6/9/2014 6:45 PM ET|
Where to put your money now
As we near the halfway mark of 2014, the bull market isn't over -- but expect a choppier ride ahead. Large, economically sensitive companies are poised to benefit.
Remember when you were younger, full of exuberance and able to jump higher and run faster? Was it only last year that a charging bull delivered a 32 percent return to investors in the U.S. stock market?
The bull has matured and is now facing some of the setbacks of middle age. So far this year, the Standard & Poor's 500 Index ($INX) has returned just 3 percent. Still, we're convinced that the bull market has got plenty of life left, so don't give up on it yet.
In our January issue, we predicted that the S&P 500 would finish the year in the vicinity of 1,900, and the Dow Jones Industrial Average ($INDU) would close above 17,000. At midyear, we still think that's a good, conservative bet, although it's possible that stocks could tack on a little more -- with the S&P closing between 1,950 and 2,000. That would produce gains of 6 percent for the year and would translate to roughly 17,500 for the Dow.
Stock returns will mirror growth in corporate earnings, which analysts estimate at 6 percent to 7 percent this year. Dividends will add another two percentage points to the market's return.
But the market has grown more complicated, with a lot going on beneath the surface. The tide is no longer lifting all boats -- in order to prosper, you'll have to be choosier about where you invest. Many of yesterday's market leaders are becoming today's laggards, making for choppier waters overall.
In general, we think the rest of the year will favor larger companies over smaller ones; companies that sell at reasonable values over high-growth, high-priced stocks; and companies that are more sensitive to improvement in the economy than those considered more defensive. (All prices and returns are as of April 30.)
Five-plus years into the bull market, "2014 will be a big test," says Matthew Berler, co-manager of the Osterweis Fund. Investors will grade the bull on how well it manages some midlife crises -- or, if not crises, at least challenges.
Readying for higher rates
The bull's first challenge will be making the transition from a market driven by super-easy monetary policies and little competition from fixed-income investments to one more focused on corporate profits.
The Federal Reserve is unwinding its bond-buying program aimed at keeping long-term rates low and will eventually look toward raising short-term rates, most likely next year. As investors begin to anticipate that tightening, the market could suffer a 5 percent to 10 percent pullback, perhaps in the fourth quarter, says David Joy, chief market strategist at Ameriprise Financial. But if raising interest rates to a more normal level is seen as a vote of confidence in the economy, as he suspects will be the case, then it won't be the end of the bull market.
As for earnings growth, companies must become less dependent on the plump profit margins engineered by cost-cutting and other maneuvers and more reliant on revenue growth. "I'm cautious," says John Toohey, who directs stock investments for USAA. "And my caution revolves around one theme: We need to see more revenue growth."
- Also on Kiplinger: The bond rally isn't over
Since the financial crisis, per-share earnings growth has been strong as companies have cut costs, refinanced high-cost debt, lowered tax bills and bought back shares. A recent spike in mergers and buyouts is aimed at buying revenue growth, Toohey adds. But he and others would prefer to see more growth coming from actually selling more goods and services. "We're a little surprised we haven't seen it yet," says Toohey.
Such growth will hinge on whether the economy can finally accelerate convincingly. Kiplinger's expects gross domestic product to expand by 2.4 percent this year, up from 1.9 percent growth in 2013, with the growth rate picking up to 3 percent or better in the second half. Many of those who are optimistic about the economy and the stock market are pinning their hopes on another crucial transition -- the one in which companies segue from stockpiling cash to spending it.
"We're five years out from the Great Recession," says Joseph Quinlan, chief market strategist at U.S. Trust, Bank of America Private Wealth Management. "Companies have been hoarding cash. The next five years will be about deploying it."
In recent years, companies have spent generously on dividends and share buybacks. But a resurgence in corporate spending on physical assets, such as factories, equipment and office space, has been the missing link to more robust economic growth. Such capital expenditures are part of a virtuous cycle as increasing production necessitates spending, in turn creating jobs and income growth, which then increases consumer demand, boosting corporate revenues and profits.
The time is ripe for a capital-spending recovery. With some $1.6 trillion on the books of S&P 500 firms as of year-end, cash stockpiles are enormous. Commercial and industrial lending is also picking up. And companies are nearing the point at which they can't squeeze any more production out of existing plants and equipment.
The average U.S. structure, be it a power plant, hospital or restaurant, is 22 years old. That's close to a 50-year high, reports Bank of America Merrill Lynch. The average age of business equipment, including computers and machinery, is more than seven years old, the highest since 1995.
