The Self-Absorbed Market

Market participants are prepared to ignore the uncertainty as long as credit remains plentiful.
Publish date:

Financial markets, like

Slobodan Milosevic

, have shown little in the way of reaction to the onset of bombing in former Yugoslavia. Maybe the carnage, danger and expense are beneath notice, but I'd hate to think so.

How to think about the "appropriate" market effect of this shooting war in Europe? Let's try an approach of rough preliminary strokes of economic logic, just to get a quick directional sense without any attempt at magnitudes or timing.

For one thing, warfare uses up lots of materiel, lots of commodities. Demand is likely to rise relative to supply. Indeed, most metals prices have rallied over the past week, and crude oil has sustained a five-week price upswing. Maybe the latter is due to the market taking


at its word on production cutbacks, but given past performance, that's a stretch.

For another, wars tend to use up lots of money. If it hadn't been for World War II, Vietnam and the Cold War, the national debt very well might have been an undefined concept. Hostilities would suggest that, other things being held constant, interest rates will be higher than they otherwise would be. That conclusion was not supported in last week's quiet Treasury markets, where long bonds seem to have established a 5.5% to 5.75% trading band recently, and two-year notes and three-month bills clear steadily at 5% and 4.5%, respectively.

Euros and yen did show a mild bit of weakening against the dollar, but they have moved much more on much less firepower, on lesser excuses, in the past.

For a third, uncertainty -- all kinds of uncertainty -- must be higher with shooting going on. Higher uncertainty should imply a higher risk premium. Put that together with the commodity-price and interest-rate directional trends deduced above and you get a directionally lower market. That's a blue-book exercise, perhaps, but it is not easy to see why this market should like the Balkans campaign any more than the average pacifist does.

And not only pacifists, by the way. Even the more bellicose veterans of my acquaintance are uneasy about just what we're doing over there. But they will back the men and women of the


armed forces all the way. In this way, they reflect the attitudes of the U.S. generally, as shown in polling results and in the comments of congressional leaders. It is astonishing that there may be less conviction about the advisability of this operation within the U.S. than within the NATO alliance. The Germans and French have committed military assets and are talking tough, and even the new members -- Hungary, Poland and the Czech Republic -- have signed on.

But there ought to be some thought about mission stretch within the U.S. military. After all, the Iraq campaign is still being conducted, if only on the installment plan. We have to hope that the fix is in with


and the


government. Sure, they're yelling and waving their arms -- politically, that's what they've got to do -- but what if they really mean it? How long are we going to be involved over there in the Balkans, and how do we get out?

And no troops on the ground? This is all going to work out much better than history would give us any reason to expect if the queen of battle, the infantry, is not going to be needed in order to complete this mission. The images on the nightly news look like video games before the advent of fast graphics accelerator cards as the campaign is conducted at a high-altitude, high-tech level of engagement. But the public mood and the market's sang-froid are subject to change if those images morph into flag-draped caskets. Or if the engagement turns into a toothache that won't go away, especially one that sustains the recent signs of life in oil and metals prices.

But for the time being, the market seems unconcerned. There is nothing now like the oil-spike-induced gloom of 1990's Desert Shield build-up, which evaporated with the first-round knockout of Desert Storm. This market has a more self-involved focus. It appeared to take heart last week when

Goldman Sachs'

Abby Joseph Cohen adjusted the level of her expected earnings numbers while, in effect, merely reiterating her 7% expected growth rate for 1999. Pretty tepid stuff, really, to move markets, but Abby's been right so often that she deserves the presumption that she's right again this time.

Let's say she is; let's assume that her 1325 year-end target for the

S&P 500

is spot-on. What do you think will be the time path of the market between here and year-end? I wish I knew. But given that there is only 3.3% to be made between Friday's close and the assumed year-end level of the market, I'd be tempted to square up and take the rest of the year off. The market, however, will report for work every weekday morning, holidays excepted, and put in a full day's effort. So I'd guess that we ought not to be selling volatility this year; even a trendless market needs something to keep itself busy.

Expected volatility, as priced into options on the

S&P 100

, is fairly subdued right now. The Balkans bombings didn't deflect it a jot last week. Sentiment surveys show a low degree of bearishness and quite a bit of complacency. It is not easy to find evidence that the market has done much to adjust to the reality of "shooting war in Europe."

And maybe that's just the way it should be. Until the scale, intensity or duration of the involvement moves beyond what it has been so far, the overriding reality for the market is the Old Faithful firehose flow of liquidity through it. Tomorrow's


meeting faces shorter odds than the


Blue Devils: A stand-pat decision is taken as a sure thing. As long as the availability and cost of credit remain essentially what they have been, this market seems disinclined to worry greatly about much else. And until the "shooting war" uses up enough money and materiel to alter the condition of cost and availability of credit, this market may stay self-absorbed.

Jim Griffin is the chief strategist at Aeltus Investment Management in Hartford, Conn. His commentary on the financial markets is based upon information thought to be reliable and is not meant as investment advice. Aeltus manages institutional investment accounts and acts as adviser to the Aetna Mutual Funds. While Griffin cannot provide investment advice or recommendations, he invites you to comment on his column at