A Miserable Start to March for the Markets

By BW staff

If stock market action on the first day of the month is any indication, March isn't looking any better than February. A fresh batch of bad news brutalized U.S. stock indexes on Mar. 2, with the Dow Jones industrial average falling below 7,000 for the first time since 1997. News of a massive loss at ward of the state American International Group (AIG)—a record $61 billion in red ink in the fourth quarter—and setbacks during the quarter for investing icon Warren Buffett's Berkshire Hathaway (BRKA) put already bearish investors in an even worse mood.

To put an exclamation point on things, the Oracle of Omaha in his annual note to Berkshire shareholders said the economy is in "shambles."

And while reports released Mar. 2 on personal income and spending for January came in ahead of Street expectations, as did the Institute for Supply Management's February reading on the health of the manufacturing sector, the news wasn't enough to put a dent in the bearish sentiment.

What are Wall Street strategists and economists saying about the current market and economic situation? Here, BusinessWeek presents a selection of comments published Mar. 2:

Phil Roth, Miller Tabak

The DJIA and the S&P 500 closed at new lows for the cycle [on Feb. 27], but there were a number of positive divergences. The Nasdaq Composite and the Russell 2000 did not break their fourth-quarter 2008 lows, nor did the cumulative advance/decline lines for the S&P 500 stocks and for the NYSE operating companies. However, all those measures are close to their lows, so the only way to convert those divergences to important bullish signals is for a strong rally right away. A few bad days, without intervening strength, will likely result in broad confirmations on the downside. Similarly, momentum indicators, including measures of price, breadth, and volume momentum, have not reached the negative extremes recorded in October-November 2008, but the same caveat applies.

In any case, even if an exploitable bottom is made around current levels, months will be needed to establish a base for a broad, sustained recovery. At best, we believe 2009 can be a transition year even if the lows are in.

Sam Stovall, Standard & Poor's

All 15 bear markets since 1929 declined a median 34%, over 18 months. They retraced 60% of the prior bull market's advance and took 17 months for the S&P 500 to get back to break-even. For mega-meltdowns, or declines in excess of 40%, the numbers were more severe: They declined an average 51%, retraced more than 100% of the prior bull market, and lasted longer than two years. The worst decline occurred in the Great Crash from 1929-32, when the S&P 500 fell 86%. The longest bear lasted 42 months, from 1938 to 1942, while the greatest give-back occurred during the 1937-38 bear, in which the S&P 500 retraced nearly 120% of what it gained in the 1935-37 bull. Therefore, when this bear market is finally over, nothing says it couldn't have experienced the worst of all levels.

Richard Dickson, Paul Desmond, Lowry's Reports

If equities were not low enough on Nov. 20 or on Feb. 23 to attract aggressive buying, then even lower prices are likely before the start of a sustained market advance. As long as the current patterns of increasing supply and weakening demand persist, investors should take advantage of periods of rally to sell into strength and add to defensive positions.

Michael Englund, Action Economics

Today's U.S. economic reports revealed upside surprises to January income and spending that suggest a less dire outlook for the consumer [in the first quarter], though this "missing weakness" appeared later this morning in the January construction spending report. It now appears that construction activity will post its ugliest quarter of the down-cycle in Q1 by a considerable margin, and we now project massive 23% rates of decline for nonresidential fixed investment in both Q4 and Q1 that leave businesses leading the charge lower for the economy as we entered 2009. Today's ISM [manufacturing] report was a tad stronger than expected, but the employment component set a new all-time low (as did the import component), leaving a dismal outlook for Friday's jobs report. As it stands, we now expect fourth-quarter GDP to be revised to -6.5% from -6.2%, with a 5.0% decline still likely for the first quarter.

Standard & Poor's Ratings Services

Through a combination of actions, AIG will reduce its obligations under the current $60 billion lending facility from the Federal Reserve Bank of New York (FRBNY). We expect that this will provide the company with the flexibility to continue its asset-disposition plan at a more measured pace.

