stock. He is much more likely to sell stocks.
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Charles Dow also put forth the idea of market trends. Likening them to tides,waves, and ripples in the sea, he considered a trend to have three parts: primary, secondary, and minor. The primary trend is the tide; the secondary trend (sometimescalled the intermediate trend) is the wave, and the minor trends are the ripples. Theprimary trend is the long period of rising or falling stock prices. The secondary trendgenerally lasts three weeks to three months, and moves against the primary trend.These secondary trends will retrace, or correct, anywhere from one-third to two-thirdsof the prior trend’s movement, with the most frequent correction being about 50%.Dow believed the third or minor trend represented fluctuations in the secondary trend and would last around three weeks. For example, during a period oftwo or more years of rising stock prices, the primary trend is up. When the primary trend is up, it is referred to as a bull market. During a long period of risingstock prices, the primary trend takes stock prices higher; but occasionally the secondary trend will move counter to the main market movement. Therefore, the secondary movement in a bull market is generally a period of three weeks to threemonths in which stock prices fall. In contrast, when the primary trend is down,stock prices are said to be in a bear market. In this case, the secondary trends willmove counter to the market and take stock prices higher. The minor trend occurswithin the secondary trend and represents fluctuations in the secondary trend—generally considered unimportant.In addition to market averages and the idea of market trends, Charles Dow developed a number of other interesting insights with respect to stock market activity.After his death in 1902, his successor at the Wall Street Journal, William P. Hamilton, refined Dow’s early ideas. Over the course of 27 years, Hamilton developed theDow Theory, which has several basic tenets:1. The averages discount everything. The market is the world’s most efficientprocessor of information. Anything that happens, including an act of God (!),is automatically priced into the market.2. The market has three trends. (As discussed earlier.)3. Major trends have three phases. The accumulation phase (informed buyingby those closest to the company), the public participation phase, and a distribution phase.4. The averages must confirm each other. Originally Mr. Dow was speaking ofthe railroads and the industrials, the only averages at that time. Although theyboth needed to be in the same primary trend, they didn’t have to begin at theexact time. This relationship confirms the trend.5. Volume must confirm the trend. Mr. Dow was a big believer in volume; itshould increase in the direction of the primary trend.6. A trend is assumed to be in effect until it gives a definite signal it has reversed. Talk about a visionary! This last tenet is one of the basic rules ofmodern-day technical analysis (which will be discussed in Chapter 9).
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The Dow Jones Industrial Average and Dow’s early insights have withstood thetest of time. The DJIA is still the quintessential barometer of stock market performance and is quoted daily on the evening news. While the DJIA has evolvedthrough the years, the information derived from it is essentially the same. It gaugesthe stock prices of 30 U.S. companies and reflects developments within the U.S.economy. In addition, the publishers at Dow Jones & Co. take special care to ensurethe index evolves as the nature of the economy changes. For example, in 1999 software maker Microsoft and semiconductor company Intel were added to the index toreflect the growing importance of high technology in the U.S. stock market.The Dow is still a price-weighted index in that the average prices of all 30 components are added together and one final average is computed. Due to stock splits andchanges within the index, however, a simple average created discontinuity in the performance of the index. For example, if a company within the index has a high stockprice and is replaced with a company with a lower stock price, the average value willdrop. To ensure continuity, then, the sum of all the stock prices is divided using a divisor that is continually adjusted to reflect stock splits and changes within the index.To learn more about the Dow, its components and history, go theDow Jones Indexes home web site at averages.dowjones.com/home.html.
INDEXESIn the late 1800s, bonds were highly regarded as the investment instrument ofchoice primarily because they offered investors a guaranteed interest rate. In contrast, the stock market was unknown territory. Information on stocks was hard tocome by and even more difficult to understand. Most of the available informationwas the product of precarious tips and disreputable rumors.An index is made up of a select group of stocks. A trader can use an index tomeasure and report value changes to the whole group by tracking its high and lowprices, today’s performance in relation to yesterday’s close (or the past year), trading volume, and volatility. Each measurement signals a possible trend in whicheversector the index represents. Monitoring index performance is another key to understanding the general mood of the marketplace.There are a variety of indexes tailored to reflect the performance of many different sectors of the marketplace. Some indexes are referred to as the major or senioraverages in that, like the DJIA, they measure the performance of the largest andmost widely followed companies trading on the U.S. exchanges. Major averages include the following:• The Dow Jones Industrial Average ($INDU): Sometimes referred to as theDow 30, because it consists of 30 stocks, the Dow Jones Industrial Average isthe oldest market average in the world.• The Standard & Poor’s 500 ($SPX): The S&P 500 is capitalization-weightedand widely followed by institutional investors. The index consists of 500
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BROAD MARKET ANALYSISstocks: 376 industrials, 39 utilities, 75 financials, and 10 transportation companies (as of Nov. 15, 2000).
