It’s All About the Momentum—as Soon
as It Slows, the Stock Market’s Done

earnings seasonThe stock market’s recent pullback isn’t the kind of correction the market needs. Recent trading action is more about a lack of buyers than outright selling. The S&P 500 Index ran up quickly to 1,420 and was definitely in need of a break. With stock market buyers having already placed their bets before this earnings season begins, the recent pullback was only natural.

The Federal Reserve was right to say that further monetary stimulus would not be necessary if current momentum in the U.S. economy continues. I feel that the Federal Reserve already has too much stimulus in the system and that interest rates are artificially too low.

This earnings season, I think we’re going to get another mixed bag of results, with some industries doing much better than others. The key will be all about expectations. Since the fourth quarter of 2011, current expectations this earnings season are quite lofty.

I repeat my view that the stock market is likely to top out this year, so I’m not a big advocate of taking on major new positions. This earnings season is likely to be decent and so might the second quarter. But the U.S. economy is coming due for another slowdown or recession and I think that there isn’t enough momentum currently for the U.S. economy to accelerate going into 2013. With the BRIC countries slowing, it’s going to be equally difficult for corporate earnings to accelerate. U.S.  have padded their earnings over the last several years from strong international operations, particularly in Asia. This is changing now and so must investor expectations.

If the stock market is in the process of topping out this year, then so must corporate earnings. This earnings season is going to be very telling and what businesses say about upcoming quarters will be the catalyst for the stock market’s near-term direction. Frankly, I think that investor expectations are a little high this earnings season and we may be in for some disappointments. What I want to see is the strength in the industrial economy trickling into the Main Street economy. (See Who’s Buoying up the Stock Market for 2012?) We’ve seen this with renewed strength in the retail sector, but it needs to be more broadly based.

I have to remind myself that large-cap companies continue to run lean operations. Every earnings season last year provided better than expected corporate earnings, especially considering the state of the economy. While this didn’t necessarily motivate stock market investors to take action, it added to the valuation quotient, which was a catalyst in moving the stock market higher at the beginning of this year.

This earnings season, I’d be happy with no surprises. The stock market doesn’t need corporate earnings to be surprisingly strong; only to show that there’s momentum in the numbers. Again, I think the stock market is going to make a major top later this year. As soon as we get an earnings season that reveals slowing momentum, this market is done.