron's, the inflation-adjusted yield is 7.342 percent vs . 12.92 percent as normally computed.
"Especially note the 4.3 spread between the bond yield and the Dow yield," Hooley asserted. "A rather reliable rule of thumb has been that when the Dow yield is about 3 percent and high quality bond yields stand about 7.5 percent, the stock market has reached a primary top which will soon be followed by a major decline."
Since the 1974 December closing low of 577.60, the Dow average climbed 416 points to the Nov. 20 close of 993.34, absorbing about 98 percent of general price inflation over the period. The broader NYSE index performed even better. Not bad, but as Hooley notes the stock price gains were accomplished on a risk rather than a long-range investment basis. And the price has been high. Bond principal has been almost a total victim of the inflation, while stock and bonds yields have been based on inflated dollars.