A rally: Is bear market sprouting horns?

Wall Street momentarily came alive last week, as investors - mainly large institutions - moved their cash back into stocks and bonds. Indeed, the flurry of investor activity, marked by a sudden burst of volatility, was enough to prompt a series of press accounts about the emergence of a new bull market. ``Dow surges as interest rate fear falls'' was a Page 1 headline in USA Today. ``Rally, rally,'' was the subhead in a business page column in the New York Daily News.

Is this, in fact, the beginning of a long-range upswing in the market, with the Dow Jones industrial average finally breaking free from the doldrums of the 1,900 range it has hovered in of late? Or is this more like a technical climb, a momentary summer rally, the type of upswing the markets tend to see in July and August?

``We've been looking for a jump in the Dow because the market has been so dull,'' says Harry Laubscher, a market strategist with Tucker, Anthony & R.L. Day, a brokerage in New York. ``But I don't see a real rally under way yet. There will be some further profit taking before a genuine rally occurs. A number of groups in the market are improving, but they're not where they should be yet. And for every one group that moves up, three move down.''

Whatever, last week's sudden surge, with the Dow shooting up 107.57 points on Tuesday and Wednesday, came as momentary good news to a financial community that has been spinning its wheels, with mounting talk of new layoffs among investment houses.

On Tuesday, the Dow shot up 74.68 points, followed by a 32.89 point jump Wednesday. That jump put the Dow at its highest level since April.

The gains followed reports that recent belt tightening by the Federal Reserve Board may have slowed the inflationary momentum. The strength in bonds last week also eased concerns about inflation, thus boosting equities.

``The Fed has tightened and the market takes that as a process that is to the good,'' says Richard B. Berner, an analyst with Salomon Brothers in New York. ``The tightening also means a stronger dollar, and that, too, is perceived as good.''

On Wednesday, the government announced that its index of leading economic indicators rose 0.2 percent in April, the third monthly advance in a row. But the modest rise was also taken as an indication that growth is slowing somewhat, removing some inflationary pressure. May's 0.2 percentage point rise in unemployment was taken as another sign that the economy is not overheating.

For the week, the Dow closed up a record 114.86 points, at 2,071.30.

``This is a short-term phenomenon, but still a rally, a rally that is technically inspired,'' says Monte Gordon, vice-president of the Dreyfus Corporation. ``The market had come down so significantly and the pessimism has been so great that there had to be some type of rebound.''

Mr. Gordon is skeptical that last week's rally will be sustained. That said, he sees a number of positive factors converging, perhaps enough to help push the Dow over 2,100 later in the year. These factors, he said, include the perceptions that the United States may be close to a peak in interest rates and the inflation rate; that the Fed ``is moving in a slow and deliberate way, so as not to roil the markets''; and that ``the greatest economic growth for the year'' may have come in the first quarter.

Part of the reason for the recent market surge, according to a number of analysts, is the strong position of utilities, which - given their high yields - can look very tempting to investors during a period of economic uncertainty and climbing inflation.

``Traders have been looking at the utilities index, which has been up,'' says Ricky Harrington, vice-president and technical analyst with Interstate Securities Corporation in Charlotte, N.C. ``The utilities index often leads the market. But I'm now looking at the market on a short-term basis. I still think we're in a bear market and a downtrend. Yes, we'll have rallies like this along the way, and maybe we'll even get above 2,100, to perhaps 2,150 or so. But the gains in the past few days have occurred on a very, very thin market.''

Mr. Harrington believes the market will first test the lower-1,800 range - perhaps by midsummer - before an intermediate rally begins later in the year.

``What we're seeing is an improvement in the underlying trend of inflation,'' which pleases investors, says Michael Moran, chief economist with Daiwa Securities America in New York. ``But using the consumer price index as a guide, we'll probably see inflation climbing to over 5 percent on an annual rate by the end of the year,'' up from the 4 percent-plus range of the moment, he says. ``In 1989 the rate could move up to 6 percent.'' Such numbers, of course, send tremors throughout the financial community - and help to push down stock prices as investors scurry to move their money into high-yield instruments.

Mr. Moran does not see export growth, which has been doing very well recently, as imposing strains on production capacity. The ``machinery and equipment industries have ample room for expanded production,'' he says. But at the same time, he adds, the US is operating ``close to full capacity'' in such industries as paper, chemicals, textiles, rubber, plastics, and steel. He says capacity strains in these key industries could result in ``slower deliveries'' of some export items; moreover, price pressures on materials in these industries will eventually translate into higher retail prices.

Would such conditions work against a market rally down the road, such as later in the summer?

Mr. Berner, of Salomon Brothers, worries that that dry weather in the Midwest could put inflationary pressure on food prices, and be another impediment to a market rally later this year.