The economy stinks, Bernanke doesn’t know what he is doing, Washington is a mess, debt is way too high, and Europe is a time bomb! The market is at new highs!! Wait a minute, there seems to be an awful lot wrong out there and the market is hitting multi-year highs. I just do not get it. These are sentiments people have shared with me over the past few weeks. However, very often returns are based on better or worse, not simply good or bad.
In my opinion, we are dealing with the better or worse view of the market. It does not really matter what a company or the market as a whole has done in the past. Investors place their money on the better or worse trade. If they think things are getting better they will become more bullish on a particular stock or the market in general. If things are getting worse for a stock sellers will come in and drive its price down. Value, growth, doesn’t really matter. The key is if the general perception is that things are getting better or getting worse. The getting better camp has taken charge in recent weeks.
Jobs: Unemployment is certainly uncomfortably high. If the economy grows at 2.5% next year the rate of unemployment will remain static. If we can grow the economy in the 3.0% to 3.5% range job growth will follow. Several Wall Street strategists came out with growth projections in the 3% plus range last week. They see things as getting better. Of course only time will tell if they are right. In the short run these types of predictions help stock prices. If an influential strategist, or two, becomes more optimistic about the prospects for the economy in 2011 they are right in the near term. They will make their case and will have a positive impact on the market. They can only be proven right or wrong through the passage of time.
Taxes: The Bush tax cuts were extended. We all will have 2% more in our pay envelopes starting in the new year due to the cut in the amount we will pay for Social Security. (That is the OASDI line on your pay stub by the way.) The amount on that line for your deductions will decrease next year. The view last week was that will put more money in people’s pockets. And, hopefully it will only remain in their pockets for a short time. This tax move is supposed to stimulate consumer spending. The view on spending for 2011 is getting better. Time will tell.
Changes in how businesses can account for capital expenditures are another stimulus to spur spending. The market viewed this as a positive for business spending next year. If businesses spend more, produce more, hire more, then we all win. The market view over the last few weeks is that the economy will be getting better in 2011, not getting worse. That is a huge change from a few months ago when all the talk was about a double dip in the economy.
Will those taking this more optimistic outlook be right? Only time will tell. In the near run more people have come in and bought stocks, so prices have to rise. Looking farther out, if these rosy predictions prove false, the market will give back these recent gains. Leading Economic Indicators (LEIs) bottomed out in early 2009, just after the stock market bottomed. It rose with the market for the next several months. It topped out in late 2009 and headed lower, fueling the double dip camp. The LEIs bottomed out a few months ago and has lead the market higher. Keep an eye on that reading. That will tell you a lot more about how things are going than the opinion of any bull or bear.
As I wrote my piece last week the Dow was the last major index to confirm new highs for the year. The Dow was flirting with the 11452 level in the early part of last week. Extended tax cuts and the perceived handling of debt issues in Europe pushed the Dow above the last barrier of resistance. All three major indexes are at new highs for the year. The market began to lose momentum at the end of last week. That was through a reduction in buying activity, not an increase in selling pressure. The major averages are extended near term and ripe for at least a small pullback. If the market can just move sideways and consolidate recent gains we could see yet another move higher. Near term resistance areas for the S&P 500, Dow and NASDAQ are 1247, 11520 and 2652. The market flirted with all of those levels in early trading today, before the rally fizzled. Again, there was no real selling pressure, just a lack of new buyers coming in.
The bulls remain in charge. First quarter reporting season is just around the corner. Guidance for 2011 will be the focus as the market looks for evidence that the rally over the last four months will continue in 2011.