Although in our view the actions of the U.S. government have largely eliminated the risks of further rapid deterioration in the company's creditworthiness, intermediate-term concerns about the company's ability to retain key staff and market profitable new business remain. AIG expects that the planned sale of the life operations, which we believe likely, will take longer than originally planned, partly because of the lack of liquidity in the capital markets. As a result of these medium-term risks, the outlook is negative…[which reflects] our view that increased pressure on the performance of AIG's insurance businesses is likely. We believe AIG is particularly susceptible to these broader market trends given its somewhat weakened position. Although at this point we have not seen clear evidence of long-term damage to AIG's franchise, there have been widespread reports that competitors are actively pursuing AIG's accounts and key underwriting personnel.

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Telecommuting: Once a Perk, Now a Necessity

Eve Gelb's life was once a blur of hour-and-a-half commutes on the 405 Freeway in Los Angeles. What memories: The NPR fatigue. The stale minivan air. The deep identification with the characters in Waiting for Godot. But that's all in the past. Gelb, a project manager at a giant HMO, SCAN Health Plan, has given up her Ethan Allen-style office, yanked down the family photos, and moved into her home office. Members of the professional class normally have to beg their managers—or at least delicately negotiate—to allow them to work remotely. But in Gelb's case, it was her boss's idea.

SCAN is one of a growing number of companies encouraging workers to toil from home. Sure, employers have been doing this for years. But as the recession bites and companies look to save money on real estate costs, what was once a cushy perk is now deemed a business necessity. And that, along with a few choice enticements—voila!, a shiny new BlackBerry (RIMM)—is how companies are selling it to employees, whose emotions range from ecstasy to befuddlement.

The health-care sector is one of the few industries that is still expanding these days, and SCAN is no exception. "We needed to find a way to grow without incurring any more fixed costs," says Chief Financial Officer Dennis Eder. To encourage more of its workforce to become post-geographic, the company has been offering free high-speed Internet access and gratis office furniture, complete with a couple of delivery guys to set it all up.

Gelb jumped at the opportunity but still found herself struggling to adjust. "I never thought to myself: What would I do with all that extra time that I wasn't sitting in my car?" So she set about building new routines. "Instead of going on my commute in the morning, I go for a walk," says Gelb, 40. That makes up for the cardio workout she used to get running up and down SCAN's four flights of stairs attending meeting after meeting. Now that she simply dials in, "I don't really move much," she concedes. On the days when she does come into the office, Gelb shares her old digs with her three direct reports, who also work flexibly. She says they see each other more now than they did when they were squirreled away in their corporate warrens.

Still, persuading managers to embrace no-collar work isn't always easy. Jack Weisbaum, CEO of accounting firm BDO Seidman, has spent endless hours over the past year managing what he calls the "yeah buts." These are the old-school execs among his crew who have an arsenal of reasons why untethering workers is a lousy idea: They'll become Facebook addicts, ignore clients, develop a bad case of alienation. Weisbaum went on the road to nearly all 37 of the firm's offices to explain how he sees flexibility as a business strategy. He told the troops that allowing people to work where and when they want is enabling BDO to prevent layoffs. The real estate savings are a big reason for that. When BDO moves into its new Los Angeles offices in June, it will be taking over a radically reduced space. "Bricks and mortar are like a noose around your neck," says Christopher Tower, BDO's leader for the Western region.

"Homeshoring" has enabled BDO Seidman's controller for the Western U.S., Grace Renteria, to essentially give herself a raise: the amount of money she saves by working at home, a caf, a club—anywhere, in short, that doesn't require a commute. There's the $15 a day Renteria used to lay out for lunch. Then her $70 a week in gas. Add wear and tear on her Lexus LS 400. On top of that, she no longer has to lose productivity from co-worker interruptions. "I only go into the office," Renteria says, "when I don't have a lot going on."

