Market Outlook: Cautious in the Face of Uniform Thinking

by: Ben Marks

My mother always said, be particular. Good advice, but it is often much easier to go with the flow than to take the time to be choosey. This month, investors could go with the flow as long as they made a single choice between stocks and bonds.

Index Dec 2010 YTD 2010
DJIA + 5.2% + 11.02%
S&P500 + 6.5% + 12.78%
NASDAQ + 6.2% + 16.91%

Bond prices moved down as interest rates inched up again in December. Treasuries had their largest monthly drop of 2010 in December, and the New Year will bring the first quarterly statements showing price declines for most bond categories following a year of epic gains (MarketWatch, “Bond Fund Investors Face Tough New Era”, 12/31/2010). What you thought was the sound of Champagne corks on New Year’s Eve may instead be the pop of the bond market bubble.

Equities, on the other hand, benefitted from investors who were not too particular in their standards for good news. Jobless claims were much better than expected, with the two-week average of new filings for unemployment benefits dropping to the lowest level since July 2008 (Bloomberg, “Jobless Claims Drop to Two-Year Low”, 12/30/2010).

Never mind that the unemployment rate remains a stubborn 9.8 percent and 4.2 million people have been without work for over a year. Another 9 million are working just part-time but searching for full-time jobs.

Consumers were not too particular in their justifications for holiday spending. For the 90 percent of the workforce that is employed, it was enough that their neighbors no longer seem to be losing jobs. Pent-up demand burst out with a 13 percent jump in online retail sales compared to last year’s holiday season (ComScore, 12/29/2010) and a 4 percent increase for brick-and-mortar retail sales (International Council of Shopping Centers, 12/28/2010).

The increase in spending was not matched with an equal increase in household income, however, so while profits should rise smartly when fourth quarter numbers are reported, retail activity in the first quarter of 2011 is likely to be sobering.

The Chinese government has tried to be choosey all year in addressing the overheated economy. Afraid that higher interest rates would attract “hot money” and drive up their currency value, they tried every other trick in the book. Confronted with an 11.7 percent increase in food prices from October to November, the central bank hiked rates for the second time in just over two months.

The government’s hard line may be good for the Chinese household, which spends almost 40 percent of its budget on food (Nomura, “The coming surge in food prices”, September 2010), but it could be bad news for the global economy, which has become increasingly dependent on China to fuel growth.

Market strategists are almost uniform in their 2011 outlook. In the cover story for the October 20 Barron’s, ten renowned strategists collectively predict 3.5 percent GDP growth and a roughly 10 percent increase in the S&P 500 for the coming year. If they are correct in their predictions, it would be easiest to go with the flow and assume a rising tide will lift all boats.

We are cautious in the face of such uniform thinking. Experience tells us that when everyone is confident that investment returns will come easily, those who aren’t particular will end up with regrets.

In addition to persistent under- and unemployment in the U.S. and inflation in China, we are watching crude oil for incidents that could trip-up the global economic recovery. Saudi Arabia, the world’s largest crude oil producer and home to one-fifth of proven reserves, faces a highly complicated succession scenario should the ailing King Abdullah die.

Add to this recurring militant attacks on infrastructure in Nigeria, a steep drop in Mexican oil production, and the perpetual wild card of Venezuela and you have a range of factors that could each or jointly cause oil prices to spike. This would not only be a blow to U.S. consumers, it could also further undermine European economies (Financial Times, “The Impact of $100 Crude”, 12/16/2010).

We will stick with Mom’s advice this year, looking closely at companies and selecting the strongest candidates for growth through bottom up analysis. Uncertainty around economic growth in many developed countries leads us to focus on high quality, risk-averse companies that benefit from faster growth markets overseas. In the long run, these companies should outperform with relatively low volatility and manageable risk. This is a year to be particular.

Disclaimer: The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investments and strategies may be appropriate for you, consult with Marks Group Wealth Management or another trusted investment adviser. Marks Group Wealth Management performs in-house analysis on companies. Statistical information on mentioned companies is obtained from company reports, news releases and SEC filings. The information set forth herein has been derived from sources believed to be reliable, but is not guaranteed as to accuracy and does not purport to be a complete analysis of the securities, companies or industries involved. Opinions expressed herein are subject to change without notice. Additional information is available upon request. Past performance is no guarantee of future results. Stock investing involves market risk including loss of principal. Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rates rise. Precious metal investing is subject to substantial volatility and potential for loss. Commodities are subject to fast price swings which can result in significant volatility in an investor’s holdings. International and emerging market investing involves special risks such as currency fluctuation and political instability.