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New Years Stockmarket Predictions

Dec. 21, 2014 5:16 PM ET
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2015

2015 Stock Market Outlook By Zacks Investment Research

The 32% gain for the S&P last year was a blessing and a curse for investors.

A blessing because it padded all of our portfolios.

A curse because the gains came far too easily, making 2014 a brutal environment by comparison.

Yes, the S&P is up on the year, but still many small caps and glamour growth stocks are in the red. Plus the volatility made it like a house of mirrors where you were never quite sure what to make of the investment landscape.

Now we get to put this miserable year behind us as we look ahead to 2015. And after much contemplation, here is my outlook...

Yes, above is the final conclusion that next year will be far too similar to 2014 (modest gains and more volatility than you would like). But if you know that in advance, then it should make it easier to profitably navigate the waters.

In the rest of this article I will cover these topics to get you in the best position to prosper in the year ahead.

1) Why Still Bullish?
2) Predictions
3) Potential Pitfalls

Why Still Bullish?

A long term bull market stays in place until one of two things happens:

A) Recession looms on the horizon awakening the next bear

B) Valuations get stretched (Ex. The bear market that started in 2000)

So let's discuss each concept. As for a recession looming on the horizon, that just doesn't add up given how economic data continues to improve in the US. Truly the readings for manufacturing, service, retail and employment are at their healthiest levels since before the Great Recession. This explains why the average GDP reading the past two quarters is +4.2%.

I appreciate that on average there has been a recession every 5-6 years. But that is often because the boom times are too good, leading to excesses that bring to life the next contraction. The beauty of Muddle Through growth, seen in the first several years of this expansion, is that there are no excesses or bubbles at this time. So no fear of an imminent recession.

Now let's address the other side of the coin...valuation. I know folks who point to a historical average PE of 15 in order to say that this market is getting stretched given the trailing PE of 18. However, there is much more to the story.

First, the market looks forward. In this case we should be looking at the PE based upon estimates for the coming year, which are in the neighborhood of $130 per share for the S&P 500. That creates a PE of 15.4 at this time.

Second, PEs in the latter stages of bull markets typically move higher, given the confidence folks have in a positive outcome. So a PE of 17-18 is more standard at this stage of the game.

Lastly, and most importantly, is the relationship stocks have with Treasury rates. In general, the earnings yield for stocks is 3% higher than the 10 year Treasury. So let's do that math.

Earnings yield is the inverse of PE. So dividing the current price of the S&P by the $130 in expected earnings comes to an earnings yield of 6.3%. Whereas the 10 year Treasury is only providing a meager 2.2% yield for investors. Given this historical relationship, there is still ample upside for stocks.

2015 Predictions

This bull market has already rallied more than 200% since it began in March 2009. Thus, the easy money has been made and we should not expect such robust returns in 2015.

Like I said from the top, next year will be far too much like the past year. That means overall gains in the +10% range with more volatility than you'd like to stomach. Likely 2300 is about where we close out the year. We have a shot at 2400 if all the stars align.

If you are a long term investor, then it's easy enough to patiently wait out all the consolidations, pullbacks and corrections to tally some gains. Plus, by concentrating more of your selections in Zacks #1 and #2 Ranked stocks, then you should enjoy a very comfortable lead over the market averages.

For active traders, you can use inverse ETFs and VIX trades to mop up some profits from those stock spills to add to your return. But please don't get too cute with these market timing moves. The Market Gods don't hand you a GPS system to perfectly navigate the twists and turns. Just remember that the primary trend remains bullish until proven otherwise. So don't stray under 50% long too often.

Potential Pitfalls

The outlook shared above is based upon the information in hand. As things evolve it may get better...or may get worse. So let me now prepare you for 2 potential hazards out there.

1) Recession: Above I shared with you that the economic landscape is actually improving. However, the average expansion period between recessions lasts for 63 months. If that held true, we would have already seen the next recession commence in the 2nd half of 2014.

Gladly this does not happen like clockwork. Each expansion is unique and this one seems to have plenty of life left in it. Yet, if the signs of the next contraction do start to appear, then the route to profits is by shorting the market. Inverse ETFs are the easiest tools to employ for that purpose.

2) Treasury Bond Rates: As shared above, there is an important historical relationship between Treasury bonds and the valuation of the stock market. Right now that is very favorable for stocks as bond rates have come down significantly over the past year. And signs point to rates staying low for quite some time.

However, you can easily appreciate that if rates started to rise significantly, then it would have a negative effect on stock prices. I believe stocks will do fine if rates just float up to around 3%. Above that and it will start to call into question their relative value versus bonds, which would spark a correction even if other economic indicators are positive.

What to Do Next?

The above may give the false impression that just about any stock will do. But certainly you understand that some shares will do much better than others. That's because the easy money in this bull market took place in the first five years. Now it will be slower going as the bull market matures.

To put the odds strongly in your favor, you should rely upon a proven stock-rating system like the Zacks Rank with independently examined and attested results of 26% per year since 1988. However, there are more than 220 of these #1 Ranked Strong Buy stocks to consider at any given time.

That is fine if you are professional investor with 60-80 hours per week to focus on researching the full list. For the rest of you, it's usually better to consider a hand-selected group of these stocks that you can more easily put into your portfolio.

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