"THIS IS DESTINY"

Capital One (COF) is one of many companies where status has long been measured in square footage. The bank's human resources chief, Matt Schuyler, has had to deal with executives made anxious by the prospect of losing their wood-paneled lairs as they begin new lives as laptop hobos. Schuyler, who is also in charge of corporate real estate, meets with them one on one, whipping out the stats showing how much a skinnier footprint benefits the bank. Then he delivers his sweetener: "The bad news is, I'm taking away your office. The good news is, here's your new laptop and your shiny new BlackBerry." Another enticement is the $1,000 managers can dole out to workers to freshen up their home offices. So far the company has cut 20% of its real estate costs. "This is destiny, and other companies will have to get there," says Schuyler. "We're at the tip of the iceberg with respect to this stuff."

None of this is to say the corporate office will disappear. But hard times will accelerate a Digital Age makeover. Adieu to cubicle farms, fixed walls, and standing-room-only conference rooms. Hello to sliding walls, moveable furniture, and lots of lounge areas. Space will be allotted by function, not title. Square footage will be based on office presence, not rank. The flexibility will cut costs and at the same time accommodate both loud talkers and hermits. The new workplace will be less about working alone and more about working together. One thing, however, will never change: The office will remain the primary spot for meetings, collaboration, and, of course, gossip.

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Academic Endowments: The Curse of Hoarded Treasure

Something seems wrong with the way elite U.S. universities finance themselves. The problem: They're addicted to multibillion-dollar endowments. When the endowments suddenly shrink, they can seem more like curses than blessings. Harvard University, the richest institution of higher education on the planet, gets about one-third of operating funds from its endowment.

Now that Harvard is expecting a roughly $11 billion endowment decline over the current academic year—30% of the total—the university is in such a financial squeeze that it has frozen faculty salaries and offered early retirement to 1,600 employees. Princeton is even more addicted to its endowment, which provides about 45% of its operating budget. Princeton Provost Christopher Eisgruber warned in February: "We are beginning to live in the 'new normal' and we should not expect to go back to how we operated in the last 10 years."

Is there a better way? There could be. Here's an idea: Maybe rich universities should act more like companies, which somehow manage to operate without endowments. Universities could raise just as much money from wealthy alumni and other donors as they do now, but they wouldn't hoard it in a great big piggy bank. They'd spend it as it came in, the way companies spend their revenue on current needs.

Why must universities Hoard money?

Most universities that aren't super-wealthy already do behave like companies because they have little choice: They don't pile up endowments because they have urgent current needs for the money. Take California State University at Long Beach, where about a third of undergraduates are first-generation college students. The school does raise money from alumni and other sources, but it puts most of the proceeds to use right away for such purposes as scholarships. In a Feb. 27 interview, President F. King Alexander said: "Our students need that money. We're not wealthy enough to sock it away when we have so many needs on our campus right now."

Any ordinary company that followed the money-hoarding strategy embraced by such institutions as Harvard, Princeton, Yale, and Stanford would soon receive an inquisitive letter from the likes of raider Carl Icahn, who would want the CEO to explain why he or she couldn't find anything more useful to do with the money than stash it away. It's a fair question, both for companies and for universities.

The most frequent argument for having a big endowment is that it's supposed to tide schools over tough times. It sure isn't working out that way. True endowment funds can't be spent even in an emergency; only the cash income and capital gains from them can be spent. (Does anyone remember what capital gains are these days?) So-called quasi-endowment funds can be drawn down if necessary, but universities seem loath to do so even in the current circumstances, as if preserving capital is a higher priority than preserving academic programs.

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Harvard compounded its problems by investing in exotic assets that it can't now sell at any reasonable price, but other schools are down as well. Between July 1 and Nov. 30 last year, endowments at 435 surveyed schools lost 23% of their value, according to the National Association of College and University Business Officers.

Sure, the bad economy is also walloping universities that don't have endowments, as strapped donors cut back. But a big endowment tends to tie a university's fortunes closely—probably too closely—to the vagaries of the financial markets. In 2007, when markets were still flying high and schools were loaded, BusinessWeek printed an eye-opening article called "The Dangerous Wealth of the Ivy League."

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Marcial: CardioNet's Heartening Outlook

Not many companies can boast that their shares have climbed this year in the face of the stock market's continuing decline. Even so-called recession-resistant enterprises haven't escaped the market's wrath.

