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Kass: Expect Substandard Returns

Doug Kass

Friday's opening missive generally outlined my expectations over the short and intermediate term.

In looking at the market's performance over the last two weeks, equities clearly made a SocGen market bottom, following the revelation of a rogue trader's $7 billion fraud/miscue. Since then (and even a week or so before), the market has been led by early-cycle sectors -- namely, retail, homebuilders and financials.

The market's momentum has been impressive over the last six trading days, but we have to recognize that Mr. Market is fickle, and his price action is exacerbated by a trigger-happy and sometimes unstable hedge fund community that dominates today's investment scene.

There is little doubt that the recent rally has been aided by large short-covering as poor shorts were probably put on into the December and January weakness.

V-shaped bottoms are often followed by backing, filling and testing; this cycle should be no different.

I continue to feel strongly that a recession will run deeper and longer than most expect, reflecting a levered and extended consumer who faces weak jobs growth and continuing inflationary pressures, which are not necessarily recorded in the BLS releases.

With construction expenditures dropping by 1.1% in December (twice the consensus estimate), it looks like fourth-quarter 2007 GDP growth of 0.6% will be close to zero. And with job growth turning negative -- on average, 42,000k jobs were created in the last three months compared to about 155,000 over the same period a year ago -- first-quarter 2008 GDP should be negative.

As I wrote in my surprise list for 2008, I expected a 5% to 10% decline in the S&P 500 for the full year, and that continues to be my general expectation.

Looking beyond our collective noses, I also feel strongly that a lumpy, inconsistent and uneven economic backdrop sets the stage for substandard stock market returns.