For most investors, the health of the U.S. economy should be the most important item to track. How the economy fares will directly correlate with how the Nasdaq, NYSE and S&P 500 perform -- over the long-term. But right now, attention is focused on many "outside" factors, most of which are more relevant to foreign investors or short-term traders. If you let those factors rattle you, you’re likely to move to cash at the wrong time.
To be sure, the recent market weakness can test anyone’s mettle. But should we really be surprised at a -10% correction after we saw the S&P 500 move from 700 to 1,200 in just 14 months? That kind of +70% move is virtually unheard of, and should have led to some near-term caution. But the pullback doesn’t mean the rally has ended. Indeed, the most important pieces of data are flashing green.
For example, the Institute of Supply Management’s (ISM) index of factory activity in May has just been released, and the rate of orders held steady from the prior month at 65.7. (Any number above 50 indicates that the factory sector is expanding). In addition, the ISM’s employment index expanded last month from 58.5 to 59.8. That means that the monthly jobs report, due out this Friday, is likely to be in line with or above forecasts.
Consumers Getting Stronger
As many headed off for a long holiday weekend on Friday, they may have missed some important data regarding consumer spending. The Commerce Department noted that consumer spending barely rose in April after rising for six months. Bad news, right? Actually, personal income climbed 0.4%, in line with recent monthly gains. That means consumers are looking to bolster their savings and pay off debt. The savings rate rose to 3.6% in April, from 3.1% in March, and could well rise further as consumers remain cautious. After all, the nightly news is in “scare mode” right now. That may crimp spending in the near-term, but should set the stage for stronger consumer balance sheets down the road. If household savings keep growing, and if job creation continues, the economy is very likely to get back on to a path of sustainable growth. It’s too early to sound the all-clear on the economy, but the scary headlines out of Europe, the Gulf Coast and the Middle East are decreasingly likely to have a major negative impact going forward.
More than likely, economic growth will not be robust this year, as we’re still feeling the after-effects of the global economic malaise of 2008 and 2009. But the trend is positive, and growth should become more inspiring next year and into 2012. And remember that investors look six to 12 months ahead, so the market is likely digesting the tepid growth outlook right now. By this summer, the market should look ahead into 2011, and should like what it sees.
Action to Take --> A wide range of stocks are starting to trade down from their highs, even as the respective earnings outlooks are materially strengthening. Companies that have pared expenses in recent years can continue to show robust profit growth with just modest sales growth. That backdrop fueled a powerful rally in the 1990s as profit margins exceeded previous highs.
Here's just a sampling of companies whose shares have fallen more than -25% from their 52-week highs while also seeing their earnings estimates rise during the past 90 days: Seagate Technology (NYSE: STX), Integrated Silicon Solutions (Nasdaq: ISSI), Deer Consumer Products (Nasdaq: DEER), Electronic Arts (Nasdaq: ERTS), Dell, Inc. (Nasdaq: DELL) and Denny’s (Nasdaq: DENN).
If you’ve got cash to put into play, wait for days when the market is sharply trading off. With all the daunting global headlines right now, that’s bound to happen soon. Happy hunting.