(February 14) – “Two things are taking place in the world financial markets right now. In the United States, we are seeing a divergence between the new and the old economy stocks,” writes Richard Croft in today’s Financial Post. “Traders tend to view the Nasdaq 100 index as representative of technology and new economy, while the Dow 30 — despite the representation within it of Microsoft Corp. and Intel Corp. — is seen as the benchmark for old economy stocks. The Standard & Poor’s 500 composite index, which is used in the FPX indexes, is also populated with traditional companies, although the skew toward old economy is not as pronounced as it is in the Dow.”

“It should surprise no one that the Dow Jones industrial average has fallen about 10% from its most recent highs. That’s significant, in that a 10% decline is defined as an official correction. One should expect old economy stocks to falter in an environment where interest rates are rising. If higher interest rates lead to a slowdown in economic activity, old economy stocks suffer.

“Traditionally, when investors shift from stocks, they move to bonds. But this time, the shift has been away from old economy to new economy stocks. The reason being that investors perceive there is no direct link between higher interest rates and a slowdown in earnings growth for these stocks. This was confirmed last week when Cisco Systems Inc. — clearly new economy — reported blow out earnings, well ahead of analysts’ expectations.

“So we have dislocation within the U.S. stock market. Year to date, the Dow has fallen about 10%. Year to date, the Nasdaq 100 has risen about 8.9%.

“Overlooked in the hype surrounding these indexes is the performance of the Canadian stock market. The Toronto 100 Index Participations, which is used in the FPX indexes as the representative investment in the Canadian stock market, is up 9.3%, in line with the Nasdaq’s performance.

“Are we to presume that Canada represents new economy stocks? Probably not. What we are seeing is a Canadian rally on the backs of BCE Inc. and Nortel Networks Corp. Clearly, these are two new economy bellwethers that have a disproportionate 18% weighting in the Toronto 100. Look south of the border, bellwethers such as Microsoft and Intel represent less than 7% of the movement in the Dow 30.

“From a portfolio management perspective, the FPX indexes have done what they were designed to do. They have successfully navigated periods of particular volatility. Despite the fluctuations among individual components of the FPX, the overall portfolio has had a relatively smooth ride so far this year. A well-constructed portfolio has assets that tend to move in different directions at different points in the business cycle.