It's now official: The first decade of the new millennium will be known, henceforth and forever, as The Divergence Decade. (I should trademark that and print T-shirts.) And why not?
is on the same page as
in most dictionaries. The former is the darling of human resources departments everywhere, and the latter is the favorite of financial textbook writers and soon-to-be-unemployed value managers.
By now, everyone knows about the divergence between the
and everything else. But what about the other divergence, the one between the
Dow Jones Transportation Average
and the other senior indices? The transports are underperforming even the much-maligned
Dow Jones Industrial Average
so far in 2000, and they don't even have a
Procter & Gamble
or some other exploding cigar to blame. Their price-to-earnings ratio is a dinky 7.25, which is less than half of the equivalent coupon yield on a 10-year Treasury note. The P/E of the Nasdaq Composite, by way of comparison, is 400.54.
The original Dow Theory held that confirmation of one of these indices by the other was necessary to establish and continue a major trend. The logic was compelling: Whatever the industrials made, the transports (then the rails) had to move. Right now, both of these indices are confirming a broader bear trend, which must be news to anyone within a five-mile radius of a tech stock.
The extent of the present divergence is shocking by historic standards. If we compare the relative movements of the industrials and transports -- both price-weighted indices -- against the capitalization-weighted
since 1988, we find only a few outliers. Point A, in 1989, represents the huge rally and subsequent collapse of
in association with its leveraged buyout offer. Point B represents the high fuel prices associated with the Persian Gulf War. Point C represents another oil-linked development, the drop in prices ending in February 1994.
The conventional wisdom, shared to some extent here
last week, is the present difficulties of the transports must be related to the recent jump in fuel prices. If this was the whole story, however, why didn't we see relative strength in the transports going into the December 1998-February 1999 low in oil prices, and why did the present relative weakness begin in mid-1998, well in advance of either oil price rally? More important, transports should be economically sensitive, and their real relative move downward occurred once economic growth started to accelerate in 1999.
It's the (Old) Economy, Stupid
The transports are about the shipment of goods, although some of the backsides moved by the airlines may have a service component as well. Unlike most Wall Street prattle, there is something to the division of Old Economy and New Economy. If we take two of the best measures of goods as part of the economy -- manufacturing shipments and new factory orders -- as a percentage of
gross domestic product
, we find these ratios described whether or not the nation was in recession up until the mid-1980s. Then these ratios took a sharp and apparently permanent drop below previous lows, and have hovered near 3.9% since 1991.
Shipping Ain't What is Used to Be
Economic value is no longer dependent on factories and manufacturing, and this cannot bode well for the long-term relative growth prospects of the railroads, trucking firms and other goods transporters in the index. One might think the airlines are another story. These hearty pioneers of rude customer service have not been the culprits in the transports' decline despite much higher jet fuel prices. The airlines learned from the Persian Gulf War and began hedging their fuel prices. In addition, the airlines are in a position to pass much of their unhedged fuel cost on to their passengers.
Yet, if we compare the stock-price movement of the 20 members of the transports index to their values at the index's high on May 12, 1999, and adjust these movements for the sharp jump in either jet fuel or diesel fuel prices, we cannot come to any simple conclusions. Trucking firms such as
have held up best, as have terminal operator
and ocean shipping firm
Alexander & Baldwin
. Railroads such as
Burlington Northern Santa Fe
are among the worst relative performers, while the airlines range from moribund
near the bottom to
near the top.
Planes, Trains, and Automobiles
We cannot blame the usual suspects, a weakening economy or higher fuel prices, for the widespread carnage in the transports. So, for those of you afraid to belly up to the bar for those wildly overvalued tech stocks, is this a good time to dive into the transports?
The index just punched below its October 1998 low of 2282, but closed at 2365 on March 10, 2000. A break lower would encounter long-term support near 2100, a relatively minor downside risk relative to the rest of the market.
Not a bad trade, unless you think we're going to stop moving things from Point A to Point B forever.
Howard L. Simons is a professor of finance at the Illinois Institute of Technology, a trading consultant and the author of The Dynamic Option Selection System (John Wiley & Sons, 1999). Under no circumstances does the information in this column represent a recommendation to buy or sell securities. While Simons cannot provide investment advice or recommendations, he invites your feedback at