Buybacks lose favor
Meanwhile, spending on share buybacks, a winning strategy until recently, is now penalizing companies and investors as rising stock prices make such programs expensive. The 20 percent of companies with the largest number of share buybacks in relation to their respective market values outpaced the S&P by nearly nine percentage points in 2013 but lagged the index slightly in the first quarter of 2014, says BMO Capital Markets. Shareholders are voicing their preference for spending on capital equipment over buybacks, dividends and acquisitions.
Bank of America Merrill Lynch sees capital spending growing at a rate of 4.7 percent this year and 5.7 percent next year, more than double the 2.6 percent growth rate in 2013. Beneficiaries of a spending boom would include tech, industrial and energy companies, as well as companies that discover and process raw materials. These economy-sensitive sectors together account for more than 40 percent of revenues generated by S&P 500 companies.
Tilting your portfolio toward economy-sensitive stocks in general is in order as economic growth picks up, and a number of money managers favor these so-called cyclical stocks. USAA's Toohey recommends Eaton (ETN), a maker of industrial equipment. The 2012 acquisition of Cooper Industries is boosting revenues at the company's electrical products and services unit, its biggest division.
Jim Stack, of InvesTech Research, is a fan of software giant Oracle (ORCL), which has attractive growth opportunities in cloud computing and is trading at just 13 times estimated year-ahead earnings.
Osterweis manager Berler likes Occidental Petroleum (OXY), a resource-rich energy company that has decades' worth of drilling opportunities with its existing assets, as well as one of the strongest balance sheets in the industry. Investors interested in owning a broad array of industrial concerns can explore iShares U.S. Industrials (IYJ), an exchange-traded fund.
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Even if all goes according to the bullish scenario, however, investors will soon realize that investing in a bull market approaching senior-citizen status is different than what they've grown used to. Until recently, for instance, a winning strategy for investors was simply to buy and stick with winning stocks. But a momentum-based approach is no longer working. For evidence, look no further than the recent fall of high-flying biotech and social media issues. The Nasdaq Biotechnology index has fallen 16 percent from its February 25 peak, and shares of social media standouts Twitter (TWTR) and LinkedIn (LNKD) plunged 48 percent and 40 percent, respectively, from their recent peaks.
The good news is that the market's most overpriced sectors are retreating without bringing the broader market down with them. "Bubble talk was applied broadly to the market, but really applied to only those high-flying areas," says Liz Ann Sonders, chief investment strategist at Charles Schwab.
Stocks overall are still fairly valued, if no longer cheap. Based on estimated year-ahead profits, the S&P 500's price-earnings ratio is 15 -- a tad below the long-term average and well below the levels of past market peaks. If the market's hot spots can cool down on their own, "it's possible we can wring out the excesses without a major calamity," says Sonders.
The perils of politics
That's unless Washington roils the markets again. Midterm election years bring political uncertainty and stock market volatility. In every midterm election year since 1962, says Sonders, the market has corrected, sometimes viciously, with average declines of 19 percent. But patient investors are rewarded, because 100 percent of the time, the market has rallied -- and significantly, with average gains of 32 percent for the 12 months following the correction.
Geopolitical upsets -- especially in reaction to Russia's activity in Ukraine -- are another worry. "There may not be a fighting war, but an economic war could have an effect on the global economy," says David Kelly, of J.P. Morgan Funds.
- Also on Kiplinger: International outlook: Struggling economies, bargain stocks
Whether or not a major pullback occurs, investors should expect continued shifts in winning styles and sectors. For example, the long winning streak of small-company stocks is likely coming to an end. From the market bottom in March 2009 until March 4 of this year, cumulative price gains for the small fry far outpaced their blue-chip brethren: 228 percent for the Russell 2000, a small-company index, compared with 178 percent for the S&P 500, more of a large-company barometer. But since its recent peak, the Russell 2000 has retreated 6 percent, while the S&P has been essentially flat.
Historically, small-company stocks have led the market in periods of slower economic growth, but they fall behind when GDP grows by 3 percent or more, says Russell Investments, the keeper of the index. Moreover, small-company stocks recently traded at an average P/E that is nearly 110 percent of the 20-year average, while the P/E of large-company stocks was 6 percent below their 20-year average.
Similarly, when economic growth lags, investors bid up the stocks of companies -- of whatever size -- that have rapidly growing earnings. So-called growth stocks have generally led the market since early 2007, an unusually long cycle of dominance. But with confidence in the economy improving, it makes sense to gravitate toward stocks selling at bargain levels relative to earnings and other traditional gauges of value.
