We are hard pressed to find anyone who isn’t a bit more optimistic about the state of affairs this year than last. There are positive signs that the economy is beginning to pull out of the mud: corporate purchasing agents are buying slightly more products and services, so manufacturing is creeping up. The consumer seems more confident, or at least says so, since consumer sentiment just notched its highest level in a year. Even housing is beginning to move out of its mud hole. While it is much too soon to say we’re out of danger, at least we can peek out from the mud and begin to see some signs of life.
With better news comes a panoply of outlooks, ranging from dire, to muddling through to, in a few cases, daringly optimistic.
This year’s 2012 Market Forecast, sponsored by the New York Society of Security Analysts (NYSSA) an event I attend annually, was another sell out, as investors and those who work with them gathered to glean the wisdom of the sage. Vinny Catalano, who heads Blue Marble Research, put together an impressive panel of analysts, strategists and prognosticators, all of whom shared their wisdom, thoughts and, yes, a few fears, on what lies in store in this all-important election year.
Before embarking on it, however, let’s see how well a similar panel did for 2011. Readers of this column may remember some of the forecasts from last year:
2011 Forecast vs. 2011 Actual
Corporate Profits: $95 (forecast) vs. $98 (actual)
Real unemployment rate: 15% (forecast) vs. Still 15% (actual)
Commodity prices: higher (forecast) vs. most prices lower (actual)
Wikileaks: will be defanged (forecast) vs. appears to be (actual)
S & P Index: 1400 (forecast) vs. 1258 – didn’t move at all (actual)
The S&P index was a huge disappointment in 2011. Corporate earnings performed, but the price/earnings multiple did not – rather than a projected 15, it was below 13. (Remember, the multiple reflects investors’ optimism regarding future earnings growth. A lower multiple suggests that investors are not very optimistic, and last year’s market close confirmed it).
Even though the tone of this year’s conference was cautiously optimistic, there are different concerns, mainly, the Euro zone debt crisis and its spillover effects on us. And, for that matter, on China. Remember last year, when China was all the rage? This year, China presents cause for concern. According to Peter Bookvar, equity strategist at Miller Tabak 7 Co., LLC, “China’s cooling growth is compounded by the slowdown in Europe, since Europe is China’s biggest trading partner.” That’s as good a reason as any to be cautious – China is the largest holder of US debt, so we want them to continue to do well, at least while we are running such huge deficits.
Will Europe default? While the Euro zone fall apart? “No”, said Mujtaba Rahman, an analyst with Eurasia Group’s Europe practice. “But there are big issues between Germany and the rest of Europe. If you look at Europe’s history, the current situation is unprecedented. If there is no resolution on policy, it will continue to ‘muddle through’”.
Glen Reynolds, who runs CreditSights, Inc., commented that both banks and consumer balance sheets are stronger now, and that while corporations have the ability to spend, banks still are not lending, despite their capacity to do so. Why? “There is little corporate demand. Much of the lending we saw early in 2011 was for refinancing, rather than origination. At current capacity utilization levels, there is not yet a need for expansion”. He also commented that if Europe weakens further, US banks, as counterparties, could too. Let’s hope not.
The best news appears to be the inflation outlook – in the range of 2%-3%, according to Phil Orlando, Equity Market Strategist for Federated. He also predicts $102 for corporate earnings, and while higher than last year, the multiple is lower. (The corporate earnings figure derives from adding all earnings for all 500 companies in the index and then applying a divisor to the equation.)
By way of explanation, in previous years, the S&P index could be estimated by applying perhaps a 14 multiple to the earnings, or a 1428 year-end level, in this example (102 x 14 = 1428). Now, however, he suggests that 13 may be a more realistic multiple for 2012, or a 1326 level for the S&P by year-end (102 x 13 = 1326). The lower multiple again suggests that investors are less optimistic about future earnings. So, from today’s 1292, that represents a mere 2% gain. Not exactly robust, but in this economy, we’ll take it.
Nearly all panelists agreed that utilities, consumer staples and health care will be strong performers as we move forward in 2012.
The panelists also commented that 2012 has some unpredictable outcomes: the Supreme Court will hear the health care arguments, and there will be uncertainty in the markets. Also, while the panelists all agree that stocks are cheap, based on their fundamentals (earnings, cash position, debt levels), the 2012 election outcome is critical for fiscal policy and regulatory reform.
And, to paraphrase Pepys, so to the election. Dan Clifton, who heads up the Washington office of Strategas Research Partners, LLC, noted why the South Carolina Republican race is so important. “South Carolina has picked the Republican nominee in every election since 1976”. As we go to press, the election results may be prescient.
No matter who wins, the election’s outcome will give us certainty as to the regulatory landscape and taxes. There is ample debate on both sides of the aisle. Whoever wins, at least we all will know the rules. Then things can move forward. Nearly everyone agrees that the ongoing uncertainty is anathema to a robust economy.
Sam Stovall, Equity Strategist at S&P, weighed in with some election thoughts. He tracked the historical stock performance during election years from 1948 onward, and had these comments:
1) During an election year, the stock market offers an attractive intra-year entry point that is about 8% below the prior year’s closing level (READ: sometime this year, the market will probably drop 8% from the 2011 year-end close of 1258, to somewhere around 1157. That level should be considered a buying opportunity).
2) In all elections since 1948, the January Barometer was accurate in forecasting positive calendar-year performance. As the saw goes, “As goes January, so goes the year.”
3) 85% of the time since 1948, the market has accurately predicted whether the party in power remains. The critical period to watch is from July 31, 2012 through October 31, 2012. If the market is up during that 3-month period, the Democrats are in. If not, look for a change.
This year, we won’t need to wait until January 2013 to know how the year will fare. November is only a little over 9 months away.