• The New York Stock Exchange Index ($NYA): The NYSE index measures theaggregate performance of all stocks trading on the New York Stock Exchange.• The Nasdaq Composite Index ($COMPQ): The Nasdaq Composite is a capitalization-weighted index and measures the performance of all stocks tradingon the Nasdaq.• The Wilshire 5000 ($TMW): One of the broadest measures of U.S. stocks, theWilshire 5000 was created in 1974. Since that time, the number of stockswithin the index has increased from 5,000 to 7,000.• U.S. Total Market Index: In February 2000, Dow Jones & Co. launched thisnew index designed to represent a fixed percentage (95%) of all U.S. stocks.Another popular way of categorizing stocks is by market capitalization or marketcap. Recall from the discussion in Chapter 3 that market capitalization refers to thevalue of all a company’s shares. Indexes that have been created to gauge the performance of stocks based on market capitalization (also known as asset class) includethe following:• The Russell 2000 Small Cap Index ($RUT): Often referred to as the Russell,the Russell 2000 is one of many indexes created by the Frank Russell Group inTacoma, Washington. It is a measure of the 3,000 most actively trading stockson the New York Stock Exchange, the Nasdaq, and the American Stock Exchange, with the 1,000 largest companies removed. It is the most widely followed gauge of small-cap stock performance.• The S&P Midcap 400 Index ($MID): The Standard & Poor’s Midcap indexconsists of 400 (mostly industrial) companies. Selection is based on marketsize and popularity (measured by liquidity or trading volume) and is a widelyfollowed barometer for the performance of mid-cap stocks.• The Wilshire 4500 Index: This index includes all of the companies of theWilshire 5000 with the components of the S&P 500 removed. Therefore, itprovides a measure of both small and mid-cap stocks.So, while the Dow Jones Industrial Average, the S&P 500, and the other senioraverages measure the performance of America’s largest companies, there are anumber of indexes designed to track the activity of other asset classes (i.e., smalland mid-cap stocks). As an investor, understanding the difference between the performance of small-cap, mid-cap, and large-cap stocks can help in your investmentdecisions. There will be times when small-cap stocks perform better than large-capstocks; and other times when the opposite occurs. Understanding how your particular portfolio is weighted in terms of asset classes can help you to interpret the relative performance of each individual issue. For example, if you find that yourportfolio consisting primarily of small-capitalization stocks is not performing well,
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and at the same time the Russell 2000 Small Cap Index is lagging behind the largecap or senior averages, you may want to consider decreasing your exposure tosmall-cap stocks and adding some larger companies to your portfolio.Just as there are ways to separate the stock market into small-, mid-, and largecap stocks, indexes allow you to view the performance of the stock market in termsof specific economic sectors. Standard & Poor’s, for example, separates the stockmarket into 11 economic sectors: utilities, basic materials, cyclicals, consumer staples, energy, transportation, financials, technology, capital goods, health care, andcommunication services. The performance of most economic sectors can thus bemeasured using the following indexes:• The NASDAQ 100 ($NDX): The Nasdaq 100, or NDX, is a measure of the100 largest nonfinancial companies trading on the Nasdaq (see Figure 6.12).Given that most are technology companies, the index offers an accurate gaugeof the technology sector.• The Dow Jones Utility Average ($DJU): The Dow Jones Utility Average wasdeveloped in 1929 when all utility stocks were removed from the Dow JonesIndustrial Average and a separate index of only utility stocks was created (seeFigure 6.13).• The Dow Jones Transportation Average ($DJT): Originally known as theDow Jones Railroad Average, the Dow Jones Transportation Average offers areliable means of studying the transportation sector (see Figure 6.14).
