Can the Dow's record rally continue?

The blue-chip index finally has managed to erase the losses it recorded during the crisis. Here's what's driving the remarkable bull run.

By The Fiscal Times Mar 6, 2013 11:42AM
The Fiscal Times logoBy Suzanne McGee

Warren Buffett is buying. Investors are socking money into equity mutual funds. Even the Federal Reserve wants you to buy stocks -- or at least, their policy of keeping interest rates at absurdly low levels is clearly designed to prod us all into being willing to take more risk in our portfolios, or pay the price in flat returns and outsize interest rate and credit risk.

This year, we have finally listened and acted: flows into stock mutual funds hit 12 year highs in the early weeks of 2013, and Tuesday, the Dow Jones Industrial Average ($INDU)  finally completed its long and often painful climb out of the abyss to set a new all-time high, breaking above the previous record set in October 2007.

That means that finally, almost exactly five years to the day since the collapse of Bear Stearns heralded the worst of the financial crisis, and almost exactly five years to the date that the Dow bottomed out at only 6,547.05, the blue-chip index finally has managed to erase the losses it recorded during the crisis and its aftermath. That's only 1,004 trading days, and thus not as long as the 1,267 trading days required for the Dow to recover from its 2001 swoon and the ensuing bear market, according to data from S&P Dow Jones Indices. But it's still an impressive feat, especially given the context: underwhelming economic growth at home, a long-running European fiscal crisis, the uncertain outlook in China and, above all, the ugly Washington battle over the country's finances.

Indeed, the stock market set this new record days after Washington's legislators failed to avert sequestration: $85 billion of forced government spending cuts to discretionary spending, including military budgets. Yet even defense contractors joined yesterday's rally, with Raytheon (RTN) climbing more than 1%, General Dynamics (GD) up 0.94% and Northrop Grumman (NOC) 0.84% higher. (By way of comparison, the Dow jumped 0.89%, or nearly 126 points, to hit 14,253.77.)

 Arrow Up Nicholas Monu iStock Exclusive Getty ImagesThe fact is, the alternatives to stocks are looking pretty underwhelming. If there is a market bubble taking shape out there, it isn't in stocks, even though the Dow is now up nearly 9% so far this year and has advanced 11.7% in the last 12 months. The bubble is in bonds, where Fed policies have driven even the yields on junk bonds as low as 5% to 6%, depending on which index you select. Ask most sensible investors about that, and brace yourself for a lecture on how badly risk and return can get out of sync when monetary policymakers lean in one direction for too long.

What's behind the bull market? The answer is relatively simple. While the economy isn't delivering impressive gains, on the margins things seem to be improving. Corporate earnings remain historically strong. Chinese leaders vowed to keep that country's growth close to 7.5% this year; the European economic crisis isn't in high gear, the U.S. housing market continues to strengthen -- and above all, stocks are still cheap, with the 30 Dow components trading at only about 14 times earnings. That's well below the level the index was trading at back in 2007, and a valuation that many asset allocators view as cheap on a historical basis -- especially in light of the unexpectedly robust fourth-quarter earnings season, only now wrapping up.

"The market is inclined to thinking that the glass is half full," argues Paul Atkinson, head of North American equities for Aberdeen Asset Management. "Corporate profitability, equity valuations relative to bonds – well, you can see why people are committing assets to equities."

But all the hoopla over the Dow's record doesn't mean that we might not be due for some kind of selloff -- the faster and higher the market indices climb, the more likely it is that one will occur. After all, market pundits point out, if you annualize the nearly 9% gain so far this year, you'd be in for a rally of 50% or so in the Dow for 2013 as a whole. And that is plainly irrational. It's also unlikely that after gaining 9% so far this year, the Dow will simply sit placidly on the sidelines for the next 10 months, waiting for the year to be over. The catalyst for a selloff may still be unknown, but the odds are growing that there will be one.

The nagging question for stock market bulls is whether the selloff would be the same kind that we have seen in each of the last two years, one that put an end to a nascent rally and kept the lid on market's gains. In both cases, rallies early in the year ended sometime in the second quarter, leaving stocks to retrace their path during the rest of the year. "We have had false moves in the last two years; false dawns, really," admits Atkinson. "But this time, corporations aren't getting over-excited about their earnings potential" and thus aren't encouraging investors to drive up valuations. On the contrary, companies are being extremely wary. But that doesn't mean that Atkinson and his peers are trimming their own earnings forecasts for 2013, he adds.

Some kind of resolution of the latest budget standoff in Washington could give the current rally some more momentum, but then it will be up to those corporate earnings to carry it further. Disappointments or even underwhelming forward-looking statements could prove to be a bearish catalyst. Headline risk from Europe remains a threat as well.

Then there are the market's technical characteristics. In a report published yesterday, Mary Ann Bartels, technical research analyst at Bank of America Merrill Lynch (BAC), notes that sentiment readings are higher than they were ahead of the market break last September, and just below those seen in March of last year, when stocks broke their early winning streak. "Investors may be too bullish on the U.S. equity market," the report warns.

The new record for the Dow may be a landmark, but that's all. The breadth of the rally -- all but three of the Dow's 30 stocks participated -- is encouraging, but any rally needs fuel to keep moving. And the further it is able to advance, the larger the potential decline when the market temporarily runs out of good news to fuel it. The laws of physics kick in. So celebrate and enjoy. But remember that durable rallies are achieved only by climbing the proverbial "wall of worry."

