Stuart T. Freeman is senior vice president and chief equity strategist for Wells Fargo Advisors, and held the same position with A.G. Edwards & Sons Inc.
Harlan Levy: How do you think the escalating Russia-Ukraine conflict will affect the U.S. and global economies?
Stuart Freeman: Obviously, that's another volatility point for this year. If it escalates, it could cause some pullbacks. It is a concern.
HL: What do you make of the 288,000 new jobs in April, the largest gain in two years and the 6.3 percent jobless rate, the biggest drop in 3 ½ years: Were you surprised?
SF: Not terribly, because we are coming off the weakness of the first part of the first quarter.
Our work on initial unemployment claims out to the end of the year shows modest declines, and that's a leading indicator for job growth and the economy.
Obviously, the monthly job numbers are volatile, but we are right now coming off a really weak first quarter, although that was probably due to weather. Some of it also had to do with slower growth in the emerging parts of the world.
HL: Are these good jobs, worth celebrating?
SF: It looks like there's a breadth of jobs. It came in construction and manufacturing, and there were some pickups in retail. It was relatively broad in the segments of the economy, and that's a positive.
We think we'll see continued growth this year - 2.4 percent Gross Domestic Product growth this year, more than last year, and it's coming broadly in a breadth of segments.
Even though we wouldn't be surprised to see volatility in the market, the stability of the growth in the economy seems better.
HL: Will the big numbers continue?
SF: I think we'll continue to see new levels in jobs. April was better than April last year and better than the monthly average of last year as well as in 2012.
Our forward looking work on initial claims and capital goods orders, which appear good for technology and industrial growth, and our forward looking work on consumer confidence all suggest continued growth in jobs with some consistency.
HL: What do you think about the participation rate?
SF: It was down to 62.8 percent from 63.2 percent in March. It's continued to be on a roller-coaster level in this cycle. You'd like to see a higher number.
HL: Hourly wages hardly budged in April from last April, up only 1.9 percent year-over-year. What does that say?
SF: We're generally not seeing a great deal of inflation overall. We're not yet seeing wage-push inflation, and we're not seeing inflation from rapid rises in commodities.
Overall, it says the pace of job growth has been slower than the average of other recoveries. We've been going through consumers deleveraging in the cycle, and that's a significant push for below-average job, wage, and overall economic growth. This is what some people call the "new normal."
We're looking at the last cycle when consumers were leveraging up and spending. In this cycle they're paying off debt and deleveraging, cleaning their balance sheets, which results in less spending growth. That explains a significant amount of the difference between the average growth in other recoveries and this one.
Is it a bad thing? You'd like to see us get to a normalized unemployment rate quicker than we have, but it's a good thing that employment has moved ahead, and I think we'll see more growth this year.
Consumers feel that over the next six months there will be more opportunities for jobs than they were thinking six months ago. And small business confidence is looking better. Household spending in March had the largest increase since August 2009.
HL: How will the Federal Reserve respond, since it said job gains are a big factor in deciding when to raise interest rates and how quickly to taper off buying Treasury notes and mortgage-backed securities - as of this week, down to $45 billion a month from $85 billion last year?
SF: The Federal Reserve is still looking at year-over-year numbers, which is 1.2 or 1.3 percent inflation, and they're comfortable with the inflation rate. They see room in the inflation number, room in the employment situation. They just suggested that they see some pickup in the economy from earlier in the year, and they're still talking dovishly.
Maybe they didn't surprise the market with the reduction in purchases and the size of the taper. They indicated that they're keeping their eye on inflation and employment, and they think there's room to go in both areas before they raise rates.
HL: What does the lousy first-quarter GDP growth number tell you about the U.S. economy's health?
SF: Obviously growth is slow, but we really had a significant slowdown with the weather all across this country in the first couple of months this year. If you look at first-quarter market-capitalization-weighted earnings, it looks like they're up 8.7 percent so far, and we're materially through earnings season.
HL: How do you like first-quarter earnings?
SF: More than 70 percent of the S&P 500 companies that reported outperformed their expectations, although those expectations had been adjusted down before the reports.
We're looking for $118 in operating earnings for the S&P 500 stocks for 2014, up about 6.7 percent from 2013.
These earnings are looking good, especially the number of companies reporting up earnings as opposed to down earnings. The ratio is about 2.6 up for every one down. It's a little less broad than the average quarterly breadth in 2013, 2.9 percent up to one down in all of last year.
In 2012 it was about two to one. We're off a bit, but we're seeing moderate breadth across industries. And that's not bad.
HL: Revenues have been moderate for several years. Is that changing for our leaner, meaner, cash-loaded corporations?
SF: Revenue growth has been up 2.3 percent in the first quarter versus a year earlier, with 67 percent of reporting companies up, and about 42 percent showed better than expected, and 19 percent were in line with expectations. A couple of months were not gangbusters because of weather and emerging economies' weakness.
So overall, the revenues were about in line with expectations, so I think it will be close to flat for the quarter versus expectations, but there is potential for that number to rise as we go through the year.
HL: When corporate market values start pulling away will businesses turn more to investing in themselves than hoarding?
SF: Yes. We're starting to see that in our forward-looking work. We're seeing non-defense capital goods orders picking up, and that's a leading indicator for the economy, especially the industrial segment.
We're at a point where capacity utilization is tightening and rising. We're starting to see companies say, "We can't wait any longer. We have to start spending. Consumers are still buying." Companies are starting to say that they need it sooner than later. There are uncertainties in the economy, but utilization is also getting tighter. Also, we're at a point in the cycle where industrial orders are starting to pick up at a better pace.
HL: What do you predict for the stock market?
SF: Right now we're still seeing some momentum in the economy coming out of the slow first quarter. We do think the market will be higher at the end of the year.
Our target for the S&P 500 is 1,975 to 2,025, but we will see more volatility than last year. We've already seen on average a little bit more volatility than last year.
There are a number of factors that will contribute to more volatility, including the fact that the Fed is tapering its injection of liquidity into the system. Investors are watching all Fed statements, wondering when that first rate increase will start, a talking point all through the year. The November elections will be a noise point as we get into the summer. And then we've got Asia: Will it slow more than people think? And eyes will be on the emerging markets.
Also, stock valuations are not very cheap. They're about middling, looking at the last 30 years. But we still think we'll be at a higher level at the end of the year.
HL: What are strong and weak stock categories?
SF: We've seen a correction in some of the hot stocks of last year and some of the better-performing groups. Those are the more cyclical-portions of the economy. We think that's where we want to accumulate. It's the cyclical growth that will be a propellant for the market.
On any pullback we want to be overweight industrials, technology, and even selected consumer discretionaries, where we've seen a pullback. Generally we think that the market will have more of a cyclical tone.
Right now we're underweighting utilities and healthcare. Utilities tend to be laggards as the economy moves higher and has slower earnings. Healthcare is also more defensive.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.