By Dave Ebner
The Globe and Mail
Report on Business
Friday, September 13, 2002

While war against Iraq could send stocks spinning lower, observers say long-term investors should avoid making major portfolio changes -- but people may want to keep an eye out for potential bargains.

"Your investment strategy is something that shouldn't change at the whims of the market," said Adrian Mastracci, president of fee-based investment adviser KCM Wealth Management Inc. of Vancouver.

North American stocks fared poorly yesterday as the Standard & Poor's 500 index fell 2.5 per cent and the Canadian S&P/TSX composite index lost 1.5 per cent of its value. War jitters spooked investors after U.S. President George W. Bush spoke before the United Nations, arguing that Iraq must be disarmed. Meanwhile, Alan Greenspan, chairman of the U.S. Federal Reserve Board, said budget deficits could dampen economic growth.

Still, Mr. Mastracci said, those investors with an adequate "tolerance" for risk may want to get aggressive if they see opportunities like those presented in 1990-91. From mid-July through mid-October, U.S. stocks fell almost 20 per cent, and Canadian stocks fell by about 16 per cent. From there, stocks mostly won back lost ground by March, 1991. In Canada, the market climbed about 20 per cent, while U.S. stocks gained around 25 per cent.

"People got off the merry-go-round," Mr. Mastracci said, "and, then, bang, stocks were back up."

Mr. Mastracci said investors should probably buy a market index rather than try to stock-pick or pick a sector.

Remember, however, that 1990-91 also featured a nasty North American recession, a contraction that began in the summer of 1990 just as stocks began to tumble and Iraqi President Saddam Hussein was poised to invade Kuwait. The recession makes that situation markedly different from today, a time in which the North American economy is slowly but solidly recovering from the mild recession of 2001, though some worry another recession could be on the way.

For instance, the Fed cut its benchmark federal funds rate by two percentage points to 6 per cent from 8 per cent between August, 1990, and March, 1991, the period of the war.

Today, the Fed doesn't even have two percentage points to cut with the funds rate at 1.75 per cent.

The implication for investors is that stocks rose in later 1990, pushed higher in part by falling interest rates, generally a positive for markets. The possibility of that kind of boost doesn't really exist today as the Fed made huge rate cuts last year -- and even that didn't help stocks.

Given all the variables, investors should sit tight, said Douglas Porter, a senior economist at BMO Nesbitt Burns Inc. in Toronto.

"That's probably the best advice," he said.

If a campaign against Iraq is "relatively successful," Mr. Porter said, the impact on markets should, with hope, be minor. But "if things go awry," major trouble may lie ahead, he added.

That would include a potentially serious blow to the global economic recovery, which by BMO Nesbitt Burns' reckoning is already "on a knife's edge." Oil prices could spike -- and stay -- higher, hurting consumer confidence and escalating costs for North America's energy-dependent economy, Mr. Porter said.

Trying to successfully trade around all these scenarios would be difficult, he added.

For investors who like to actively trade, Merrill Lynch Canada Inc. offered some ideas this week. Looking back at the Gulf War period of Aug. 7, 1990, through March 1, 1991, strategist and economist David Rosenberg found several sectors that were big winners -- and a couple that weren't so hot.

In Canada, the big sector star was biotechnology and pharmaceuticals, up more than 50 per cent. Food processors rose 21 per cent and food stores rose 12 per cent. Phone companies, 12 per cent higher in the seven-month period, and banks, up 10 per cent, also proved to be solid plays.

The big losers were oil-related. That seems strange at first glance, Mr. Rosenberg said, as the price of oil spiked to $40 (U.S.) a barrel in October, 1990, from less than $20 just three months earlier.

"Investors read the move to $40 a barrel as sowing the seeds for a retreat back to $20 as demand conditions faltered," Mr. Rosenberg observed. Indeed, as the United States and its allies enjoyed success against Iraq, oil prices fell back to $20 by February, 1991.

Canadian energy stocks lost more than 10 per cent of their value, Mr. Rosenberg reported. In the United States, integrated energy producers slipped only a few percentage points, but drillers and explorers lost 20 per cent of their value and more.

NOTE: The information provided above is intended for general informational purposes only. It does not constitute advice for anyone's specific situation. Everyone should always first consult directly with their advisors to determine the appropriateness of any information contained above before taking any action. KCM Wealth Management Inc. assumes no responsibility for any loss or damage arising from the use of, or reliance upon the above information.