That means choosing shares of Caterpillar (CAT) over Tesla Motors (TSLA), International Business Machines (IBM) over Netflix (NFLX), and Merck (MRK) over Regeneron Pharmaceuticals (REGN). So far this year, iShares Russell 1000 Value (IWD), an ETF that focuses on large, undervalued companies, has gained 3.9 percent, while iShares Russell 1000 Growth ETF (IWF) has gained 1.1 percent.
"Rotation is the lifeline of a bull market," says veteran market analyst Ralph Acampora, of Altaira, a money-management firm based in Switzerland. "As long as the money goes somewhere else, but stays in the market, that's fine."
As you tweak your own portfolio, consider building some cash reserves. In a shifting market it doesn't hurt to take some of the money you've made off the table to be able to pounce on new opportunities or if changes in your circumstances so dictate.
Sam Stewart, chairman of Wasatch Funds, has accumulated a little more cash than he normally holds in the funds that he manages as he prunes stocks he now considers overpriced from his portfolios. "Choppiness is a reasonable forecast for the year," Stewart says. "I want to make sure we have some dry powder on hand in case the market does correct and we see companies we want to buy at attractive prices." He says he will be looking for bargains among technology, health care and financial firms -- particularly those that are lifting their dividends.
Stewart currently recommends shares in CVS Caremark (CVS) because he believes the corner drugstore is becoming more central to family health care. Stewart also likes Wells Fargo (WFC), trading at a reasonable 12 times estimated year-ahead earnings and yielding 2.8 percent. The bank navigated the financial crisis "just fine," he says.
Let's just hope that investors will be able to say the same thing about navigating the stock market this year.
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VIDEO ON MSN MONEY
Give 300 million to Congo, not to any of our financially distressed USA ! cities , can you believe what goes on in Washington
"TOKYO, June 10- An all-time low for euro zone money market rates bolstered the region's bond rally and held down the euro on Tuesday, providing clear evidence that 's latest support measures are gaining traction. The steady drip-feed of global stimulus also kept world shares inching towards an all-time high as another record close for Wall Street and a three-year high for Asia left them heading for a fifth day of back-to-back gains."
Notably, Japan has been pumping TRILLIONS into Europe for years now. When we see articles penned in Asia we should fully discount them as bunk. Europe has nothing going for it at all. When we see industry come to it, we will see the seed, when it's manufactured products give it viability, then we can call the region- poised for recovery. IF MONEY PRINTING DOESN'T STOP IT WILL DESTROY THE GLOBE. WE DON'T NEED WEALTH, WE NEED ECONOMY. DESTROY THE CENTRAL BANKS, RECOVER THE WORK ETHIC.
That's what they said at the end of 2012 and it's risen nearly 40% more since.
NO ONE can predict short-term market directions. The subtitle, "As we near the halfway mark of 2014, the bull market isn't over..." is as childish as saying "I know the Seahawks are going to repeat as Super Bowl Champs." There are simply too many variables: political tensions, tsunamis, droughts, etc. that are unpredictable to know what's going to be on market movers minds short term.
Where to put you money now is the same place as half a year ago - everything else being equal in terms of your needs.
The S&P 500 avg. P/E was 20.3 at the end of 2013 and is 19.5 now. 2014 is on pace to add the most net jobs of any year in the 2000's and experts are estimating 3% to 4% GDP growth is things proceed as they seem. Bond rates have dropped and may be kept down for years as Europe, Japan, etc. havee cut bond rates drastically and foreign money is pouring into U.S. bonds. The real estate market is somewhat stagnant.
This means people are likely to keep money in stocks and sector leading companies with dividend stocks should continue to do well.
Wow, funny how article after article can refuse to talk about Global Debt rising 40% since the Great Recession. The debt levels of back then set off the Great Recession. Now that we are far worse off, yet these Fools behave as if everything is Fine and Dandy. These folks are just glorified used Car Salesmen trying to sell anything and Everything. This is a Old Bull Market, not the Bright and Perky one of Years ago. You know what happens when you try to push to the LIMITS, something that's really OLD. Exactly.
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The NAHB Housing Market Index for September rose to 59 from 55, while the Briefing.com consensus expected the reading to climb to 56. Nasdaq +9.02 at 4561.77... NYSE Adv/Dec 1994/775... Nasdaq Adv/Dec 1545/784.
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