Originally created 06/29/02

Second-quarter problems may linger into third quarter



NEW YORK -- The end of the second quarter was welcomed this past week by a Wall Street eager to forget the accounting scandals and earnings concerns that have plagued the market. But there is little reason to think the next three months will be much better.

Although there is some hope that earnings will improve, analysts say many investors have become so disillusioned that it will take a sustained, solid dose of good news to turn the market around.

"There are still so many crosscurrents of political and accounting issues and things like that, as well as management credibility questions. And all of it is still swirling around, and that feeds volatility," said John Forelli, portfolio manager for Independence Investment LLC.

The market managed to end the week mixed, but the Nasdaq composite index finished the second quarter down 20.7 percent and the Standard & Poor 500 index lost 13.8 percent. The Dow Jones industrials fell 11.2 percent.

The selling, which included a five-week slide for the major indexes, got so bad that on Wednesday the Nasdaq and S&P dipped beneath their post-terror attack lows.

The pullback over the quarter wasn't surprising given the onslaught of negative company news. Warnings from bellwethers including Intel and Abbot Laboratories dampened Wall Street's hopes that a solid turnaround was under way. At the same time, a wave of new accounting and ethics scandals involving companies ranging from ImClone and WorldCom gave investors another reason to doubt the validity of any recovery.

Analysts say investors have decided it is too risky to buy or make big commitments - even though economic trends have been steadily improving.

"It created the sense that the numbers weren't reliable," said Nancy Tengler, chief executive and investment officer at Fremont Investment Advisors.

But noting that accounting problems at WorldCom and Xerox this past week failed to derail stocks, Tengler said, "this may be starting to wash out. The rules are being tightened up.

"And if people start to see reflected in earnings what I think the economic numbers are telling us, things could get better."

Indeed, second-quarter earnings reports, which are due out in July, could provide the market with a catalyst - if investors feel there's a reason to be optimistic.

"It's not the earnings as much as the comments. Companies should start to talk about what business will look like in the fall," said Bill Meade, managing director at RBC Capital Markets. "If the comments are positive, that could create upside as people start to believe that the improvement in the economy is finally causing demand in business to pick up."

Forelli, the Independence manager, believes any progress made will be sector-by-sector.

"In economically sensitive companies such as manufacturing-related ones, the tone should be improving, but on the tech side the news won't be nearly as good," he said, adding that technology is heavily dependent on corporate spending and, at this point, more companies are cutting their budgets than expanding them.

That said, the summer historically has been a difficult time for Wall Street because people go on vacation, and attention tends to turn away from the markets. And there is the one wildcard that could upset any turnaround - the possibility of more terrorism.

Although Wall Street has become more accustomed to the government's warnings about more attacks, most analysts agree another catastrophic event could send stocks precipitously lower again - no matter what the earnings outlook is.