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Kass: 15 Surprises for 2012

Stock quotes in this article: MS, BX, C, FNM, FRE, GS, MSFT, YHOO, SPY, HD, LOW, F, GM, MUB, SHLD, TGT, WMT, IYR, AAPL, PCLN, BIDU, GOOG, AMZN, TROW, BEN, LM, MFC, LNC, ETFC, IFF, K, SLB, XOM, EWG, EWQ, STI, FXI, EPI, INP

My 15 Surprises for 2012

"More than any other time in history, mankind faces a crossroads. One path leads to despair and utter hopelessness. The other to total extinction. Let us pray we have the wisdom to choose correctly."

-- Woody Allen

Ever since 2007, my contrarian and variant surprise lists were almost always downbeat relative to consensus. I adopted a Kafkaesque sense of hopelessness and an almost Woody Allen-like sense of foreboding (see quote above). It was as if I was giving a traffic report from the perspective of chronicling the automobile accidents on I-95.

You'll be swell! You'll be great!
Gonna have the whole world on the plate!
Clear the decks! Clear the tracks!
You've got nothing to do but relax.
Blow a kiss. Take a bow.
Honey, everything's coming up roses!

-- Stephen Sondheim and Jule Styne, " Everything's Coming Up Roses"

But, my new surprises for 2012 represent a fundamental turn toward optimism and a marked departure from the pessimism expressed in my recent surprise list history -- as I move metaphorically from the Broadway stage of Woody Allen's 1966 play Don't Drink the Water to Stephen Sondheim and Jule Styne's 1959 Broadway musical Gypsy's " Everything's Coming Up Roses" (see lyrics above).

For the last few years, since the financial and economic crisis of 2008-2009, caution, restraint and the word "no" have characterized and dominated the economic, social and political backdrop. In 2012, however, our surprise list moves toward an inflection point in which bolder steps, expansiveness and the word "yes" begin to dominate the political, economic and stock market stages.

This new, brighter and more positive narrative is the essence and the common thread contained in my surprise list for 2012. (And this year, following each surprise, I am introducing a specific strategy that might be employed in order for an investor to profit from the occurrence of these possible improbables).

Surprise No. 1: The U.S. stock market approaches its all-time high in 2012. The beginning of the New Year brings a stable and range-bound market. A confluence of events, however (discussed further in the body of the 15 Surprises for 2012), allows for the S&P 500 to eclipse the 2000 high of 1527.46 during the second half of the year. The rally occurs as a powerful reallocation trade out of bonds and into stocks provides the fuel for the upside breakout. The market rip occurs in a relatively narrow time frame as the S&P 500 records two consecutive months of double-digit returns in summer/early-fall 2012.

Strategy: Buy out-of-the-money SPDR S&P 500 ETF Trust (SPY) calls.

Surprise No. 2: The growth in the U.S. economy accelerates as the year progresses. The U.S. economy muddles through in early 2012, but, with business, investor and consumer confidence surging in the fall, real GDP accelerates to over 3% in the second half. Unemployment falls slightly more than consensus, but the slack in the labor market continues to constrain wage growth. Domestic automobile industry sales soar well above expectations, benefiting from pent-up demand and an aging U.S. fleet. Inflation is contained but begins to be worrisome (and serves as a market headwind) in late 2012. Corporations' top-line growth is better than expected, and wage increases are contained. Operating margins rise modestly as sales growth lifts productivity and capacity utilization rates. Operating leverage surprises to the upside as 2012 S&P profits exceed $105 a share.

A noteworthy surprise is that the residential real estate market shows surprising strength. The U.S. housing market becomes much bifurcated (in a market of regional haves and have-nots), as areas of the country not impacted adversely by the large shadow inventory of unsold homes enjoy a strong recovery in activity and in pricing. The Washington, D.C., to Boston, Mass., corridor experiences the most vibrant regional growth, while Phoenix, Las Vegas and areas of California remain weak. The New York City market begins to develop a bubbly speculative tone. Florida is the only area of the country that has had large supply imbalances since 2007 that experiences a meaningful recovery, which is led by an unusually strong Miami market.

Strategy: Buy Home Depot (HD), Lowe's (LOW), building materials and homebuilders, and buy auto stocks such as Ford (F) and General Motors (GM).

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