Is the Stock Market Where It Should Be After QE3?

business arrow diagramOn a lot of occasions, the stock market sells off on the reality of its expectations, but it hasn’t since the Federal Reserve announced a third round of quantitative easing (QE3). The main stock market indices are holding up very well, consolidating more so than selling off on the news. Stock market sentiment continues to be relatively positive, with some hope for the economic future and the expectation that third-quarter earnings season won’t be terrible.

There’s still a lot to be said for the stock market’s reasonable valuation, given the earnings picture. With fairly priced stocks, a lot of which are trading close to their 52-week or all-time highs, there’s always room for a little more expansion in price and less contraction on the downside. A stock market that isn’t expensively priced gives the marketplace a lot more leeway for changes.

Some benchmark stocks that I follow on a continual basis are holding up extremely well, leading me to expect further upside ahead until we get into the heart of third-quarter earnings season. Union Pacific Corporation (NYSE/UNP) is an important component of the Dow Jones Transportation Index, and this stock is trading right at its all-time high, still with a current dividend yield of 1.9%. (See “The Top Stocks Making Money in This Market Right Now.”)

Take a look at Union Pacific’s stock chart:

Union Pacific Corp NYSC + BATS Stock Chart

Chart courtesy of www.StockCharts.com

On the comeback trail is industry benchmark General Electric Company (NYSE/GE), which was hit very hard during the financial crisis in 2008/2009. The stock is about halfway through its recovery to its pre-financial crisis level, lagging most of the stock market. See GE’s short-term stock chart below.

General Electric Co NYSE + BATS Stock Chart

Chart courtesy of www.StockCharts.com

While GE’s revenues dropped in 2010 and 2011, the company was still able to grow its earnings over comparable years, albeit at a very modest pace. This is the advantage that large-cap companies have when facing a recessions; even though revenues might be stagnant or falling, they can still grow their earnings by implementing strict cost controls. This is why employment in the U.S. economy isn’t improving; large-cap companies would rather sit on the cash than invest in new plants, equipment, and employees.

For stock market investors, however, earnings are the only result that matters; while GE’s share price hasn’t recovered like many other brand-name large-cap companies, its current share price looks like it was a natural progression from 1995—if you eliminate the big stock market bubble in the late ’90s and the stock market collapse in 2008/2009. In a sense, GE’s share price is exactly where it should be, considering the company’s earnings growth.

I extend this view to the rest of the stock market. Given the market’s recent earnings, share prices and the main stock market indices are exactly where they should be.