I think it’s fair to conclude that all the economy’s bad news is now priced into the stock market. The vast majority of stocks have been hit hard in the recent correction and there is a lot of good value out there. But, we know that investor sentiment isn’t strong and, in order for stocks to advance in a meaningful way, a new catalyst is required.
It isn’t reasonable to expect that the economic data are going to improve significantly in the near term, so we can’t expect a new catalyst from there. The only thing I see as being able to move equities higher over the near term is earnings. The Federal Reserve already has interest rates about as low as they can go. There isn’t much more the central bank can do.
We therefore are likely to experience range-bound trading action until third-quarter earnings season begins. The key with new investments in this kind of market is to be highly selective, focus on quality, and look for higher-dividend yields. You’ll notice that the Dow Jones Industrial Average is significantly outperforming the S&P 500 Index, the NASDAQ and the Russell 2000. It’s because institutional investors only want blue-chips with yield. These are the best stocks in an environment of little to no growth. If you can’t get capital appreciation from the stock market, then you might as well get some dividend payments. Right now, there is no other way to beat the rate of inflation and maintain some liquidity with your holdings.
Large corporations with international operations are very well positioned in this market. Stock market valuations are reasonable, most big companies are sitting on piles of cash, expenses are under control, and there’s the prospect for a weaker dollar. All this has translated into solid earnings growth, and will continue to do so.
As I say, the stock market needs a new catalyst in order for it to advance in a meaningful way. Technically, the market is likely to consolidate around its current level. I think we won’t see much in the way of a new trend until we get into the next earnings season. The Fed can buy more bonds in the marketplace, but that doesn’t really help the Main Street economy. At the end of the day, there isn’t much policymakers can do to jump start things. The system is going to take more time to balance itself out.
If you look at the main stock market indices over the last decade, they haven’t returned anything. Only with dividends have shareholders been able to generate a rate of return that only slightly beats the rate of inflation. As a buyer of equities right now, I’d consider only the highest quality names that pay above-average dividends.