Here’s Why We’re Still Buying This Stock Market

Surprise!

The Financial Times ran the headline, ‘US growth hit by surprise setback’.

The article notes:


‘The US economy shrank 0.1 per cent at an annualised rate in the fourth quarter of 2012, the first contraction in three years, rattling financial markets and highlighting the danger of across-the-board federal spending cuts due in March.’

But was it really a surprise?

We don’t think so. The US S&P 500 index fell 0.39%. That’s barely a blip when you look at the big picture. The index is up almost 900 points – more than doubling – since the 2009 low.

Of course, we’re not saying stock markets will keep going up. Nothing goes up forever. But we do wonder: has the market finally weaned itself off central bankers to focus on company fundamentals?

If it has, then there could be more good news ahead for stocks

Today the S&P 500 is within a sniff of the all-time high it hit in 2007. The Dow Jones Industrial Average is even closer.

(We won’t mention the Nasdaq Composite index, that still has a long way to go to beat the dot-com top…although it is the best performing of the indexes since the 2009 bottom.)

There’s no arguing that stocks have gained thanks to US Federal Reserve money printing. But there’s another point to remember. Stocks have also gone up because the Fed’s money printing has filtered through to their bottom line.

It’s True, Printed Money Has Entered the Economy
 

We know that by looking at the earnings history for stocks in the S&P 500. As the following chart shows, earnings have risen 68.5% since 2009:

 

Data Source: Stern School of Business, New York University

 

So yes, the Fed has printed up a storm, but perhaps contrary to what some people claim, the printed money has made its way into the US economy.

Now, let’s make something clear. We’re not saying this justifies the Fed’s actions. Printing money isn’t the long-term solution to fixing the economy.

But what we are saying is that in the short-term at least, the printed money does benefit some companies, and by extension it does benefit some investors.

And it’s not just a few companies either. Remember that there is more diversification in the US stock market than the Australian stock market. For instance, financial stocks only account for 15.7% of the S&P 500. The biggest sector is information technology at 18.3% (that’s where the real innovation takes place, not in banking).

Compare that to the Australian share market where financials make up 42.3% of the S&P/ASX 200 index, and information technology accounts for just 0.7%! Although don’t get us wrong, that doesn’t mean the Aussie market lacks technological innovation.

Companies Doing Better Than Forecast
 

But anyway, back to the point. Is the stock market now ignoring the Fed? As we say, the S&P 500 fell just 0.39% after the ‘surprise’ economic contraction.

That’s not the only evidence. According to CNBC:


‘Earnings keep rising: We started the fourth-quarter estimates at about 3 percent growth for the S&P 500. Today, with nearly 40 percent of the S&P 500 component companies reporting, earnings growth is at 5.15% percent, according to S&P Capital IQ. Revenue growth, which was essentially zero last quarter, is now at 4 percent.’

But here’s the important bit:


‘Some 67 percent are beating earnings estimates (the 12-year average is 62 percent), while 65 percent are beating revenue estimates (the 12-year average is 61 percent). Last quarter, only 38 percent beat revenue estimates.’

Like it or not, and agree with it or not (we mean the money printing), companies are seeing revenue growth, and most companies are beating analysts’ earnings estimates.

While that’s nice, and hopefully you’ve seen your portfolio grow in recent months, nothing can last forever. The world’s most famous doom and gloom investor, Marc Faber, says stocks ‘are very overbought’.

But Faber does attach a caveat to his comment. He goes on to say, ‘but it is also possible that we have a mild correction in February and then a further increase in stock prices.’

Why does he say that? Well, he thinks ‘corporate profits will disappoint in 2013.’

So far, corporate profits aren’t disappointing. In fact, as we’ve shown you, most companies are delivering results above estimates.

Stick to the Strategy: Dividends and Small-Cap Growth
 

For over a year we’ve said that investors should ignore the Fed and central bank money printing. We said that ‘none of it matters’.

If we’re right about the reason for the stock market rally, it could be that the rest of the market has finally caught up with our view.

Right now markets here and overseas have certain key levels in their sights. The US indexes are near record highs, and the Aussie stock market is close to 5,000 points.

We’ll agree the market could stumble from here.

But we advise a relatively conservative approach to investing. Stick to blue-chip stocks that pay dividends and use small-cap stocks for speculative growth.

Bottom line: we’re still buying this stock market, and there’s nothing we’ve seen so far that causes us to change our mind…even a ‘surprising’ US GDP number.

Cheers,
Kris

Join me on Google+
 

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Money Morning is Australia’s most outspoken financial news service. Your Money Morning editorial team are not afraid to tell it like it is. From calling out politicians to taking on the housing industry, our aim is to cut through the hype and BS to help you make sense of the stories that make a difference to your wealth. Whether you agree with us or not, you’ll find our common-sense, thought provoking arguments well worth a read.

Money Morning Australia is published by Port Phillip Publishing, an independent financial publisher based in Melbourne, Australia. As an Australian financial services license holder we are subject to the regulations and laws of Corporations Act and Financial Services Act.


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