Suzanne McGee is a columnist at The Fiscal Times. Subscribe to The Fiscal Times' FREE newsletter.

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25Comments
Mar 6, 2013 12:19PM
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As long as Wall Street thinks more suckers are out there to be fleeced, this BS bull run will continue. When WS thinks that most suckers have been fooled, it will sell off and short the market, taking it down even faster than it rose. This bull run was built with smoke and mirrors anyway, deviously constructed by Wall Street in the face of poor sociopolitical conditions, high unemployment, massive national debt, and total gridlock in Washington.

When Wall Street wants to create an artificial boom or bust, it is allowed to do so with Washington's full approval, as the pols there have skin in the game. At one time those there cared about America but  no one there now cares for anything other than themselves. A new form of gov't surely is needed, but the real problem is humanity's incurable and perhaps innate dedication to materialistic self interest that surely will show itself to be our fatal flaw within just a few more generations.......................

Mar 6, 2013 12:11PM
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The rally will continue as long as Bernanke keeps feeding it.
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ROFL

 

The Stock market is a bubble and being inflated by fake monies printed by Bernanke.

 

This is not going to end well when the Chinese yuan takes over as the world reserve currency later this year.

 

Pretty much the Federal Reserve has done all the wrong things to try to keep the super rich in power and super rich.

 

The real economy is in worse shape than it was in 2007 when this crisis hit.

 

We are going down this year folks. And it's going to make the previous drop look like an economic boom time.

Mar 6, 2013 1:33PM
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Why is this TERMED a RALLY.....It's not a RALLY, just the natural progression of the Markets..

 

A Rally would be a positve 300-500 point jump in one day...This is not a  RALLY, Sweet geezus !!

Mar 6, 2013 1:15PM
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Quote from this article:  "If there is a market bubble taking shape out there, it isn't in stocks . . ."

We'll see about that!
Mar 6, 2013 1:35PM
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The stock market has become detached from the real economy.
Mar 6, 2013 2:07PM
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As the private sector is already awash in cash and liquidity, including corporations sitting on trillions of dollars.  So the private sector could very easily fund all of the investments needed to fuel this economy.

So all of the additional money printed by bonehead Bernanke, is resulting in massive amounts of money that needs to find a home.  As the economy is just lukewarm, the home is the stock market.

So this rally is artificially produced by the fed, same as the housing bubble was also artificially produced by the fed.

I'm not sure how this will all end, but it will be nasty, as has all of the fed's previous bonehead blunders. 

Mar 6, 2013 2:04PM
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With so many comments claiming investors are historically fleeced, I wonder how many commenters know nothing about the stock markets or have been fooled into believing they can look at a few technical factors and compete at short-term trading with huge organizations with teams of math Ph.D's and analysts.
I buy stocks with the idea I hope I never have to sell them.  So I look for stocks with decade or more records of steady growth and with commanding positions in their sectors.  That way I can even join a DRIP where there's no fee for occasion or regular scheduled buys (Exxon, Cracker Barrel Old Country Store, General Mills, and many REITs have such DRIPs).  There's more to the analysis - see Mary Buffett's "Buffettology" for how Long Term Debt, Cash Flow, Return on Equity, and other things figure into it - but basically we're talking about stocks like Coca Cola, Walmart, Exxon, General Mills, AT&T, Wells Fargo, Cracker Barrel Old Country Store and Johnson & Johnson.
These stocks, over the long run, beat any other usual form of investment and you do NOT get fleeced by Wall Street by buying and holding a portfolio as intentionally diversified as, say, just five of the eight stocks I listed.  Additionally, those I listed average about a 3% dividend yield.
Mar 6, 2013 12:56PM
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And the rip off saga of Wall St./MOB, continues on! Go-a-head make their day, giving them lots of free $$$$$$$$$$ as you always do, LMAO! THIS RALLY IS AS FAKE AS THEY COME☻☻☻☻
Mar 6, 2013 1:59PM
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What's driving the DOW? Cheap easy money. Had Obo never been inflicted upon us, we would have passed this mark a year or two ago, and it would have been because we had a real strong economy, not the fake economy we have now.
Mar 6, 2013 3:38PM
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I LOL at all the "experts" below who have played Chicken Little for the last 4 years vowing that they left/were leaving the stock market. I hope they did and missed all of the gains many of us earned on our "stupid" investments in the market. Hope you're happy with your money market returns!
Mar 6, 2013 1:44PM
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Why not? Stop being so negative.  Market critics must be feeling foolish right  now.   4 years of criticism, and the sky did not fall
Mar 6, 2013 3:01PM
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ALIAS BARRY SOETORO:Still beating a dead horse.I`m glad most Republicans

are as stupid as you.That stupitity will keep Republicans out of the WH.Stay

stupid and bitter.

Mar 6, 2013 12:47PM
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ABS NAZI BIGOT RACIST, you're just so envious and jealous that so many people are making money in this market while you sit on the sidelines in your pitiful yielding CDs and money market funds.

Dow to 15500 by the end of the year

HAHAHAHAHAHAAHA....laughing in your poor butt face....HAHAHAHAHA

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