Figure 6.12 Annual Price Graph of the NDX Index (Courtesy of QCharts(www.qcharts.com))
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BROAD MARKET ANALYSIS
Figure 6.13 Annual Price Graph of the Dow Utility Index (Courtesy of QCharts(www.qcharts.com))
• The AMEX Oil Index ($XOI): A number of indexes track the performance ofthe energy sector (see Figure 6.15). For a comprehensive list, go toStockscape.com (www.stockscape.com/stockscape_com/energy.cfm)A large number of indexes are designed to track the performance of economicsectors and industry groups. Most sectors have at least one representative index.Some, such as the technology sector, have several. Going further, an economic sector can be divided into industry groups, and there are also indexes designed togauge the performance of those specific groups. For example, there are a number ofindustry-specific indexes within the technology sector, including:• The PHLX Semiconductor Index ($SOX): The PHLX Semiconductor Index,or SOX, is a price-weighted index of 16 U.S. companies engaged in the manufacture and distribution of semiconductors and semiconductor capital equipment (www.phlx.com/products/sox.html).• The PHLX Box-Maker Index ($BMX): The PHLX Box-Maker Index is aprice-weighted index consisting of nine companies involved in various aspects
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Figure 6.14 Annual Price Graph of the Dow Transportation Index (Courtesy ofQCharts (www.qcharts.com))
Figure 6.15 Annual Price Graph of the AMEX Oil Index (Courtesy of QCharts(www.qcharts.com))
of the manufacture, distribution, and sales of desktop and notebook personalcomputers (www.phlx.com/products/bmx.html).• The Street.com Internet Index ($DOT): The Street.com Internet Index consists of 20 companies engaged in the Internet commerce, software, and servicesector (www.thestreet.com).
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• Labpuppy.com: Don’t laugh; it’s a real site. Go here to see what to me is thehandiest, most convenient way to view virtually every major index and theirperformance charts, all on one web site (www.labpuppy.com).Today’s investors use indexes to dissect the market and view it in terms of assetclasses, economic sectors, industry groups, and sector rotation. Given the overwhelming size of today’s market, the primary trend within one group or sector maybe up while another is down. By developing and following your own list of indexes,you can gain insight as to sector dynamics within the overall market, which shouldhelp you to make better trading decisions.Some places to turn to for performance data on various indexes are theWall Street Journal, Barron’s, Investor’s Business Daily, and the FinancialTimes. For specific information on how indexes are constructed and thecomponents of each index, investors can go online and visit the ChicagoBoard of Options Exchange (www.cboe.com), the American Stock Exchange(www.amex.com), or the Philadelphia Stock Exchange (www.phlx.com).
HOLDRSMerrill Lynch has been developing HOLDRS, sector-specific depositary receiptsthat trade like stocks, but actually are made up of a group of stocks. This enables thetrader to easily and conveniently buy a basket of stocks within a sector.
HOLDRS: Holding company depositary receipts represent ownership in stock ofa group of companies engaged in a specific industry. For example, there arebiotechnology, semiconductor, pharmaceutical, and other industry-specificHOLDRS. Unlike index funds or index shares, they are not designed to track aspecific index. Rather, they represent ownership in a group of stocks engaged inone particular industry.
One study I’m aware of discovered that being in the right sector outperformedbeing in the market at the right time by a margin of 4:1! Sector selection is critical,and HOLDRS are a good way to take advantage of a sector’s price action(www.holdrs.com/holdrs/main/index.asp).
Index Shares (iShares)Exchange-traded funds (or index shares) are funds that are designed to match theperformance of an index. That is, the funds buy the same stocks that are in the index. The shares of the funds are traded on an exchange like a stock. The first indexshare—the S&P Depositary Receipt (SPDR, also known as Spiders)—was launchedby the American Stock Exchange (AMEX) in 1993. It is designed to track the
USING INDUSTRY SECTORS AS FORECASTING TOOLS
189
performance of the S&P 500 index. Later, the AMEX launched index shares on theDow Jones Industrial Average (Diamonds) and the Nasdaq 100 (QQQ).The AMEX has also begun listing sector-specific index shares or iShares. Theyrepresent ownership in either funds or unit investment trusts that hold portfoliosthat generally correspond to the price action of broad-market, sector-specific, or international securities. They are traded and quoted on the AMEX as a common stockwould be.
iShares: A new series of exchange-traded funds (ETFs) created by BarclaysGlobal Investors. The family of iShares includes more than 50 different indexfunds with shares that trade on the American Stock Exchange like stocks.
