Stocks have advanced 28% in the last five months, and the S&P is now at a four-year high. The first quarter is looking to be one of the strongest in decades in terms of stock performance. However, the rally is looking long in the tooth, and investors might want to put away their party hats, or at least be more cautious as we enter into the second quarter. Numerous headwinds are shaping up, and the market should encounter rougher seas in the coming quarter.
10 reasons to be wary of the second quarter:
1. The Q1 2012 earnings seasons is shaping up to post the slowest growth in EPS since the end of the financial crisis. Alcoa (NYSE:AA) kicks off the reporting season on April 10, which is right around the corner.
2. Negative pre-announcements are running at their highest level since the March 2009 lows. Numerous companies like Texas Instruments (NASDAQ:TXN) have lowered guidance and outlooks over the past few weeks.
3. The prospect of four more years of an extremely business-unfriendly administration is yet to be priced into the market. Business disillusionment goes all the way through to CEOs working with the administration, such as General Electric's (NYSE:GE) Jeffrey Immelt, who is the president's top economic adviser outside the administration. This can't be good for firms' hiring and for business investment plans.
4. Gas prices are at record highs for this time of the year and are very likely to go much higher as we get closer to driving season. The high oil prices are fast displacing worries about Europe as the biggest concern for the market.
5. The rally in the market has been driven in part by the actions of the Federal Reserve. Under Operation "Twist", the Fed has purchased 91% of long dated government debt issuance. This is not sustainable and the market will be impacted when the Federal Reserve becomes less accommodating in the near future.
6. The recent rally in interest rates could be just beginning, as the Fed's hands may be tied up with more constraints, especially with an election approaching. Note: The biggest positions in my portfolio are the ProShares UltraShort Lehman 20+ (NYSEARCA:TBT)s.
7. The start of 2013 is looking increasingly dicey, given the amount of tax cuts and programs that are set to expire, as well as the automatic spending cuts that will take place if no agreement is reached by January 15, 2013. Nothing looks to be done prior to the election, which means a lame duck Congress will need to address all of these issues in a span of eight weeks. Although the market is currently not factoring these events into its thinking, that could well change as we move closer to the end of the year.
8. Inflation should start to become a much bigger concern in the second quarter, as the economy continues to grow, the Federal Reserve becomes less active, and high oil costs start to impact prices to a greater degree. Once inflation kicks in, it can accelerate quickly.
9. Investor bullishness levels and some technical factors should have investors very concerned. A recent article in Barron's delves into these factors in greater detail.
10. While corporate profits and margins have done very well since the lows of the crisis. Unfortunately, the government sector is still under severe stress, especially at the state level. Several major states like California have structural problems that are not likely to be solved in the near or medium term. This will continue to act as a drag for the overall economy, at least for the foreseeable future.