TOPICS > Economy

Dow Jones Surpassed 12,000 as Inflation Eases and Consumer Prices Fall

October 18, 2006 at 6:20 PM EST
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GWEN IFILL: As Jim reported in the news summary, the Dow Jones Industrial Average surged above 12,000 this morning for the first time ever, just three weeks after closing above another record set in January of 2000. What’s behind this ascent, and what does any of this mean for individual investors?

For that, we turn to Michael Goldstein, associate professor of finance at Babson College. Welcome, Michael.

Does this signal overall economic resurgence or is this just a temporary bump?

MICHAEL GOLDSTEIN, Babson College: Well, I hope it indicates that things are getting better soon. We have had strong profits, and we’ve had a reduction in gas prices. We’ve had a reduction — not very high interest rates. That’s all very positive.

I’m a little less positive, though, that we’re going to really make it for a long time over 12,000 right away. In the long run, America is going to do very well, but in the short run, I think we might see some retrenchment.

GWEN IFILL: You know, the market didn’t close at 12,000. It’s been bouncing around 12,000 for a while. We love these numbers; how significant are they?

MICHAEL GOLDSTEIN: You know, 12,000 is no more significant than 11,950 or even 1,223. These are just numbers. The Dow Jones Industrial Average is just an average of prices.

And really what matters is how much return you get each time, not whether we hit a round number. The round numbers psychologically matter to a lot of people, but they don’t really matter in an economic sense, especially to the professionals on Wall Street.

GWEN IFILL: In fact, and adjusted for inflation, is this a record for real?

MICHAEL GOLDSTEIN: Oh, probably not, not adjusted for inflation. I mean, inflation has been moderate over the past few years, but still it takes quite a long time until we really get great, great new numbers. I think this is just a reasonable progress on the long-run health of the United States, but it may be everyone’s getting a little ahead of themselves. We may see 11,500 before we see 12,500. That’s not that certain.

Back into 'fighting shape'

GWEN IFILL: Well, let's just assume for a moment that at least it's heading up and not down. What drives these numbers?

MICHAEL GOLDSTEIN: Well, a variety of things. I mean, you know, today, there were some good results from IBM and Johnson & Johnson. Recently the Dow happens to have in it General Motors, the fact that General Motors -- although it's losing money -- has gotten better. Its stock price has gone up, helps to get the Dow higher.

But I think in the long run it's having relatively low interest rates. And although interest rates have risen, they're still relatively low. We have relatively low inflation. We've had a reasonable amount of corporate profits, and we weathered the storm that happened at the end of 2000, 2001, and 2002, not just with 9/11, but also with absorbing what was a functional huge excess.

The United States is kind of like a person who ate a huge Thanksgiving meal -- or actually better, a huge meal at the turn of the millennium and was really full for a while, and just wasn't interested in eating, and got a little sick right afterwards for eating too much. And we're all kind of working through that excess now; we're beginning to get back in our fighting shape.

Choosing an index

GWEN IFILL: I think you just made me hungry, actually.

Help we non-economists to understand the difference between what the Dow is doing and what the other indexes, like the S&P and the Nasdaq, are doing. They don't seem to be rising at nearly as steep a rate.

MICHAEL GOLDSTEIN: Well, that's somewhat true, somewhat not. It all depends on what perspective you look at. I mean, today, for example, the Dow went up and the Nasdaq went down. And that's because the Dow tends to be 30 very large industrial stocks, very huge. The Nasdaq index tends to have more high-tech stocks, smaller stocks, to a certain extent.

There's other indexes, like the Russell 2000, which is really much more small stocks. And they all focus on different aspects of the market. So when we talk about the Dow, we talk about it because it's so historically old and we focus on it. But it tends to really focus on 30 very large companies. And Nasdaq, for example, is much more fluctuating.

Now, the Dow is hitting its high, and the Nasdaq is nowhere near its high. It's probably still half off from its high. That's more of an indication that Nasdaq got so far ahead of itself that it's going to take forever to come back to where it should be, whereas the Dow, although it kind of accelerated too quickly at the end of '99 and 2000, it didn't do the excess that Nasdaq did.

