Editor’s Note: Mutual of America Capital Management Corporation presents the following review of economic trends prevailing in the first quarter of 2003. Comments reflect conditions as of March 20, 2003.

The U.S. economy has been on hold for the first quarter of 2003, due to uncertainties over hostilities in Iraq. Companies have seemed reluctant to increase inventories or hire new employees until the extent of U.S. involvement in bringing about a regime change in Iraq, and its ramifications, is determined. Many experts claim that once this situation is dealt with the U.S. economy will return to robust health. Others are far less sure.

President Bush in January unveiled an economic stimulus plan centered around the elimination of taxes on corporate dividends and substantial revisions to the tax code regarding long-term savings, including retirement savings. The President’s plan, however, has been tepidly received by Congress and may be substantially revised before coming up for a vote.

Also in January, the Federal Reserve left the Fed funds rate at a 41-year-low of 1.25 percent in the belief that oil price increases and other “geopolitical risks” have restrained spending and hiring by businesses. It appears the Fed expects that such risks will subside and that monetary policy, along with continued productivity growth, will support an improved economic climate.

The Consumer Price Index rose just 0.3 percent in January. Higher petroleum prices put pressure on consumers, which was moderated by price declines for apparel and consumer food. January’s 1.6 percent increase in the Producer Price Index (sales at the wholesale level) is a 13-year high and bodes ill for profit margins.

The Conference Board’s Consumer Confidence Index declined in February to a 9-year low, based on pessimistic attitudes toward the job and securities markets and rising fuel costs, as well as the threats of terrorism in the United States and war in Iraq. Initial jobless claims rose to a 10-week high in late February. A Department of Labor release stated that the unemployment rate for people in professional and business services, largely managerial and white-collar workers, is 8.9 percent.

Manufacturing expanded for the fourth straight month in February, but by a very small amount. While some sectors, such as computer equipment and electronics, are strengthening, this trend is not widespread. Higher energy prices are squeezing many companies whose profit margins are already thin.

The housing market remains strong, due primarily to low mortgage rates. After a record year for housing sales in 2002 – both new houses and resales – no letup appeared as January housing starts rose to a 16-year high, while January resales also established a high water mark. Analysts expect the pace to slacken, and indeed, February’s new home sales were down more than 15 percent from January levels. Winter storms in the eastern half of the country may have contributed to February’s decline.

Bad news from the corporate sector continued in early 2003. McDonald’s announced its first-ever quarterly loss in 38 years as a publicly traded company. Wall Street analysts expected the fast-food chain to post a loss of as much as six cents a share, but the company announced a loss of 27 cents a share, largely due to the closing of 719 outlets in the United States and Japan. AOL Time Warner Inc., meanwhile, reported a 2002 net loss of $98.7 billion after taking a fourth-quarter charge of $45.5 billion, mostly to write down the value of its America Online unit. This amounts to the largest annual corporate loss in U.S. history. America Online acquired Time Warner in January 2001 for $103.5 billion and over the past 20 months, the combined company’s stock price has lost more than $100 billion in market value. Finally, AMR Corp., the parent of American Airlines, was removed from the S&P 500 in March. The company, which may declare bankruptcy, was removed from the index because its stock valuation, which has plummeted by more than 90 percent in the past 12 months, no longer qualifies for inclusion in that index.

On a more positive note, the aftermath of President Bush’s stated desire to eliminate taxes on dividends at the individual level found Microsoft declaring its first-ever cash dividend.

The Markets
Large-cap stocks, as represented by both the Dow Jones Industrial Average and the S&P 500 Index, registered gains of over 5 percent in the first two weeks of 2003. By January’s end, however, both indices were solidly in the red. Prices then fell to levels of last October, but a mid-March rally boosted prices. At press time, both indices were slightly down for 2003.

Mid-cap issues didn’t prosper, either. The S&P MidCap 400 Index was down over 4 percent for 2003. The March rally, however, left the Nasdaq, comprised largely of small-cap and mid-cap issues, up more than 4 percent for the year.

Trading volume has been markedly light, suggesting that many investors are sitting on the sidelines until the Iraq situation is resolved. Investors in must-sell situations have had to accept lower prices, due to the dearth of buyers.

No sector has defied the market’s downward trend. Energy issues came the closest, as they were down less than a percent at press time. The possibility of a positive outcome in Iraq has improved the prospects of some drilling and pipeline companies. Healthcare and technology were down slightly for the quarter. There was no reprieve for the badly battered telecommunications sector, however, as it was down over 20 percent.

So, where have investors moved the dollars they’ve pulled out of stocks? Many have ventured into the bond markets. For instance, the yield on 10-year Treasury notes fell in mid-March to its lowest level since 1958 as investors bid up bond prices, causing the yields on these securities to fall.

The U.S. dollar fell to a four-year low against the euro in early March. A strong dollar allows consumers increased buying power because imports can be purchased for less. A weaker dollar, however, boosts U.S. exports, making them more competitive in world markets and helping domestic manufacturers. The Bush administration is on record as supporting a strong dollar, although recent comments by the Treasury secretary have given rise to speculation that there may be some flexibility in this position.

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The above article is for general information only and is not intended to provide specific advice or recommendations for any individual. Consult your attorney, accountant, or financial or tax advisor with regard to your individual situation.

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