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Kass: On Stocks and Bonds

On stocks I continue to view the likely 2014 range in the S&P 500 as between 1625 and 1925.

Early last week, with the S&P 500 at approximately 1750, I suggested that the reward vs. risk in stocks had turned more positive for the first time in many months.

The 70-handle recovery in the S&P 500 over the last five trading days has reversed the upside/downside to Mr. Market back into negative territory.

Though not meant to be precise -- there is no secret sauce -- my fair market value calculation for the S&P 500 is about 1645, some 175 S&P points lower than Tuesday's closing level of 1820.

With the global economic recovery and the bull market maturing, I don't expect stocks to rise for the sixth consecutive year. Rather, it remains my view that the S&P 500 will be down between 5% and 15% in 2014. P/E ratios could contract this year -- in marked contrast to the expectations of most Wall Street strategists. (Note: The consensus forecast is for about a 10% rise in stocks this year.)

The risks to stocks remain to the downside based on the view that consensus expectations for economic and corporate profit growth are too optimistic. The downside will likely be contained by a friendly Fed chaired by Whirlybird Janet Yellen.

Domestic economic growth will likely moderate from last year's second half as the benefits of inventory accumulation subside. Profit margins, at multidecade highs, are exposed. And so are P/E multiples vulnerable after the near-25% expansion in valuations in 2013. I remain unimpressed with fourth-quarter 2013 earnings and even more so regarding forward profit guidance for 2014.

Consensus 2014 S&P profits of $120 a share are likely to be $7-$8 a share too high.

In essence, the unexpected rise in stock prices in 2013 borrowed from 2014.

We are currently at about 1820 on the S&P 500. From my perch, this means that there is approximately 195 points to the downside and about 105 S&P points to the upside.

This slightly unfavorable reward vs. risk (1:2) explains my 15%-20% net short exposure to equities.

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