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Cheery forecast
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January 17, 2002: 6:26 p.m. ET
Lehman Brothers' Applegate says rate cuts and spending will fuel 2002.
By Money magazine senior writer Suzanne Woolley
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NEW YORK (CNN/Money) - Longtime Lehman strategist Jeff Applegate has been in the bullish camp for ages, and he's not budging. When MONEY met with Applegate in December, Lehman's World Financial Center headquarters had been uninhabitable since Sept. 11. (Applegate and his displaced colleagues had been working out of a block of hotel rooms in midtown Manhattan.)
Lehman was scheduled to move into a nearby, recently purchased office building come January, and Applegate was looking forward to having an actual office again. In contrast to the many strategists forecasting dreary returns in 2002, he envisions a bright year for equity investors.
One foundation for Applegate's relatively rosy outlook is his belief in the power of lower interest rates to spark economic growth. With the Federal funds rate at 1.75 percent and the inflation rate at 2.5 percent, the "real" (or inflation-adjusted) Fed funds rate is now below zero. "In just about every business cycle, you needed rates to get to zero to generate a recovery from a recession," he says. "That has never failed to generate an economic recovery. Never. And never is not a word we use much in this business."
In addition, tax relief and increased government spending could help grease the wheels of commerce. Applegate is further encouraged by the administration's embrace of a more positive, extroverted stance on trade policy. Sept. 11 has emphasized the importance of global links and, he figures, at the end of the day, that's market-friendly. "That means that global growth is more efficient," he says, "and therefore more productive -- and therefore disinflationary."
No doubt about it: Investing is riskier these days. "In a war," Applegate says, "society has to divert resources from productivity enhancements to security enhancements, and there's a negative impact from that on productivity and profit margins." That said, he does not think either effect is "hugely negative" for margins -- or the market.
One reason for his optimism is that productivity data are looking good. "In the last business cycle, we poured a lot of money into capital spending, and we got an acceleration of productivity," Applegate says. "That productivity benefit should persist for several years." While GDP contracted in the third quarter, productivity went up, he notes. The implication: "Profit margins, which are high compared to the sweep of history, are going to stay high because the productivity is there to support them."
So where do we look for gains? Applegate likes the consumer-discretionary and financial sectors. Lowe's Companies is a favorite. "It's a do-it-yourself play at a time when we're on the verge of a consumption-led recovery, with the lowest home mortgage rates in 40 years and the highest level of home ownership ever," he says. "So guess what? Their market is a lot bigger." Discount retailer Best Buy is another play on a revived consumer.
In the financial arena, Applegate is staying away from pure-play banks and focusing on asset managers such as Franklin Resources. He also likes Citigroup for its colossal reach. "If you own an American company with a global footprint, you can take part in the recovery here and elsewhere," he notes.
What sort of wild-card events might unsettle markets? Another terrorist attack heads the list. In more typical times, volatility in energy prices is also a usual suspect. "But think about who is one of our 'allies' now," says Applegate. "Russia. After the Middle East, what's the second most important place on the planet where oil comes from? Russia and Central Asia. So now you have the potential of having a more stable ally sitting on top of a pile of oil." 
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JEFFREY APPLEGATE'S PICKS
