On the
Rebound

A brighter outlook
and an economic
expansion seems
likely in 2002

By Heidi Russell Rafferty

Andrew Culpepper says he knew that consumer confidence was shaky when he talked to a Sears franchisee on Nov. 12, the day of the American Airlines crash in Queens, N.Y. As soon as the news came out, a customer drove to the store to cancel an order for a washer and dryer.

“I think it’s very dangerous,” Culpepper says of consumer confidence, which recently was at its lowest point in seven and a half years. “It becomes a self-fulfilling prophecy. ‘Things are bad, and they’re going to get worse, so I’m not going to buy.’ And it does get worse.”

Culpepper, of Culpepper Investment Group in Kinston, and other financial advisers agree that the economic forecast for the year ahead largely hinges on whether consumers and businesses will overcome uncertainty in a tenuous time of war and terrorism. Even so, forecasters remain optimistic that, regardless of the gloomy aftermath of Sept. 11, chances are good for an economic turnaround by the second or third quarter this year, barring more tragedies. And if the U.S. military makes major strides overseas, investors can expect even more positive returns, they say.

“The worst is over unless we have some other additional terrorist attack, and I think that especially the large cap stocks . . . will have a good run up going through January and February,” Culpepper says. “A lot of (stocks) are still undervalued, and you see people still looking to quality.”


End of a Dismal Year

As 2001 drew to a close, the country was reacting to news from the National Bureau of Economic Research that the United States had been in a recession since March. The Federal Reserve, which knew the economy was headed for hard times as early as January 2001, cut short-term interest rates 11 times in 2001 to cushion the downturn and jumpstart the economy, shoving rates to their lowest levels since September 1961.

By the end of the year the national unemployment rate was at 5.4 percent and was expected to continue rising. In North Carolina, which lost more manufacturing jobs than all but one other state in 2001, major companies faltered, including some of the state’s most famous brand names. In mid-November, Burlington Industries Inc., based in Greensboro, filed for Chapter 11 bankruptcy, one day after another Greensboro apparel maker, VF Corp., said it was slashing 13,000 jobs. In the third quarter alone, there were 45 mass layoffs in the state involving 9,268 jobs, according to the Employment Security Commission.

Over the past six years, North Carolina has lost more than 100,000 manufacturing jobs, with factory employment now standing at around 726,400. The majority of those job losses has been in the textile industry, where employment has fallen by about 67,000 over this time period. Total employment in the state, however, continued to rise, with most of the new jobs being reported in the services and retail trade sectors. Industrial employment projections suggest that this trend will continue for the near future.

The state saw a 5.5 percent unemployment rate in October, up from 3.8 percent in October 2000. This past October alone, North Carolina paid out $95.2 million in unemployment insurance benefits, the highest amount ever paid out in one month, up from the previous high of $88 million in July.

Those factors lead Allen Smith, group vice president of financial services for First Citizens Bank, to believe that things “will feel a little worse before they begin to feel better.”

“We feel like the unemployment rate could go a little bit higher before it begins to level off,” Smith says.

Layoffs usually are postponed until after the holidays, says Campbell R. Harvey, professor of finance at Fuqua School of Business at Duke University. But in 2001, people were “moving quickly to do what they had to do rather than drawing it out,” he says.

But Campbell says he thinks the layoffs at the end of 2001 represented the worst part of the recession. “For 2002, a lot is contingent on the progress of the war, but my personal forecast is that by the end of the second quarter, we’ll be getting a lot stronger. That’s where my expectations are,” Harvey says.

Consumer spending usually accounts for two-thirds of all economic activity, Harvey notes. And although consumer confidence plummeted in the fall, as “the fortunes of war go up or down, you see movement.”

Carl Davis, chief investment officer of First Citizens Bank, says consumers need to get over an anti-spending mindset. They still have the ability to spend “but the confidence is lagging, and that has created an unwillingness to spend money.”

“They see their 401(k) plans drop. They are uncertain. They are hearing indications of more and more layoffs, and for the first time in my lifetime, they feel vulnerable,” Davis says.

Smith says it’s also important to recognize that trends in consumer confidence were already declining prior to Sept. 11. “Of course, (the attacks) magnify everything and did great damage, but people lose sight that we were already in a declining market,” Smith says.


Time for Steady Nerves

The unpredictability of war and world events should not scare consumers from buying or stockholders from investing, financial advisers say. Instead, they should try to determine likely scenarios and understand how those might affect them.

Thomas A. Vann, president and CEO of First South Bank in Washington, says investors should always consider their long-term goals, even in the face of economic uncertainty. In the short-term, they should recognize that fear and greed drive the markets, he says.

“A plane crashed. Everyone asked, ‘Was it terrorism?’” Vann says, citing the tragedy of Flight 587, which was en route from New York’s Kennedy Airport to Santo Domingo when it crashed due to mechanical failure. “The market sells off, and come to find out, it wasn’t terrorism that made the plane crash. So greed kicks in, and we’re back at the lower price and selling at the higher price.”

