The Market Maven

Investors Remain Optimistic as Stocks Advance for 3rd Straight Week

It was full speed ahead for equities once again last week, as the major averages rose for the third straight week since the beginning of January as the S&P has now advanced by 4.2 percent so far in 2013. These gains have been a function of the successful resolution of the fiscal cliff, optimism that companies can beat lowered fourth-quarter earnings expectations and acceleration for the first time in two years of economic growth in China during the fourth quarter.

This more confident feeling on the part of investors was also the result of December U.S. housing starts reaching their highest level since June 2008, which caps off their best year since 2008 as well, in addition to weekly jobless claims declining to their lowest level since January 2008.

Investors have now added to stock funds for a second week, which is the first back-to-back increase since April 2011. Deposits into equity funds exceeded those going into bond funds for a fifth straight week. Emerging-market equity funds took in more money than their developed-market counterparts for the sixth time in seven weeks, as investors added more than $10 billion to Chinese equity funds, bringing that streak of deposits to 19 straight weeks. Growth in the final three months of the year in that country rose by a slightly better than forecast 7.9 percent, but it was also the slowest year of economic growth in the world’s second-largest economy since 1999.

This most recent round of additional funds going into equities comes after investors in U.S-based funds poured $7.53 billion into stock mutual funds, the most since 2001. As was mentioned in last week’s column, when combined with money going into equity ETF’s, the amount was $18.32 billion, which, as one observer put it, meant that “stocks are finally expensive enough for retail investors to find them attractive!” By this he meant that, after withdrawing a net $380 billion as the market has rebounded by 119 percent from its March 2009 lows while at the same time putting $1 trillion into low-yielding bond funds, individual investors now seem to have regained their appetite for equities. This is only the second time since the November 1973 to March 1975 recovery that investors sold stocks at the same time the market was rising. And this was the largest amount put into mutual funds since the third week of September 2007, about a month before the S&P made its all-time high.

On the other hand, it was no surprise that money overall was pulled out of stock mutual funds as 65 percent of them trailed their benchmark indexes.

This week will be one of the most important ones for fourth-quarter earnings, and if the latest week of the earnings season has told investors anything, it is that strong banks and energy companies are getting stronger while weaker banks and technology companies have yet to overcome the challenges that they have faced in the last few years.

Any sense of optimism has to be measured by the decline in earnings growth forecasts, down to a current 2.5 percent from as high as 10 percent last October. This is in addition to a recent increase in the number of companies announcing mass layoffs in attempts to get their costs further under control.

Against a backdrop of tepid U.S. economic growth and the unpleasantness left over from the fiscal cliff drama, those companies that went into the fourth-quarter with a sense of better times ahead did not disappoint, while those that could not get their acts together came up short once again. For instance, financial giants JPM and GS easily surpassed their estimates on growth in lending and smaller bad loan costs, as well as increased client activity. Companies such as GE and SLB both beat estimates on strong demand for oil and gas equipment and services.

On the other hand, companies such as C, the third-largest U.S. bank, missed its estimates by a wide margin and COF came up short after it was forced to set aside more money for credit card defaults. INTC also missed estimates on weak demand for its chips used in personal computers and T warned of a $10 billion charge due to weaker pension returns than forecast.

Estimates for the first quarter of 2013 have also been lowered, now down to 3.5 percent from as high as 7 percent last October and this slide in projections now applies to second-quarter results as well. On the other hand, this does leave room for much better growth in the second half of this year, which is obviously one of the reasons for the stock market’s recent strong performance.

The market got a nice end-of- the-week boost when Republican leaders on Friday said they would attempt to push through a three-month extension of federal borrowing authority this week to buy time, under the threat of not getting paid after April 15 themselves, for the Democratic-controlled Senate to approve a budget plan that does in fact lower the current budget deficit.

This plan is a new strategy for them to end the budget deadlock by forcing the Senate to act first. The Treasury needs congressional authorization to increase the current $16.4 trillion debt ceiling sometime between mid-February and early March. This is going to get tricky because the Senate has not passed a formal budget resolution in almost four years, while House attempts to pass budgets recently have not gotten through the Senate.

House Speaker Boehner has said that there should be no long-term raise in the federal debt ceiling until the Senate passes a budget and his party will try to force the Senate into action by having the upper house take the first step in cutting spending. Congress has been relying on stop-gap funding measures to keep government agencies and programs running. It is not currently anticipated that the three-month debt ceiling increase legislation would include spending cuts, which will add to the drama going forward.

Against this backdrop, both the DJIA and the S&P reached their highest levels since December 2007 last week while the Dow Transports and every mid- and small-cap index reached all-time highs. When combined with the lowest level of the market volatility index known as the VIX since April 2007, these further signs of investor complacency mean that investors should still be prepared to take profits on any sort of potential setback to the optimistic view that market participants are currently exhibiting as stocks grind higher and higher.

Donald Selkin is the Chief Market Strategist at National Securities in New York, a veteran in the securities industry for 36 years who is widely quoted in the financial media. If you have any questions, contact dselkin@nationalsecurities.com.

This report is for informational purposes only. It is not intended to be, nor should it be inferred as, a recommendation to purchase, sell, hold or sell short any security, or engage in any securities or commodities related transaction. Before entering into ANY investment, one should consult a financial professional.

This article appeared in print on page D35 of the January 23rd, 2013 edition of Hamodia.