After more than seven years, the Standard & Poor's 500 index finally pushed through to a new high Wednesday. The stock benchmark, which treaded water most of the day, surged in the last few hours of trading after the Federal Reserve released minutes of its latest rate-setting committee meeting. The minutes raised hopes that the Fed's next interestrate move will be a cut. For the day, the S&P 500 rose 12.12 points, or 0.8 percent, to close at 1530.23, topping its record close of 1527.46 on March 24, 2000. For long-suffering investors, the news was good, but largely symbolic. Unless you invested in the S&P 500 and spent all of your dividends, your results -- as they say in the weight-loss ads -- may differ.
Other indexes hit new highs months or years ago and some are still shadows of their former selves. It all depends on what's in the index and how it's weighted. The S&P 500 tracks 500 large U.S. companies. The index is capitalization-weighted, which means companies with the biggest market values have the greatest influence. Large-cap stocks, which tore up the charts in the late 1990s, have lagged small- and mid-cap stocks during the recovery.
The Dow Jones industrial average tracks 30 of the biggest big-cap stocks, yet it surpassed its 2000 high in October. That's mainly because it's weighted by each company's share price. "If the Dow were market-weighted, it would be nowhere near its high," says S&P index analyst Howard Silverblatt. The Russell 2000, which tracks small-cap stocks, surpassed its 2000 high in 2004 and has been on a tear ever since. The Dow Jones Wilshire 5000, which includes almost every U.S. stock and is also cap-weighted, eclipsed its previous record on Feb. 20 this year.
"Congrats S&P, but we hit a new high (on Wednesday), too. It was the 13th this year," quipped Kim Shepard, a spokeswoman for Wilshire Associates.
On the other hand, the Nasdaq composite index, weighed down by its heavy concentration in tech stocks, is roughly half where it was in March 2000. The nominal returns from these indexes ignore dividends, an important source of returns for larger companies. Including dividends, the S&P 500 actually hit a high last October. If you had invested $10,000 in the Vanguard 500 Index fund on March 24, 2000, and reinvested your dividends and capital gains distributions, you would have roughly $11,200 today, says Dan Wiener, who publishes an independent newsletter for Vanguard investors.
Small caps doing better
If you had invested $10,000 on the same date in the Vanguard Small-Cap Index fund, you would have $16,890. If you had put your 10 grand in the Vanguard Mid-Cap Index fund, you'd be sitting on $20,975. And if you'd had the foresight or good fortune to choose the Vanguard Small-Cap Value Index fund, you would have an astonishing $26,425, Wiener says. Although the S&P 500 is back where it was roughly seven years ago, things today are very different than they were then. In the late 1990s, the market was driven largely by the idea that technology and the Internet would create productivity improvements that would justify permanently higher stock valuations. Most stock price gains were concentrated in the tech and telecommunication sectors.
Although tech and telecom have transformed the economy, those expectations turned out to be a tad rosy. Since March 2000, technology and telecommunications are the only S&P 500 sectors that are still underwater, down 61 percent and 44 percent, respectively. Sectors that were neglected in the late 1990s have done the best since 2000. Energy is up 146 percent, followed by materials (such as copper, aluminum and steel), which are up 82 percent.
Many key factors
What is driving the market today? A combination of things. Although the economy has slowed from its torrid pace, it seems to be growing fast enough to avoid a recession, but not fast enough to ignite inflation. Many foreign economies are growing faster than the United States. That's helping U.S. companies, which are becoming increasingly global. The weak dollar is also making U.S. exports more competitive overseas and leading to currency gains when companies repatriate their overseas profits.
Although corporate earnings growth has fallen from double to single digits, it is still strong by historical standards. Despite the increase in stock prices, earnings growth has been sufficient to prevent stocks from becoming significantly overvalued. The price-earnings ratio for the S&P 500 is about 18 today, compared with 30-plus in March 2000.
One of the biggest factors moving the market of late is simple economics. While the demand for stocks remains strong, the supply of shares is shrinking. Companies are buying back their shares in record numbers and companies are being taken over in private-equity deals that remove their shares from the public markets. "S&P 500 companies have repurchased 7.7 percent of their own shares since the end of 2004 and we have 13 companies in the S&P 500 that have private buyout deals pending," Silverblatt says.
Risks still prevalent
As always, there are plenty of risks facing the market. A collapse in the China stock market could send shock waves worldwide (as it did, briefly, in February). U.S. consumers, burdened with debt and unable to extract more equity from their homes, could go on a savings binge. But many analysts say the pros today outweigh the cons. "People make the mistake of looking at price and saying it's high, but you have to say relative to what," says Stewart Pillette, president of Pillette Investment Management. "There may be hiccups from time to time. But as far as our work is concerned, there is no excessive exuberance," he says.