IS THE DOW TOO PUMPED?

By John Greenwald

Ever since the Dow Jones industrial average topped 7000 for the first time two weeks ago, investors like Marie Kordus have become increasingly scared to look down. You could call it verti-Dow. "I try not to watch the market every day because it will make me crazy and I'm afraid I'll make the wrong decisions," says Kordus, 41, who runs a hip-hop radio station in Los Angeles and has built a portfolio of stocks that have jumped about 25% in value in the past two years.

Kordus has plenty of partners in anxiety as every lurch in the market--the Dow index did a three-day wiggle and dropped 57.34 points to close at 6931.62 last week--makes skittish investors wonder whether it's finally time to pull the rip cord and cash out. "The average person is very jittery but is still bringing in money in hopes of staying with the bull market," says Robert Coleman, an investment adviser with the firm Christopher Weil & Co. in San Diego. "People are constantly calling and asking, 'What do you think?'" Coleman adds. "I say, 'Relax, stay in the market and enjoy it.'"

For now, at least, Coleman and a chorus of like-minded gurus may well have it right. Since the Dow stood at 3300 four years ago, the tireless trend of the market has reflected an astonishingly resilient and inflation-free U.S. expansion that, like the Energizer Bunny, just keeps going. The economy grew at a robust 4.7% rate in the fourth quarter of 1996, for example, and last week the government reported that consumer prices rose a barely perceptible 0.1% in January.

"I don't see any end in sight for this bull market" are the ready-for-framing words of John Hsu, who runs his own New York City investment group with $500 million in assets. "The U.S. economy is the best I've seen in my professional career, which is 35 years. As long as the fundamentals stay this way, the music will keep on playing."

These harmonious conditions have made Wall Street the leader of a worldwide boom in stocks. With inflation falling globally, stock markets have recently hit new highs from Argentina to Taiwan. In Europe, where declining interest rates have helped raise stock prices, France, Germany, Switzerland and other countries have been on their own bull runs.

By all the conventional measures of Wall Street, the market seems ripe for a setback. Not only are stocks heavily overpriced in relation to corporate earnings--the P/E ratio is now about 19--but the average dividend yield, which measures dividends as a percentage of prices, has fallen to an all-time low of less than 2%. Both gauges suggest the type of heedless buying that often precedes a bust. The public's hunger for shares has led Austin Grill, a chain of Tex-Mex eateries in the Washington area, to offer diners a helping of its new public offering along with their enchiladas. When stocks make it to menus, can the Alka-Seltzer be far behind?

Yet a short-term correction could be just what the doctor ordered to let the bulls catch their breath. "We're going to see ups and downs, and that would be healthy," says financial consultant Bert Ely. "The market needs some time for earnings to catch up with [prices]. But in the longer term, interest rates could well decline, and that would definitely be bullish, putting a firmer floor under the market's high levels."

In the very long term, fundamental changes in the economy may have rendered our traditional views of market behavior meaningless. Just look at the size of the herd: baby boomers, all 80 million of them, have a lust for stock that keeps growing. "A substantial number of us are reaching 45 and realizing that we need to save more," says Rodney Trautvetter, CEO of Burke, Christensen, Lewis Securities, a Chicago discount brokerage. "And the historic averages in the stock market still blow out savings accounts."

With the boomers leading the way, the demand for stock has soared in the face of a dwindling number of shares--a textbook prescription for prices to head north. Investors pumped more than $220 billion into stock mutual funds in 1996, nearly double the $128 billion registered in 1995. The bulk of the new money represents "patient" capital from boomers saving up for retirement, according to the Investment Company Institute, the mutual-fund-industry trade group. And the trend keeps getting stronger. Some $24 billion of fresh money flowed into stock mutual funds in January, double the amount for the previous month. At the same time, the still potent U.S. dollar is drawing foreign cash into stocks at the rate of more than $1 billion a month.

These torrents have poured in just as companies have rediscovered merger mania and thereby taken countless shares off the trading boards. The supply has shrunk further as companies have bought back bushels of their own shares. Corporate America repurchased nearly $170 billion of its equities last year. Coca-Cola, whose price rose 42% in 1996, helped the increase along by declaring its intention to swallow as many as 206 million shares of Coke, or 8.3% of the company's outstanding common stock.

Investors like Susan Hoffman have experienced both sides of such trends. Hoffman, 45, lost her job as vice president and general manager of a San Diego radio station three months ago, when her employer merged with another company. Presumably the merged company will be more efficient and more profitable, which is good for its stock price. Now Hoffman boots up her computer every morning to track stock-market investments that have earned her $76,000 in just the past year. "I'm a risk taker," she says. "I'm not thinking of pulling out." Neither is Mike Pearson, 48, regional director of a San Francisco company that sells television listings. Pearson says he made more than $1,000 on his mutual funds two weeks ago and likes the bull market just the way it is. "Maybe it's topped out," he says, "but I'm having fun."

John Makin, a scholar at the American Enterprise Institute, expects the bulls to keep stomping because of what he calls "America's amazing self-regulating economy." Makin notes that each time business activity has heated up recently, bond buyers, worried about a new burst of inflation, have driven interest rates higher. That has taken pressure off the Federal Reserve to jack up the rates it controls, which could make the stock market tumble. Then, with the economy cooling and fears receding of Fed tightening, investors have started pouring money into stocks again.

Not everyone applauds the Fed's inaction. Stephen Roach, chief global economist for Morgan Stanley, thinks higher rates are sorely needed to slow the economy and keep the bulls in their place. Fed Chairman Alan Greenspan said last December that the stock market was showing what he called irrational exuberance. Roach wants Greenspan to strengthen that warning when the Fed Chairman goes before Congress this week.

When it comes to the fiscal side of economic policy, Wall Street expects little mischief from the White House and Congress this year. While the budget deficit remains the Street's No. 1 concern, both Democrats and Republicans seem intent on a deal that would achieve balance by 2002. And what investors care most about--the deficit as a share of economic activity--has become a positive comfort to them. The deficit amounts to just 1.4% of gross domestic product, the lowest level since 1974 and a stunning improvement over the 4.7% share it claimed when Clinton took office.

So what else could go wrong? The biggest risk remains the threat that the Fed may yet decide to drive up interest rates to end the frothy speculation that Greenspan worries about. That would draw money out of stocks and into the bond market. "The availability of money and credit is what makes [the stock market] go," says Bill LeFevre, a senior stock-market analyst for the firm Ehrenkrantz King Nussbaum. "If you turn off the availability of money and credit, the whole thing falls of its own weight." But LeFevre and most other experts doubt that the Fed will take any strong action while inflation remains under control.

Still, there's no rule against hedging your risks. Jack Freedman, a Los Angeles film producer, favors stocks that yield sizable dividends, even if that means missing more glamorous performers. "I'm totally diversified, and I sleep very well at night," Freedman says. Such investors wisely run neither to nor from the bull market, but have learned to ride its up and downs. Alan Sunkel, a glassware entrepreneur in Kansas City, Missouri, recently shifted 10% of his $250,000 portfolio from stocks to money-market funds, lowering his equity holdings to 65%. "I'm worried about the market pulling back," he says. "But I wouldn't get out if it did." Way to go, Alan. Wall Street is counting on you.

--Reported by Bernard Baumohl/New York, John F. Dickerson and Adam Zagorin/Washington and Jeanne McDowell/Los Angeles, with other bureaus

With reporting by BERNARD BAUMOHL/NEW YORK, JOHN F. DICKERSON AND ADAM ZAGORIN/WASHINGTON AND JEANNE MCDOWELL/ LOS ANGELES, WITH OTHER BUREAUS