CLARKSBURG -- Alan Greenspan, chairman of the Federal Reserve, announced a reduction of 50 base points in the federal interest rate Tuesday. But what does that really mean?
In real-world terms, it means that getting a loan for a house or a car will be cheaper over the next few weeks.
Greenspan's decision to lower the federal rate for the third time this year was a reaction, in part, to a rapidly declining stock market, said Christopher Knotts, a financial adviser with Morgan Stanley Dean Witter in Bridgeport.
After realizing astronomical highs during the last year, the American stock market has been readjusting itself, Knotts said. Technology stocks, some of which were the hottest items in 1999 and 2000, are drastically lower this year than they have been.
Even more "traditional" stocks, such as Wal-Mart and Coca-Cola, are trading at lower values now, he said.
"In the last five years, investors had over-inflated the market. They bought and bought and bought and some of the stocks got way over-valued," he said. "Some of the stock prices were not in line with corporate earnings and eventually the bubble had to burst and valuations had to come down."
But is this "bear market" reason for investors to panic?
Most investment professionals and economic advisers say no.
"At the moment, the stock market is like a wave, but it is very good, especially if you diversify," said K.R. Nair, economics professor at West Virginia Wesleyan College in Buckhannon. "What you have to look at is the fundamentals of economy and as far as the U.S. is concerned, the fundamentals are solid, with a strong corporate sector.
"There is nothing to be pessimistic about the economy," he said.
Nair cited the "Rule of 72," a formula for determining when an investment will double. Dividing 72 by the average annual return will result in the number of years it will take that investment to double, Nair said.
An annual average return of 12 percent -- which the stock market has returned since 1926 -- will double in six years, he said.
"For the average family, stocks are probably the best investment one can think of," Nair said.
The theory behind dropping the federal rates is that lower rates puts more money in people's pockets and encourages spending, said Darrell Moorhead, branch manager for Ferris, Baker Watts in Clarksburg. Lower rates also encourages stock market investments, he said.
"The stock market and the bond market basically compete for the same investors. In the early 90s when the rates fell, a lot of money went to the stock market that probably would have gone to bonds," Moorhead said. "When you're getting 4.5 percent on a CD (certificate of deposit), people say heck, I'd rather buy a stock.
"When the rates go down, people put their money in the stock market, they spend more which makes the companies more prosperous and the stocks go up," he said.
Regional writer James Fisher can be reached at 626-1446 or by e-mail at jfisher@exponent-telegram.com
