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TIME: Heightened terror concerns this summer held back stocks. Can the market ever roar again in a code-orange world? BERNSTEIN: I don't think that's what's holding the market back. We're in a situation where it's pretty clear the Fed is going to tighten and you have slowing earnings growth. Surprise, surprise, the market is not doing all that well.
VALLIERE: Wouldn't you have to say that there's some terrorism factor? The fact that oil is at $45 a barrel.
BERNSTEIN: There's a speculation thing in oil; the hedge funds are running wild.
TIME: Well then, are the market's ills related to election uncertainty?
BERNSTEIN: Honestly, I think it's more the uncertainty of interest rates. But I'll say this: Over 70% of money managers think Bush is going to win. In theory, that's priced into the market. The biggest surprise that would move the market would be a Kerry win.
GALLAGHER: The last two times you had a Democratic challenger beating a Republican incumbent, there was a selloff in the fall, and then in '92 you had the rally starting a couple of weeks before the election, and in '76 you had the rally right after the election.
TIME: Let's talk about stock sectors, starting with the health-care industry.
VALLIERE: One big story is the drug stocks, like Pfizer and Eli Lilly. If it appears that Kerry has a decent lead sometime after mid-September, the drug stocks, which haven't had a great year anyway, could come under more pressure. Kerry could do things through regulation. If it looks like Bush is going to win, there would be a decent rally for the drug stocks. And it is my belief that hospitals, HMOs, nursing homes might do better under Kerry because the Bush budget in early '05 would give a haircut to these sectors.
BERNSTEIN: Most health-care analysts have been focused on the pressure the government will be applying. They have not studied the increased usage when drug prices come down, which at least partly offsets that. And drug companies are not cyclical. What we've seen in the last year is quite normal for a period where profits are accelerating. When the profit cycle decelerates, drug-company valuations come right back.
TIME: Let's go to defense stocks.
GALLAGHER: We have defense stocks as a long position in the Bush index but not as a short position in the Kerry index because I don't think that either would be able to cut defense spending. Bush might be a little more favorable. But I don't see defense as greatly in play.
VALLIERE: The perception is that the defense stocks could suffer under Kerry. The reality is it's unlikely Congress would agree to whack these programs.
TIME: So if defense stocks fall with a Kerry win, buy them?
VALLIERE: Probably.
BERNSTEIN: There aren't many industries that you can feel certain about 6% or 7% revenue growth for several years, which is the case with defense contractors.
TIME: What about energy?
BERNSTEIN: Energy is the long-term growth story in the United States. You have tremendous undercapacity and barriers to entry. Do you know that Indonesia, which is an OPEC country, is an importer of oil? It's not that they don't have it; they haven't invested in the infrastructure to get it out of the ground.