The catalyst we need for a sustainable stock market advance isn’t yet present. Economic news still isn’t strong enough to warrant rising share prices. While corporate earnings are mostly solid, expectations for earnings growth over the coming quarters are modest at best. This makes the potential for a bullish stock market highly very low.
As I’ve written previously, I would be happy if the S&P 500 Index would hold around the 1,300 level for now. All of last year’s investment risks remain, but it’s pretty obvious that investors have grown tired of thinking about the eurozone debt crisis. A Greek default is almost assured and, while this will pressure the euro currency, the news is already priced into the stock market.
What are holding the equity market at its current level are decent fourth-quarter earnings and reasonable valuations. This is a difficult market in which to make predictions, but there is a growing probability—in my view—that the stock market will perform similarly to last year. A strong start, followed by consolidation and then correction is likely to reflect the change in earnings expectations this year. The economic news is mostly expected to be what it is now—lackluster. So, with the expectation for modest gross domestic product (GDP) growth, it’s difficult to imagine improving corporate visibility. Industry specific economic news should continue to be varied this year, with some sectors significantly outperforming others. The certainty about interest rates is useful, but it’s also a sign that the Federal Reserve expects the economy to continue to be difficult. There’s no bright light at the end of the tunnel yet; it’s continued mediocrity for next while.
With the expectation of choppy economic news and the likelihood of declining earnings expectations over the coming quarters, individual stock selection is absolutely key in a market without a tailwind. (See Austerity, Inflation, Sovereign Debt & Earnings Growth—An Investor’s Survival Guide.) Price strength in gold, silver and oil is a necessary confirmation if the stock market is going to advance further in a meaningful way. My view is that the stock market will be holding up well if the S&P 500 index can build a base around 1,300. As I said, the economic news isn’t yet strong enough for share prices to make a big advancement. Good corporate earnings were the catalyst for a strong January, but the stock market’s next catalyst is elusive.
Very shortly, the market will be in the “lull” between earnings seasons and this makes share prices that much more vulnerable. With only economic news and geopolitical events to go on, investors will be skittish. Accordingly, the trades in the stock market will be event-driven or corporate-specific only. A general investment strategy in this kind of market isn’t likely to work too well. Outperformance is all about owning the right stories at the right time. Fortunately, the economic news right now isn’t bad enough to cause a major decline in sentiment. If we can hold around the current level, the stock market will be doing well.