CI Outlook - Archives

January 2012

Last year we got it partially right.  We thought rising inflation and interest rates in the emerging economies would crush their markets.  It did.  Both Brazil’s and China’s markets were down over 25% for the year.  We thought the US markets would be the strong markets in 2011, and they were.  But they were strong only in a relative sense.  Unlike the collapse in the emerging markets the US based big cap S&P 500 was unchanged on the year.  Even so, according to Bespoke Investment Group, over 80% of the stocks comprising the S&P 500 were down in excess of 20% for the year.  Thus the strength in the market came from less than 100 stocks, primarily mega cap stocks such as IBM and McDonalds.  If the US market is going to continue higher it will need to broaden out with more stocks participating in the upswing.

Looking to the near term we anticipate continuing investor apathy towards the equity markets.  The same political uncertainties which have plagued both US and European markets in 2011 remain unresolved.  However markets are dynamic and forward looking.  So as the year progresses we believe investment confidence on the part of both business decision makers and market participants will return.  However that level of confidence will be dramatically impacted by the perceived outcome of this year’s elections.  If the level of acrimony between political parties and candidates remains elevated, confidence will suffer.  At this time that looks likely.  Therefore we are constrained from calling for the type of 20% + rise which historically follows a flat year.  Still we expect S&P earnings to rise approximately 7% and bolster the bullish case for higher domestic stock markets. 

On a more optimistic note if US congressional gridlock were to ease or Europe were to find a solution to its problems, than7% earnings growth could become rocket fuel.  Currently the P/E for the market is 12.75.  This is down from 15, the post war average and the level at which we began 2011.  S&P earnings for 2010 were $83 but grew to $97 for 2011.  Yet the market remained unchanged thus compressing its P/E to this historically low level.  Should the P/E return to is post war average with earnings of $105 for 2012 there is a strong case for a 20% gain in market prices for the year.  However, with investor confidence still suffering from the 2008 meltdown, the threat of another Lehman moment in Europe may be too much to overcome.  Additionally, with the uncertainty of the election outcome here, the potential for conflict in the Middle East and the as yet unsettled nature of China’s economic recovery the potential for a 20% gain seems like a low probability outcome.  Therefore while we will continue to look for prospective investment opportunities here in the US we will remain selective and cautious in our commitments.  We are however monitoring investor confidence and market conditions closely and will become more aggressive if changing conditions warrant it.

Last, we still believe this will be the year to put money back to work in emerging markets.  We particularly like Brazil, Australia and the Pacific Basin countries.  Although the developed world’s large cap European markets look very cheap we plan to avoid them until the political and financial uncertainty concerning their banking and currency system is closer to resolution.  We prefer to own large companies denominated in US Dollars rather than face the dual risk of business uncertainty and currency devaluation caused by investing in European companies. 

Overall we look forward to this year and think it will be a better year than 2011.  However we recognize the high probability of news driven volatility throughout the year and will remain cautious in our investment posture.  As always we thank you for your continuing patronage and invite you to call with questions or to set up an appointment to review your portfolio.


CJ Brott               Karen Burns


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