Each week, we tap the insight of Sam Stovall, Chief Equity Strategist for S&P Capital IQ, for his perspective on the current market.
EQ: The market has seen some choppy trading since coming back from Thanksgiving. While we hit a new high on Friday, the market looks to be trending lower thus far this week. Is the December rally at risk here?
Stovall: At this time of the year—meaning the middle of December—people start to question whether the Santa Claus rally will be avoiding us. I think it’s because of something called the mid-December low, which usually is when investors engage in some tax-loss selling.
So there’s usually this slump before we then end up higher for the full year. So I think that’s sort of what we’re going through right now. Obviously, having some triggering events and global fears ranging from a renewed slide in oil prices to fallout from the recent Greek elections to curtailment of Chinese loans have made investors rethink their optimistic leanings.
So I think that’s what’s causing people to question whether the Santa Claus rally will emerge. I think it will and that we’re just going through that traditional mid-December low.
EQ: In this week’s Sector Watch report, you identified fundamental and historical trends that point to pretty bullish prospects for the market in the upcoming year. We’ve discussed several of them in our past interviews, but what are a few of the most favorable indicators suggesting the S&P 500 will hit your target of 2250 in the next year?
Stovall: First off, I think it’s the 8.5% gain we expect to see in earnings. Plus, we still think that inflation is likely to remain fairly low. So just by looking at the fundamentals, we think that an advance to 2250 is likely.
At the same time, you can point to historical trends, in particular the third year of a president’s term in office in which the S&P 500 has gained an average of 16% in that third year. So that is another good sign. Obviously, there’s no guarantee that is what will happen this time, but when you do have an 88% frequency of advance and a pretty high average return, I think that goes along with supporting expectations of a strong 2015.
Also, if you overlay earnings and cyclicality with economic projections, we’re now looking for our first 3% full-year gain in GDP since this economic expansion started in the summer of 2009. We think that will be supported by a 2.9% increase in consumer spending, a 7.7% rise in capital expenditures, and a 12.8% jump in residential construction.
EQ: Does the market need a correction to sort of reset and move higher from here?
Stovall: Some of the technicians that I’ve been speaking with think that if we got a bit of a correction right now, that would be good and help to extend the longevity of this bull market. If we did not, and this bull market continued to race higher, then their belief is that while we would end up reaching even higher all-time closing highs, it would bring on the start of a new bear market more quickly than if we did go through a pullback or correction.
EQ: Oil is trading right at the $60 a barrel level. Could this have bearish implications on economic growth projections if we fall significantly further from here?
Stovall: I think that it’s causing investors to create questions in their mind. Have supplies increased so much that we totally underestimated the supply/demand balance would be? Or is it because of something else that we’re not fully aware of? Most people would say that the slide in oil prices is purely a supply/demand imbalance with the supply being out of balance.
Others are saying that it is masking a weakness in economic demand for oil around the globe, which is an early indicator that we could be heading for an economic slowdown, if not even a recession sometime in the next year or two. So I would say that the jury is still out but what oil prices are definitely doing is causing increased concern by investors.
EQ: Are there anyways investors can hedge or protect themselves from a deeper decline in energy prices?
Stovall: You can look to those groups that have negative correlations with Energy. Looking specifically at the groups that come to mind, transportation stocks, such as auto manufacturers, tire & rubber companies and airlines, tend to do exceptionally well whenever we have a reduction in oil prices. What you can do is make sure you have an exposure to those groups that tend to do well whenever oil prices do poorly.
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