Outlook for stocks in ’13 positive, analysts say

Gains in housing, jobs cited as major factors

1/2/2013

NEW YORK — It may be a big if, but assuming Washington lawmakers can get past the “fiscal cliff,” many analysts say that the outlook for stocks this year is good, as a recovering housing market and an improving jobs outlook help the economy maintain a slow but steady recovery.

Reasonable returns in 2013 would send the S&P 500 toward, and possibly past, its record close of 1,565 reached in October, 2007.

A midyear rally in 2012 pushed stocks to their highest in more than four years. Both the Standard & Poor’s 500 index and the Dow Jones industrial average made strong gains in 2012. Those advances came despite uncertainty about the outcome of the presidential election and bouts of turmoil from Europe, where policy makers finally appear to be getting a grip on the region’s debt crisis.

“As you remove little bits of uncertainty, investors can then once again return to focusing on the fundamentals,” Joseph Tanious, a global market strategist at J.P. Morgan Funds, said. “Corporate America is actually doing quite well.”

Although earnings growth of S&P 500-listed companies dipped as low as 0.8 percent in the summer, analysts are predicting that it will rebound to average 9.5 percent for 2013, according to data from S&P Capital IQ. Companies have also been hoarding cash. The amount of cash and cash equivalents being held by companies listed in the S&P 500 climbed to an all-time high $1 trillion at the end of September, 65 percent more than five years ago, according to S&P Dow Jones Indices.

Assuming a budget deal is reached in a reasonable amount of time, investors will be more comfortable owning stocks in 2013, allowing valuations to rise, Mr. Tanious said.

Stocks in the S&P 500 index are trading on a price-to-earnings multiple of about 13.5, compared with the average of 17.9 since 1988, according to S&P Capital IQ data. The ratio rises when investors are willing to pay more for a stock's future earnings potential.

The stock market also is likely to face less drag from the European debt crisis this year, said Steven Bulko, chief investment officer at Lombard Odier Investment Managers. Although policy makers in Europe have yet to come up with a comprehensive solution to the region’s woes, they appear to have a better handle on the region’s problems than they have for quite some time.

Stocks fell in the second quarter of 2012 as investors fretted that the euro region’s government debt crisis was about to engulf Spain and possibly Italy, increasing the chances of a dramatic slowdown in global economic growth.

“There is still some heavy lifting that needs to be done in Europe,” said Mr. Bulko. Now, though, “we are dealing with much more manageable risk than we have had in the past few years.”

This year may also see an increase in mergers and acquisitions as companies seeks to make use of the cash on their balance sheets, said Jarred Kessler, global head of equities at broker Cantor Fitzgerald.

Although the number of merger and acquisition deals has gradually crept higher in the last four years, the dollar value of the deals remains well short of the total reached five years ago.

Merger and acquisition deals are good for stock prices because the acquiring company typically pays a premium for the one it’s buying.

Falling interest rates also set off a rally in the bond market. Concerns about swings in stock prices prompted investors to switch money out of stocks and into bond funds. If investors decide that the bond rally may be nearing an end, that flow of funds may be reversed, providing a support for stocks.

“Equities are the best house in a bad neighborhood,” says Cantor’s Mr. Kessler. “Bonds are not priced to euphoria, but they are definitely rich compared to equities right now.”

Not all investors are as sanguine about the prospects for 2013.

The rally in stocks in 2012 had less to do with company profits and the economy and more to do with stimulus from the Federal Reserve and other central banks around the world, said David Wright, a managing director and co-founder at Sierra Investment Management in Santa Monica, Calif.

“The Fed has done everything it can do and is probably pretty close to having used its last bullet,” Mr. Wright said.

Last year's peaks in the Dow and the S&P 500 won't be surpassed in 2013 and stocks may even slump in the first quarter as investors lower their earnings expectations, Mr. Wright said.

Gina Martin Adams, a Wells Fargo Securities market analyst, also said companies will struggle in the first half of the year as the economy flirts with recession. Export growth is slowing and policy makers are struggling to come up with a plan to reduce the budget deficit.

The bank recommends that investors add to their holdings of financial and utilities stocks because low rates should help support steady earnings growth in the early part of 2013.