USING INDUSTRY SECTORS AS FORECASTING TOOLSAs alluded to previously, the economy has an array of sectors that can be doing wellas another is doing poorly. There’s usually a direct translation to that sector in themarket for why it is performing poorly. Obviously, it’s important to know whichsectors are performing well at all times. If you are researching a particular stock,definitely take the time to study the company’s respective industry sector. Many investors believe that almost half of a stock’s price performance can be attributed toits respective industrial sector.Keeping tabs on industry group leadership is another important key to analyzingthe marketplace. To compare the price performance of each industry, simply use theInternet to access lists that detail the 10 best- and worst-performing industries.These lists confirm which industries have been experiencing the highest and lowestpercentage of profits. From there, you can look at the 10 best and worst specificcompanies, the top 100 dollar-volume issues, or the greatest price percentage gainers and losers of the day. Some sites even let you key in a specific stock’s symbol tocompare its performance to the overall industry’s or that of an index. Each list andchart provides a piece of the puzzle. Once you have gathered enough tidbits of information, you start to get a feel for the big picture. Figure 6.16 features a partial listof sector indexes and their respective symbols.Obviously, some sectors outperform other sectors at different times. It stands toreason we want to own stocks in sectors that are doing well. This information canbe found in various places, including the Wall Street Journal and Investor’s Business Daily.Recently we have seen money flowing into and out of various sectors (sometimes called sector rotation). For example, money might flow from semiconductorsto Internet portals to dot-coms to biotechnology. As money flows into a sector, allthe stocks in that sector tend to benefit with increasing prices, sometimes withmeteoric increases. Just as quickly, as the capital flows out of that sector and into
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BROAD MARKET ANALYSIS
Sector
Ticker Symbol
Auto PartsBanksChemicalsComputers
AUXBIXCEXIXCO—U.S. ComputerIndexHWI—ComputerHardware IndexIXFINSRIUXINXIIXECM
FinancialInsuranceInternet
Medical/Health careOil and Gas DrillingOil and Gas Producers/PipelineRetailSoftwareTelecommTransportationUtilitiesFigure 6.16
ExchangeS&PS&PNasdaqAMEX
HCXOSXXOI
NasdaqNasdaqS&PCBOEAMEXDow Jones InternetCommerce IndexS&PPHLXAMEX
RLXCWXXTC$TRAN$UTIL
AMEXCBOEAMEXDow Jones TransportsDow Jones Utility Index
Sector Breakdown
another, the price increases deflate (often leaving them languishing below the pricesthey enjoyed before the capital flowed into that sector).One prominent source of daily information on sector performance is Investor’sBusiness Daily. The paper has divided the market into 197 different sectors. Each daythey publish and rank the relative price performance of each group for the prior sixmonths in a section titled “Investor’s Business Daily Industry Prices.” By searchingout the best-performing sectors, one can quickly develop a list of the firms most likelyto increase their share prices and then can apply appropriate strategies with a bullishbias. Conversely, if one chooses to be bearish, then search out the worst-performingsectors and look at the firms in those sectors ready to tumble.Another useful method to determine what sector is hot is to watch the number ofnew issues or IPOs being brought to market. More IPOs means conditions are good;investors are receptive to the prospects in this part of the economy.Go to IPO Maven for a very extensive list of sectors andthe companies that are scheduled to go public or thatalready have (ipomaven.123jump.com/index.php3).
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191
MARKET INDICATORSIn addition to indexes and sectors, there are a number of tools called indicators thatprovide insight into the broad market analysis within the stock market. Specifically,let’s take a brief look at the following four indicators: the advance/decline line, upand down volume, TRIN, and new highs/new lows. Additional indicators will beexplored in the technical analysis and sentiment analysis chapters still to come (seeChapters 9 and 10).
Market BreadthThe advance/decline line (A/D line), also known as market breadth, is simply ameasure of the number of stocks advancing versus the number that are declining.For example, if 2,400 stocks advanced and 1,200 declined during a trading session,market breadth is said to be two-to-one positive (2,400/1,200 = 2/1). If the oppositeoccurs, breadth is said to be two-to-one negative. The A/D line is a graphic representation of the advance-decline ratio over a period of time. It is cumulative. Thatis, each day declining stocks are subtracted from advancing stocks, and the total,whether positive or negative, is added to the previous running total. Therefore, during a trading session when advances outpace declines, market breadth will be up(after subtracting declining from advancing issues, the result will be positive), andthe A/D line will improve or move higher.Advance/decline line (A/D line): A technical analysis tool representing the totaldifferences between advances and declines of security prices. The advance/decline line is considered the best indicator of market movement as a whole.