A better strategy, Vann adds, is to remain focused on the long view, which is driven by the profits of a company. “If the earnings are going up, the stock is going up. So earnings are really paramount to a sophisticated investor. Why buy stock in Wal-Mart if it’s not making money? That’s why the dot-coms failed. … Companies have to make money in order to maintain stockholder confidence,” Vann adds.

Davis says no one can win trying to predict what the market will do in the near term because of the current state of consumer confidence. But he and Culpepper point out that the stock market, which closed above 10,000 last month for the first time in several weeks, looks six to nine months ahead of the real economy. That’s why they predict everything should begin to turn around by the second or third quarter.

“Once we get out of the iffy period, we will see a more sustained stock market,” Davis says.

“We think we will move up (in 2002), but it will not be a 28.5 percent kind of return. We will go back to a normal kind of return.” Smith adds, “I think our opinion is that recovery will be more modest. We’re not expecting a robust recovery.”

Vann, however, predicts a “sharp vibrant rebound” at the beginning of the second quarter, which will then level off. “It will be an initial burst, like what happened with the (Queens, N.Y.) airline crash. It tumbled, then there was a sharp rebound, and it oversold,” Vann says.


Keeping an Eye on War

The “what-ifs?” on the international front in the coming year, good or bad, will still dictate each market fluctuation and blip, advisers and analysts say.

William Boettcher, professor in the political science and public administration department at N.C. State University in Raleigh, says there is a “reasonable chance” of the capture and death of Osama bin Laden.

“I think we’d see a bump up in the market,” Boettcher says. “In terms of retail sales, if things are resolved and bin Laden is brought to justice, people will be less stressful and out there celebrating a bit at his capture. All that is assuming there are no further terrorist attacks.”

Harvey questions whether the American public will have patience to address a deeper problem — quelling the entire terrorist movement. If not, that could have a negative effect on the economy, he says. On the other hand, if Americans expect a long-term fight, “the economy will be resilient,” he says.

Boettcher and Harvey also say it is likely that the United States will cease operations in Afghanistan and pull the majority of its troops out in the coming months.

If troops are pulled out quickly, the public — and the market — will see it as a positive sign, Boettcher says, “so long as the administration doesn’t talk about sending them somewhere else.”

If U.S. attacks spread to Iraq, “that would cause the stock market to have severe consequences, because again, it puts the investor in a cloudy situation,” Vann says.

Culpepper says, however, that the stock market runs on economic considerations, and the war in Afghanistan “is not a big deal to the economy by itself.”

However, he says, the war on terrorism on U.S. soil is. “Terrorist acts have a much bigger economic effect, and if we see another one, we could continue to have problems,” Culpepper says. “Afghanistan is a very small country without much economic activity. But what they could do to hurt us could hurt us a whole lot. … If they’re coming to our country and exploding more buildings and giving us smallpox, then yes, we’ve got to take care of them.”

He says the uncertainty surrounding possible future attacks is bad for investor psychology and is a source of concern. “We haven’t had to deal — other than maybe the War of 1812 — with foreign intervention on this soil,” Culpepper says. “It’s hard for us to get used to the fact that when you get on a plane, or go to a big city, that there’s a possibility that a foreign entity can strike at us. We’re coming to live with that, but we sure don’t like it.”

The market could also be adversely affected if political dissent arises in the United States by the next election, Boettcher says. And President Bush’s approval rating is most likely to decline before then, he says.

Harvey says he thinks Bush will “stay the course and not necessarily do the popular thing.” As for the effect that would have, Vann says he looks at what happened to the economy under former President Clinton.

“People were not as united behind him, but it was a fantastic economy. It is the actions of the government that affect the economy. If you have a war and a weak economy, you will have trouble with people, because they live and breathe off their jobs,” Vann says.


The Long-Term Looks Good

Regardless of what happens in the near-term, the long view looks good, advisers agree.

“The U.S. economy fundamentally is a strong economy,” Harvey says. “The driving engine of economic growth is a diversified economy. It’s possible for one sector to be in recession but to be offset by another that isn’t. The U.S. is in very good shape to maintain its position in the first part of this century.”

Smith and Davis agree that they’re upbeat on the second half of 2002.

“We are more positive on a rebound in corporate profits and do see a pickup in earnings,” Smith says. “All things being equal, the market should be more positive in 2002. There are a lot of things in place to allow the market to improve and a lot stemming around the liquidity and federal activity and a modest pickup in earnings.”

Culpepper says because the United States is “still by far the most powerful economically and militarily,” it bodes well for the future. “In the long run, we look at the economy and it far surpasses other countries. It’s not even close. In the short run, we’re afraid, but in the long run, even New York City will be the most powerful city in the world. That’s where the money is,” Culpepper says.

“I think certain areas of the economy are in trouble and will continue to be in trouble. But overall, we’ll move past this and do fine. It’s a great time to buy stocks.”

Vann notes that with the continuing close relationship with Russia, a promise for peace leads to economic security. “Other major countries at least are coming together to solve problems, and then you stand a better chance of having peace in the world. And with peace in the world, you do have more money for infrastructure and enhancing the standard of living for all individuals,” he says.

“Generally, it has been proven that those who are not hungry and not desperate are not likely to fight. … I do look forward to the economy improving this year.”

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