We like to think that the past gets wiped away at midnight on Dec. 31, that as we usher in the new year, everything that hurt and hindered us will fall away. For most this is just a useful myth, something that can help prompt us to improve our lot. For portfolio managers, however, it's actually true.
January comes, and all the losses of 2001 go away. The big drops in 2000? Just a distant memory. In the what-have-you-done-for-me-lately world of Wall Street, everybody's odometer gets pushed, or more likely pulled, back to zero in the coming week. Kind of a nice feeling, but also especially daunting this time around.
The economy is at a crossroads right now: Either recovery is at hand, or there's further pain to come. The market has pinned its hopes on the former, and it's about to find out if it's right. Two big economic reports -- the December
purchasing managers index and the
jobs report -- dominate the coming week.
The purchasing managers index came back nicely in November, jumping to 44.5 from October's 39.8. (Anything below 50 indicates contraction in the manufacturing economy.) But it's hard to figure out if that move was anything more than a bounce off the severely depressed levels that followed Sept. 11.
If, on Wednesday, the index shows continued improvement, it would bode well for the recovery process, if not send an all-clear signal on the economy. It would signal that corporate America's massive culling of inventories, along with the collapse in business investment, is coming to a conclusion.
"It's going to be important just to see how much progress manufacturing has made in finding a bottom," said J.P. Morgan chief economist Calvin Schnure. "The business sector has been subtracting a huge amount from GDP."
During the last recession the index touched bottom just two months before the trough in the economy.
If the state of manufacturing is one key to figuring out the shape of the recovery, jobs is the other. Even as businesses led the way down in this recession, consumer spending continued to grow -- albeit not as robustly. But businesses' cuts have translated into a steady erosion in the job market, and lately unemployment has spiked higher.
In November, the jobless rate hit 5.7% (up from 4.9% just two months earlier) and payrolls fell sharply. If jobs continue to deteriorate badly, further gains in consumption will be measly. That could lead to, if not further declines in the economy, a meager recovery at the outset.
Fortunately, weekly jobless claims data suggest the labor market isn't taking body blows anymore. Bill Dudley, Goldman Sachs director of U.S. economic research, believes the report will show a little more weakness, but not much, helping to augur a recovery. Still, he doesn't expect economic growth to begin anew until the second quarter, partly because a sharp drop in corporate bonuses will damage many people's incomes, and partly because construction activity is going to see a payback now that the weather has finally cooled.
Growth by the second quarter isn't bad, though, when it comes to the famously forward-looking stock market. Steep valuations aside (the
price-to-earnings ratio is within spitting distance of an all-time high), Jeff Warantz, strategist in Salomon Smith Barney's private client group, thinks stocks' dismal days are over. "We may have a sideways market," he said, "but we've got the main problems behind us."
His work on market breadth suggests that smaller companies may continue to perform better than the major averages. In general, small- and mid-cap stocks have lower valuations than their bigger brethren. They also garner more of their earnings domestically, and this may be important in a year in which the global economy looks like it will suffer long past a recovery in the U.S.