What Ails Transportation Stocks?

For followers of the so-called Dow Theory, it was no surprise that the Dow Jones industrial average took a spill last week. While the industrial stocks were flirting with new highs in mid-September, the 20-stock Dow transportation index was in a nose-dive.

The century-old Dow Theory holds that both the industrial and transport indexes must hit new highs together to legitimize a market advance. If the industrials surge while the transports head south or languish, more often than not the industrials’ rally will fall apart.

The Dow industrials zoomed nearly 100 points between Sept. 13 and 15, reaching 3,953.88--just 25 points shy of the index’s all-time high. But that same week the Dow transport index was deep into a renewed slump that had begun on Sept. 1. From that date through Sept. 15, the index dropped 65.77 points, or 4%, to 1,576.45.

Last week, as the industrials tumbled, the transports fell even harder. The Dow transport index closed at 1,499.41 on Friday, its lowest since mid-1993 and 19% below the all-time high of 1,862.29 set last January.

Why should weakness in transport stocks bode ill for the broader market? Historically, Wall Streeters have figured that falling prices of railroad and trucking stocks heralded a drop in shipment of goods. That would suggest a deteriorating economy--bad for most stocks.

Some investment pros, however, feel that the Dow transport index’s usefulness as an economic predictor has been diluted with the inclusion of airline stocks in recent decades. As fare wars have raged, the airline industry’s earnings (and stocks) have been decimated even as the economy has blossomed.

Still, Merrill Lynch & Co. analyst Richard McCabe says his research shows only five other times in 60 years when, like today, the Dow industrials were trying to rally while the Dow transport and the Dow utility indexes (the third of the trio) balked at following. In four of those five times, the industrials soon gave up and followed the other two indexes sharply lower, McCabe says.