The advance/decline line is best used in conjunction with the senior averages. Forexample, it is generally considered a good sign when the Dow Jones Industrial Average and the New York Stock Exchange A/D line are rising together. However, whenthe Dow Jones Industrial Average is setting new highs but the A/D line is movinglower, it is considered an unhealthy sign; in a nutshell, more stocks are falling thanadvancing. In that case, breadth is said to be lagging or poor. Figure 6.17 shows theadvance/decline line of the NYSE from January 1996 through December 1998. Inthe period from September 1997 through December 1998, the NYSE Composite index showed higher moves, while the advance-decline line, after some gyrations,ended up considerably below where it started. Since more stocks were declining thanadvancing, many market strategists considered it an unhealthy sign.
VolumeVolume is the level of activity associated with a specific market or security. Up volume and down volume are helpful market indicators. Each day, the New York Stock
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BROAD MARKET ANALYSIS
Figure 6.17 New York Stock Exchange Advance-Decline Line (Courtesy ofDecisionPoint.com)
Exchange reports the level of trading activity—the total number of shares traded.The Wall Street Journal reports this daily in both print and online publications. Forexample, the table in Figure 6.18 shows that the total volume on the New YorkStock Exchange on Friday, April 7, 2000, was 888,387,000 shares. The marketstrategist, however, will look beyond the total volume and to the advancing versusdeclining volume (the two rows just above it). In this case, there was more declining than advancing volume. This is generally interpreted as a negative sign becauseit shows a greater number of sellers than buyers. An important factor to considerwas the performance of the senior averages in conjunction with up and down volume. When the market rises and advancing volume outpaces declining volume, it isinterpreted as a positive or bullish sign. In this case, the market moved modestlylower, but down volume exceeded up volume—a convincingly bearish sign.
TRINThe closing Arms Index, or TRIN, is a volume indicator derived by using the advance/decline ratio and up and down volume. Again, the Wall Street Journal reportsTRIN daily. The formula to compute TRIN is pretty straightforward:TRIN =
Volume declining / Number decliningVolume advancing / Number advancing
TRIN
193NYSE MARKET DIARY
FRI
THU
WEEK 4/7
Issues tradedAdvancesDeclinesUnchangedNew highsNew lowszAdv vol (000)zDecl vol (000)zTotal vol (000)Closing tick1Closing Arms2 (trin)zBlock trades
3,4241,4511,4385355335391,917428,922888,387–641.118,153
3,4431,8161,1734544531625,186290,105999,371–910.7220,416
3,6061,7951,5892221511602,702,6212,439,5755,527,060
Figure 6.18
118,751
Stock Market Diary (April 7, 2000)
Using Figure 6.18 yields:TRIN =
428,922 / 1,438391,917 / 1,451
= 1.1
Market analysts use TRIN to focus on the volume of trading. Specifically, if adrop in the senior averages is accompanied by heavier trading volume, it is considered to be a bearish sign. A ratio above 1.0 is considered to be a market negative because the falling stocks have greater average volume than advancing stocks. WhenTRIN is below 1.0 it is interpreted as a market positive since there is a greater percentage of volume associated with advancing rather than declining issues.
New Highs and LowsAs a final indicator, market analysts focus on the ratio of new highs to new lows.New highs refer to stocks that are setting new one-year highs during the trading session. New lows are stocks that are setting new one-year lows. The new highs/newlows indicator is simply the number of new highs minus the number of new lows.This type of data offers the most insight when used in conjunction with the senioraverages. When the Dow Jones Industrial Average is rising to new highs and theprimary trend is bullish, if the New York Stock Exchange new highs/new lows ratiois also moving higher, it is interpreted as a bullish sign because there is strength inthe overall market. On the other hand, if the senior averages are recording newhighs, but the new highs/new lows ratio is moving lower, it is considered bearishbecause more stocks are moving lower than higher.In addition to the statistics on New York Stock Exchange trading, the Wall
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Street Journal and Investor’s Business Daily both report similar data with respectto Nasdaq and American Stock Exchange trading. It is sometimes insightful tocompare the data between the Nasdaq and the New York Stock Exchange. Occasionally, trading activity and market data on one exchange will differ substantiallyfrom another. For example, on March 1, 2000, there were 31 fewer stocks settingnew highs than stocks setting new lows on the New York Stock Exchange, but 364more stocks were setting new highs than new lows on the Nasdaq. The wide disparity served as evidence that overall market strength favored the stocks on theNasdaq.
