Market Catches Breath, Awaits Earnings Reports

THE United States stock market, which has seen the Dow Jones industrial average roaring toward an all-time high of 3,500 points in recent months, is suddenly looking vulnerable.

Earlier this week, the market dipped well below the 3,400 mark on the Dow. Investors are concerned about a renewal of inflation, the sluggish pace of economic recovery, and the expec- tation of lackluster corporate earnings reports for the second quarter, which ends June 30.

Many Wall Street analysts now project that in the next few weeks the market will flounder, or worse, retrench before moving up again later this summer.

The market is waiting for clear-cut results in corporate earnings, says James Solloway, an analyst with Argus Research Corporation. "The Dow will probably meander for a few more weeks, at least until there is a sharper focus on what's happening with earnings." Long upward trend

But meandering may not be totally bad. The market has been on an upward roll for two years, despite the recession. It hit its low for those two years on Oct. 11, 1990, when the Dow skidded to 2,365.10 points. By early 1991 the Dow was climbing upward, based on signs of economic recovery. On Feb. 15, 1991, the Dow hit 2,934.65 points; the market then dipped downward in a correction in late 1991. But on Dec. 20, the Federal Reserve Board slashed the discount rate from 4.5 percent to 3.5 percent. This put s harp downward pressure on interest rates and the Dow resumed its climb, reaching an all-time high of 3,413.21 points June 1.

For some market technicians, however, that high level is alarming: Not only is the Dow reaching all-time highs, but so too are price/earnings ratios - the cost of stock in relation to company earnings.

The current P/E ratio for the Standard & Poor's 500 index is 25, based on earnings for the past 12 months. That's "an all-time high," says Arnold Kaufman, editor of Standard & Poor's Outlook newsletter. For example, the P/E on the S&P 500 reached about 22 before the market crash in October 1987.

This P/E ratio, however, is misleading, Mr. Kaufman says, since it reflects a number of extraordinary accounting write-offs taken by companies during the recent recession. Remove those unusual tax allowances, he says, and the P/E is nearer 17, a level not considered excessive.

Will the Dow resume its upward course later this summer, as the market gets a better feel for the pace of corporate earnings? Mr. Solloway, of Argus Research, says the market "has a shot at hitting 3,600 points."

"We're now in a temporary correction in a continuing bull market," says Hildegard Zagorski, an analyst for Prudential Securities Inc., an investment house. Prudential projects that the market will reach 3,700 "by the end of the year."

Part of the reason for continuing gains is because stocks are producing higher returns than many other investments. Money market funds and certificates of deposit, Ms. Zagorski notes, continue to earn interest rates at the level of passbook savings accounts. And a recent study by Salomon Brothers shows that for the 12-month period ending May 31, bonds and stocks outperformed tangible assets such as gold, silver, and paintings.

That pattern is not expected to change soon, Zagorski says. Political uncertainty

Gene Jay Seagle of Gruntal & Co., an investment firm, says one reason for the dip in the market is the US political setting. Investors, Mr. Seagle says, are "suddenly paying more attention to the possibility of Ross Perot being elected president."

But the investment community "doesn't like the unknown" when it comes to long-range economic policy, Seagle says. No one knows "with any certainty" where Mr. Perot stands on most economic issues, he adds.

Between political uncertainty and concern about corporate earnings, Seagle expects the stock market to float between 3,350 and 3,400 until testing 3,500 later this summer.

One problem facing investors is that no single sector of the market is showing strong leadership. Cyclicals, such as paper stocks, have been hit by sell-offs, even though cyclical stocks generally do well in a recovery. Consumer stocks, such as pharmaceuticals, have also taken losses.

Small investors continue to rush back into the stock market, particularly through buying into mutual funds. That pattern often occurs at the end of a bull market, as news of market gains becomes common knowledge and investors accept herd thinking.