So it's quite a feat for a little-known company—CardioNet (BEAT)—to thrive in the current environment and handily beat the market: Its stock has vaulted to 25 a share on Feb. 27, up from 17 on Dec. 9.

What's CardioNet's secret? The company is a leader in wireless medical technology that's associated with coronary care. Its chief product, a portable wireless monitoring device, is designed to keep track of a person's heartbeat 24 hours a day for an extended period of time.

For instance, a person being treated for a heart disorder, such as arrhythmia (an abnormality in the rate or rhythm of the heartbeat), need not be consigned to a hospital bed while doctors keep track of his or her heartbeat. CardioNet's Mobile Cardiac Outpatient Telemetry, or MCOT, device allows a patient to go about his life as the wireless device monitors the heartbeat. CardioNet digitally reads the data from labs at its headquarters in Conshohocken, Pa., and alerts the patient or his physician quickly if an emergency condition develops.

"Many of our patients wear our device 24 hours a day, and could even play sports and live normal lives," says CardioNet Chairman, President, and CEO Randy Thurman. Demand for this life-saving device—the size of a BlackBerry, he adds—is rising at a fast clip.

Heartbeat-By-Heartbeat Monitoring

Analyst Sara Michelmore of investment firm Cowen (COWN) (it has done banking for CardioNet) forecasts that the company's sales, which totaled $120 million in 2008, will jump to $173.7 million in 2009 and to $244.1 million in 2010. By 2011 sales could shoot up to $300 million, she figures. Rating the stock "outperform," Michelmore estimates that CardioNet's earnings will grow along with rising revenues. She figures earnings will climb from 2008's 39 a share to 69 in 2009, $1.37 in 2010, and $1.89 in 2011.

More than 44 million Americans, notes the analyst, suffer from arrhythmia. Outpatient case studies are being done for a significant number of patients each year, she notes. Currently, CardioNet has captured about 5% of the growing market. But the market opportunity for the company could expand to as much $1.5 billion, estimates Michelmore. Growth in demand is being powered by the device's efficiency as it offers continuous "heartbeat-by-heartbeat cardiac monitoring for an extended period of time (up to 21 days), automated wireless data reporting, and improved patient compliance," says the analyst.

Double-Digit Growth Ahead?

Analyst Rick Wise of investment bank Leerink Swann (it has done banking for CardioNet) recently raised his 12- to 18-month price target from 31 to 35, based on 25 times his 2010 estimated earnings of $1.40 a share. With its "proven management team and…superior technology addressing the substantially large and underpenetrated [heart] monitoring market," CardioNet could realize sustainable strong double-digit sales and earnings growth through 2012, says Wise.

Merrill Lynch (BAC) analyst Bob Hopkins, who rates the stock a buy with a higher price target of 38 a share, considers CardioNet's FDA-approved device for abnormal heartbeats to be "three time better than the current standard of care." And the stock, he adds, is mispriced, trading at a "significant discount to its peers."

That notion should be enough to make investors' hearts beat, well, faster.

Unless otherwise noted, neither the sources cited in Gene Marcial's Stock Picks nor their firms hold positions in the stocks under discussion. Similarly, they have no investment banking or other financial relationships with them.

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Shared Sacrifice Will Ease the Credit Crunch

Is the U.S. heading for another Great Depression? Probably not—but we are about to go through a period future generations may call the Great Repudiation.

The root cause of today's crisis lies not in the housing market but in America's foreign debt. Over the past four years the U.S. private sector has borrowed an astonishing $3 trillion from the rest of the world. The money, directly and indirectly, came from countries such as China, Germany, Japan, and Saudi Arabia, which ran huge trade surpluses with America. Foreign investors trusted their funds to U.S. financial institutions, which used much of the money for mortgage loans.

But American families took on a lot more debt than they could comfortably afford. Now no one is sure how much of that towering sum the U.S. is going to pay back—and all the uncertainty is roiling the financial markets.

