Hope Withers for February Market Breakout
NEW YORK (
) -- It's questionable whether the market can string together two months of gains after economic worries, European debt troubles and lackluster corporate outlooks handcuffed markets even before February began.
Many investors bought dips in stocks as January's rally dwindled. At the same time, buying and selling conviction remain low, suggesting there are plenty of reasons to argue for either a flop in February or a continuation of the market's monthly gains. Hence, investors are more or less taking a middle ground in their expectations.
Reasons for worry include weakness in recent economic numbers, the Fed's decision that the economy still warrants an additional year-and-a-half of low interest rates, Greece's unresolved debt troubles, and the not-so-great earnings season and outlook.
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Depending on whether you're taking a long versus short term perspective on the U.S. economy, in particular, you could end up with a different outlook for how fundamentals will affect stock performance.
For example, the government's report on economic growth in December was a downer -- 2.8% yearly growth fell short of estimates and some analysts were concerned that consumer spending, making up 70% of GDP, won't be able to buoy growth as much after the holiday season. Seasonal volatility in the weekly jobless claims numbers has sparked worries over whether the improvement in the labor market can remain on track. In the latest reading, claims rose 21,000 to 377,000, slightly higher than expectations. Even recent readings on manufacturing activity have fallen short of forecasts.
These details suggest that markets will face challenges moving higher in the near term. But, by comparing where the economy was in the summer of 2011 to where it is now, things actually look quite rosy.
"Taking a step back, it does seem clear that the economy has improved since the lull in growth in the middle of 2011 that was caused by the natural disasters in Japan, higher energy prices and the consternation over the debt ceiling debate," writes Bob Doll, investment strategist with BlackRock. "Looking ahead, we are calling for economic growth in the neighborhood of between 2% and 2.5% in 2012."
The latest reading on jobless claims is at an almost four-year low. The four-week moving average of jobless claims also tells an improved story, with the latest average falling, not rising. While one can argue that GDP growth of 2.8% is a disappointment, the fourth quarter was actually the best quarter for growth in 2011 and it beat the average pace of growth for the year of 1.7%.
On the corporate side, out of 39% of S&P 500 companies that have reported, only 57% have beaten earnings estimates for the fourth quarter, according to D.A. Davidson & Co. Some 66% of companies beat expectations at the same point in the reporting cycle in 2010. The spread between the percentage of companies that have raised guidance for 2012 versus the percentage that have lowered guidance has turned negative for the first earnings season since the end of the financial crisis, according to Bespoke Investment Group.
"Unless we get a pretty big reversal by the time earnings season ends in mid-February, it looks like we're now going to have two consecutive quarters with a negative guidance reading," writes Bespoke in a recent posting.
But again, there's an alternative way to look at corporate earnings -- many analysts say that U.S. corporations are much more healthy than their counterparts abroad and, therefore, investors will find that earnings results and guidance still warrant more buying of stocks. "A 75% to 25% mix between U.S. and non U.S.
stocks might be a reasonable tactical allocation within a developed market equities portfolio at this time," writes Aaron Gurwitz, investment strategist with Barclays.
Furthermore, there are signs that that stocks aren't as inclined to move in tandem. In 2011, it was almost impossible to pick between asset classes and different stocks as the European crisis brought markets down across the board. According to a recent report by Credit Suisse, correlation amongst Russell 2000 stocks has dropped to 20% from 74% last September. In other words, if there's room to distinguish bad and good apples, there's room for certain stocks or sectors to move higher.
Finally, there's Europe, which like economic fundamentals, looks quite different depending on how far back your recollection of the situation goes. There's plenty for investors to moan about, from the spike in Portugal's borrowing costs to the stalling of Greece's debt write-down and unfinished bailout deal. Some economists still believe in an eventual Greek default, suggesting that a bad surprise for markets may be yet to come. "It escapes me why this is taking so long. Insolvent countries must default," says Morningstar Investment Management economist Francisco Torralba.
New roadblocks are popping up for Greece, the latest one being Germany's insistence that the country give up partial control over its budget affairs to its European creditors in exchange for fresh bailout money. Nervousness that Greece will miss its late March bond payment deadline could curb risk appetite for investors in coming weeks.
Yet optimists point out that the European leaders have shown more urgency than they did in 2011, having seen the consequences of Europe's problems in global markets the latter half of last year. A permanent bailout fund seems closer to reach and officials have made headway in fiscal tightening, as bad as a method economists say it will be in reducing debt in the long run. The treaty that 25 out of 27 European Union nations agreed to late Monday was an idea that was mooted back in December of last year.
Market participants can brush off Europe as long as it simmers quietly on the other side of the pond. "Central banks remain highly committed to promoting better economic growth and while we are not expecting to see a clear resolution for the European debt crisis, we do expect it to remain reasonably well contained," Doll of BlackRock.
History shows that more often than not the S&P 500 manages to rise in February. 51% of the time to be exact since World War II, according to according to S&P Capital IQ investment strategist Sam Stovall. Many market participants agree that the long term inclination for stocks is to drift higher. Technical analysts say that they all see bullish signs -- the 50-day moving average on the S&P 500 now exceeds the index's 100-day moving average.
However, history also shows that any gains will probably be minimal. "The S&P 500's average return in February ranks 11 of 12
months, which is not surprising since the November through January performance for the market is the strongest three-month period of the year and therefore in need of a rest," says Stovall, who examined data since 1945.
The S&P 500 was sitting at 1,313 as of Monday's close. Stovall's near term target is a range of 1,350 to 1,370.
-- Written by Chao Deng in New York.
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Chao Deng
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