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: In your latest Sector Watch report, you say that history favors an advance in the second quarter. Can you discuss why you believe that?
Stovall: Well, the fourth quarter of 2011 saw the S&P 500 gain 11.4 percent, and quarter-to-date in the first quarter of 2012, we are again up more than 11 percent. So my thought was, would history indicate that it’s time for us to take some profits off the table? Or if the trend was your friend, and share prices would likely continue to work their way higher? Surprisingly, I found that the trend remains your friend. In the eight times that the market gained more than 10 percent in the first quarter, it continued to rise in the second quarter by more than 3 percent, and rose in 75 percent of all observations.
If you then look to those first quarters and fourth quarters that saw increases of 5 percent or more (there were 10 of them), what we found was that the second quarter tended to rise an average of 4 percent, and did so 60 percent of the time. It also had favorable implications on the month of April. Following strong fourth-quarter and first-quarter results, the month of April rose 80 percent of the time. So while none of those numbers is a guarantee that we will see higher results in April or in the second quarter, it can be a bit reassuring to investors that you don’t necessarily need to bail out of the market even though we’ve had two strong quarterly performances.
EQ: The market has been waiting for a pullback for quite some time. For investors still waiting on the sidelines, could they actually miss out on a bigger move by continuing to wait?
Stovall: Yes, I think they could. While we at S&P believe that a pullback is likely at any time–and the further we go without one, the more likely that pullback will be–history says that it’s only going to be about 5 percent and 10 percent. Since World War II, in the 12 months following a severe correction or mild bear market, we have had 10 declines in stock prices but they have all been in the range of 5 percent to about 7 percent. So if history repeats itself, and there’s no guarantee it will, we could end up with a pullback likely in that range, but not anything more than that.
EQ: April is the second-best performing month in the market. Could the market continue to advance up through April until we hit the start of the “Sell in May” period?
Stovall: That’s certainly a possibility, because whenever we have had pullback in the 12 months following severe corrections or mild bear markets, most of these pullbacks started after the beginning of month six. So if October was the end of this severe correction, then April 3, 2012 is the beginning of month six, and nine of these 10 pullbacks began in the sixth month or later. So chances are things get a little rocky in the second half of that first year recovery. It is interesting that it happens to coincide with the period of the year in which the market is typically quite vulnerable to pullbacks or corrections, meaning the May through October timeframe.
EQ: You stated that Q1 earnings in April could be a catalyst for the market. What are some things you’ll be watching for?
Stovall: The reason Q1 earnings could be a catalyst for the market is because expectations are so low. Right now, S&P Capital IQ’s consensus earnings estimates only expects a 0.7-percent increase in year-over-year operating results, and that six of the 10 sectors in the S&P are expected to show year-over-year declines in operating results. So that bar is set pretty low in my opinion, and as a result, should we tend to exceed those expectations by any stretch or provide guidance that would be encouraging toward a second-half recovery in earnings growth, I think that would help the market respond favorably.