The Washington bailout debate boils down to this question: Who is going to bear the burden of the $3 trillion mistake? Will low- and middle-income borrowers have to cut back on spending to pay their mortgage bills? Will taxpayers have to chip in big bucks to pay for defaults on those debts? Or will Washington act in a way that imposes large losses on foreign investors—in effect, repudiating some of the debt? The best outcome is shared sacrifice among borrowers, taxpayers, and foreign investors—but that result may be politically difficult to achieve.

FINDING A FAIR PLAN

Since mid-2004, American households have taken on a bit more than $3 trillion in mortgage debt. The official statistics are very fuzzy, but it looks like at least one-third of the debt, and perhaps half, was financed with foreign money. As a result, foreign investors are sitting on an enormous mountain of mortgage-related securities.

The value of those securities, though, depends on both economic and political factors. Real wages have dropped for most U.S. workers since 2004. To make good on their mortgages, many low- and middle-income families would have to sharply cut their spending, hurting both the domestic economy and countries that export to the U.S.

A better solution is for borrowers, U.S. taxpayers, and foreign investors to share the burden of the excess debt. The question, though, is finding the fair division of pain. So far the U.S. government has taken over Fannie Mae (FNM) and Freddie Mac (FRE), a move that provides a taxpayer guarantee to investors, many of them foreign, who own securities issued or backed by those companies. The Paulson bailout plan, too, would devote up to $700 billion of taxpayer money to buying up bad securities, with non-U.S. investors some of the major beneficiaries.

Given the hostility to the Paulson plan, however, it's unlikely we will see more money to prop up the prices of securities. The next step in Washington could be legislation to benefit homeowners—say, by allowing bankruptcy courts to reduce mortgage debt, which they cannot do now. Alternately, the government could let more homeowners default and more financial institutions go under. In either case, the value of mortgage-related securities would drop, with foreign investors taking much of the hit.

The global response to such a move depends a lot on how it's presented by the leaders in Washington. It's unseemly for the world's richest country to refuse to pay some of its debts. That's especially true since much of the money came from poorer countries such as China. In the worst case, the losses by foreign investors would lead to an unwillingness to invest in the U.S. while fueling anti-American sentiment around the world.

U.S. politicians are accustomed to playing to a domestic audience. But in the end, making the case for shared global sacrifice may be the biggest task facing the next President.

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An Oasis in the Crisis

For years, Dubai, Abu Dhabi, and other Gulf states seemed to run rings around sleepy Saudi Arabia when it came to economics and finance. Dubai benefited from a flood of expatriate bankers and other professionals attracted by the emirate's beaches, bars, and laissez-faire financial system. And the sovereign wealth funds of other Gulf states invested in hedge funds and private equity and took stakes in Western banks. The conservative Saudis, by contrast, mostly parked their cash in U.S. and European government bonds.

These days, with growth tumbling and credit hard to find, the Saudis' cautious approach looks smart—and is making the kingdom more attractive as an investment destination. Abu Dhabi and Kuwait have taken huge hits on their investment portfolios. And on Feb. 23, the central bank of the United Arab Emirates—the confederation of Gulf sheikhdoms—bought $10 billion in bonds to bail out beleaguered Dubai, which is struggling with $80 billion in corporate and government debt.

The Saudis' foreign holdings, meanwhile, have largely escaped the global equities crash. And tightly regulated Saudi banks haven't seen major hiccups even as neighboring countries have had to bail out their banking systems. "Saudi corporations and individuals have very little debt compared to other countries in the region," says Fahad A. Almubarak, chief executive of Morgan Stanley (MS) Saudi Arabia.

A REALITY CHECK ON PROJECTS

While the plunge in oil prices has hurt, the Saudis have salted away piles of cash. They have more than $500 billion in foreign assets—enough to pay for five years of imports—and an additional $226 billion in deposits in the domestic banking system. Riyadh plans to draw on these funds to increase infrastructure, education, and health-care spending by an estimated 10% this year, to about $150 billion. "Saudi Arabia is one of the countries least affected by the financial crisis," says Said A. Al-Shaikh, chief economist at National Commercial Bank in Jeddah.