GWEN IFILL: If you venture into that dangerous territory of trying to use the markets to judge how the economy is doing, which is the more reliable measure, the Dow, the Nasdaq?

MICHAEL GOLDSTEIN: Well, that's a good question. I would still say the Dow or, better yet, the S&P 500. The S&P 500 is 500 very large companies, and it's a broader index of kind of how the general, larger economy is doing, with still some moderate-sized stocks involved in it. I think that is -- the S&P 500 is probably the one I'd look at the most.

I think professionals in Wall Street tend to look at the S&P 500 or the Wilshire 5000 or the Russell 2000, but the rest of us look at the Dow Jones Industrial Average or the Nasdaq index. And the truth is that the S&P 500 and the Dow Jones Industrial Average are pretty well correlated. So if the Dow goes up, it's going to tend to be true the S&P 500 goes up.

GWEN IFILL: Go ahead.

MICHAEL GOLDSTEIN: No, but I think, for your average person watching TV, knowing how the Dow did that day is a reasonable indicator. We've got to remember that the stock market has predicted nine of the past five recessions. It kind of bounces up and down way more than the actual economy does.

Riding the stock market

GWEN IFILL: Does it seem like these records are falling faster and faster, though?

MICHAEL GOLDSTEIN: They are. So, you know, around 1996 -- sorry, 1966, in January 1966, the Dow hit 1,000. It actually hit 1,000, but then, like today, kind of closed below it. It didn't hit 2,000 until January 1987. Along the way -- it doesn't even close above 1,000 until 1972. It took 21, 22 years before it really went up -- until it doubled, so we hit another thousand.

Now, there's two aspects here. One is, well, you know, the truth is 1,000 is a smaller percentage of 11,000 than it was of 1,000, so just percentage-wise it takes less to get up another thousand. We're going to see more and more of these as we go forward.

But I think the other issue is -- you know, the economy has gotten stronger. We're probably progressing a little faster than we used to. There was a time, though, during the 1990s, during the late 1990s, where we were hitting another thousand every six months.

GWEN IFILL: Yes, we recall, sadly, that time. So what should investors, regular individuals, do with this kind of information? Should they be rushing out to buy more stock? Should they be selling furiously because we've now peaked, or should they just be sitting still?

MICHAEL GOLDSTEIN: You know, I'll tell you what I'm doing, which is I think what most people should be doing, which is sitting still. This is just -- it's psychologically exciting, but in fact it's just a number. The market has been going up; it really hasn't gone up that much this year.

It's been doing fine, and there's no reason to not invest. There's no reason to sell right away. But there's also no reason to jump in the market. I talked with some of my friends on Wall Street today, and we all kind of feel like, you know, the market's doing pretty well, but it's -- again, I think there's as much a possibility of going down in the next couple of months as going up.

And because of that, you just don't need to worry. Just continue to regularly invest, and you'll do fine.

GWEN IFILL: But is your guess that we've seen the top of the market now or it's going to continue to grow?

MICHAEL GOLDSTEIN: Well, in the long run, it's going to continue to grow. And, in fact, that's really the issue. It's so unexciting for people, but the truth is that, you know, your money in the market should be for five years, 10 years, 15 years out. And I can certainly almost guarantee you -- to the extent that anyone can ever guarantee about the future -- that 15 years from now, the stock market will be higher than 12,000.

The real issue, I think, is to be a regular, steady investor and not get overly excited by the drops that happen. We will someday have a 10 percent drop. We will someday have a 20 percent rise. That's just kind of the way the market goes. And if you don't like the roller coaster ride, you shouldn't go to the amusement park. The stock market's kind of like that.

GWEN IFILL: Well, it sounds plenty exciting, roller coaster rides. Michael Goldstein, thank you very much.

MICHAEL GOLDSTEIN: Thank you so much.