THE BIG PICTUREA variety of important factors impact the performance of stock prices as a whole,and there are an equal number of tools for monitoring their performance. CharlesDow understood that stock prices exhibited a degree of comovement when he developed the first index in 1884. Since then, however, the market has grown in sizeand complexity, and investors now have a number of other tools available for studying the happenings within the stock market. While the Dow Jones Industrial Average is one means of gauging trends within the market, a number of other sector andindustry indexes now exist. Using them allows you to compartmentalize the marketto get a better feel for which groups are in bull versus bear markets. Indicators suchas the advance/decline line, TRIN, and new highs/new lows provide additional information into the composite performance of stocks. In sum, by understandingwhich factors influence stocks as a whole and the tools for monitoring the activityof the market, you will be better equipped to evaluate the performance of your stockportfolio and make changes as events warrant.
ROADMAP TO SUCCESSObjective
Course of Action
Assessing theEconomy
The economy is cyclical in nature:• Expands and contracts.• If it expands too quickly inflation is the result.• If it contracts too much we have a recession.• Inflation is a general increase in the price of goods andservices.• Inflation erodes purchasing power, and is always present.
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• Economic reports issued by various government agenciesindicate where the U.S. economy is in its economic cycle—growing or slowing.RegularHow do you measure inflation?measurements• Benchmark measurements—a specific point in time is usedindicate where theas a starting point.United States is in • Inflation is calculated from an arbitrary starting point.the economic cycle.Example: Base year is 1975. How has inflation grown fromJanuary 1, 1975, to present?• Economy is too large and complex to rely on onemeasurement.• A number of indexes track the growth of inflation.–Month to month.–Quarter to quarter.• Leading and lagging indicators.–Leading indicators: forecast.–Lagging indicators: diagnose the data retrieved.For the most popular charts (most requested), go to Economagic(www.economagic.com).Who is in charge of The Federal Reserve Board (the Fed):overseeing the• Founded in 1913economy?• Primary purpose is to provide the nation with a safer,more flexible, and more stable monetary and financialsystem.• Influence money and credit conditions in the pursuit of fullemployment and stable prices.• Supervise and regulate the banking system.• Maintain stability in the financial system and containing riskthat may arise in the financial markets.• Provide certain financial services to the U.S. government andthe public.Federal ReserveSystem Structure
Board of Governors: Alan Greenspan is the Fed Chairman.• There are12 regional Federal Reserve banks.• Federal Open Market Committee (FOMC), made up of:–Board of Governors.–President of Federal Reserve Bank of New York.–Four other regional presidents on a rotating basis.• FOMC oversees open market operations, which is the maintool used by the Federal Reserve to influence growth ofmoney and credit.
Tools Used byFOMC uses three major tools:FOMC to Influence • Open market operations; the buying and selling ofthe Economygovernment securities to influence the liquidity in thedepository system.
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BROAD MARKET ANALYSIS• Set reserve requirements for banks; how much money theyneed to keep on hand.• The discount rate—the interest rate charged commercial bankswhen they borrow money from a regional reserve bank.To learn more about the FOMC, go to www.federalreserve.gov/fomc.
Setting interestrates is the mostinfluential thingthe Fed can do tomodulate theeconomy.
Interest: the price paid for borrowing money.• Interest is the cost of money.• Businesses of all sizes use borrowed money to grow theircompanies.• If money is cheap (low interest rates), more is borrowed. Lowinterest also stimulates growth in all sectors of the economy.• If money is expensive (high interest rates) businesses put offexpansion; things slow down; people defer major purchases.The economy begins to contract.• Banks set their interest rates according to the amount theyhave to borrow from the Fed. (They don’t use their ownmoney all the time.)• If the Fed hikes rates to the banks, the banks hike rates toyou.Go to Economagic, and under its “Most Popular Charts” section,click on Discount Rate to see history of interest rate changes(www.economagic.com/popular.htm).
Interest rates arethe primary toolthe Fed uses.
To understand interest rates as a tool for heating or cooling theeconomy, think of a teeter-totter.• Envision rates on one side of the teeter-totter, the economyon the other.• The trick is to keep the economy growing without causinginflation.• If the economy side of the teeter-totter gets too high, the Fedraises rates to bring