That's not to say everything is rosy for the Saudis. Al-Shaikh is forecasting 2% real gross domestic product growth this year, down from 4% in 2008. The once-sizzling real estate market has gone cold, and banks have tightened lending. So the Saudis will have to pull back on some of the $600 billion in big projects they have in the works. A $20 billion-plus Saudi Aramco petrochemical plant with Dow Chemical (DOW) at Ras Tanura has been delayed, and there's likely to be a reality check on plans to build a half-dozen new cities in remote areas. At a minimum, Riyadh will need to give more financial support to such projects, even though they were supposed to be largely financed by the private sector.

But Saudi Arabia is looking more attractive to business. The country is by far the biggest market in the region. King Abdullah has introduced changes in the government, getting rid of some conservatives and appointing a woman as deputy minister of education, a first for the kingdom. And while Saudi stocks are off by more than half in the past year, prices have stabilized in recent months even as most other markets have continued to plunge.

Investors are betting that at least some megaprojects will continue. A $10 billion refinery venture with France's Total (TOT) looks solid. And major initiatives such as King Abdullah Economic City, a vast waterfront metropolis planned for the Red Sea coast, are unlikely to be scrubbed. "Once we get to the other side of the valley of the global recession," says Brad Bourland, chief economist of Riyadh-based Jadwa Investment, "Saudi Arabia will emerge as an extremely attractive place to invest."

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Cutting Work Hours Without Cutting Staff

Instead of jettisoning workers during the Great Depression, Iowa-based window maker Pella had its employees wash and rewash the windows it could not sell. These days, companies such as FedEx (FDX), Dell (DELL), and Motorola (MOT) are adopting their own tactics to hold on to jobs, from hiring freezes to companywide unpaid vacations. (All have had to resort to layoffs as well.) And some are doing more than chopping pay or perks.

Vermont's Rhino Foods, which makes the cookie dough for Ben & Jerry's ice cream, recently sent 15 factory workers to nearby lip balm manufacturer Autumn Harp for a week to help it handle a holiday rush. The employees were paid by Rhino, which then invoiced its neighbor for the hours worked. President Ted Castle is looking to adopt a similar approach with salaried managers, too. "It's a lot easier to just do the layoff," says Castle. "But in the long term, it's not easier for the business."

Across the U.S., some 37% of human resources managers say they're now spending more time devising alternatives to layoffs vs. six months ago, according to a recent survey by the Society for Human Resource Management. Peter Cappelli, director of the Center for Human Resources at the Wharton School of Business, notes that a 5% salary cut costs less than a 5% layoff because there are no severance payments. Some state governments even make the decision easier with a program called WorkShare, which allows companies to reduce employees' work hours and make up the difference through unemployment benefits. "We would have had to take more draconian measures, such as more layoffs, were it not for this program," says Mel White, a vice-president at Portland (Ore.)-based Classic Exhibits, which makes displays for trade shows.

Training Exising Staff to Do More

A typical move amid hiring freezes: training existing staff to do more. Luxury Retreats, a villa rental agency in Montreal, shuffled 8 of its 75 employees from areas such as product development to sales. CEO Joe Poulin even moved his personal assistant to the accounting department. "You have to be really efficient with your resources in times like these," says Poulin. Steelmaker Nucor (NUE), meanwhile, has cut factory time for many of its 22,000 hourly employees. On the days they're not making steel joists, though, workers are paid their base salary to perform maintenance or take classes.

In China, accounting giant Ernst & Young offered its 9,000 mainland and Hong Kong employees a chance to take one month of unpaid leave during the first half of this year. About 90% of the firm's auditors have opted in. Bin Wolfe, head of human resources for the region, says the move will slash EY's payroll costs by 17%.

Some try to motivate staff even while trimming their pay. Matt Cooper, vice-president of Larkspur (Calif.) recruiting firm Accolo, asked employees to take five days of unpaid leave this quarter but won't dock paychecks until March. If big deals come through, he'll lift the pay cut. And he shaved costs by sleeping on his brother-in-law's couch during a recent business trip to New York. Instead of paying $1,500 for a week in a hotel room, Cooper spent 10% of that on dinner for the two of them and a nice bottle of wine.

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