The European debt crisis, Washington political gridlock, and slow “new normal” economic growth; as investors we all lived through these market events and realities in 2011. Unfortunately, none of these conditions are likely go to away any time soon. Throw in unrest in the Middle East and a potential nuclear showdown with Iran and you could easily make the case for more fear and market volatility again in 2012.
Stock markets are forward looking and often are known to climb a “wall of worry” and this may happen again in 2012. Behind the fear and headlines, fundamentals are slowly improving in the U.S. economy. Leading indicators have improved for three months in a row and unemployment is slowly falling and personal incomes rising. Economic growth is still slow, corporate earnings growth rates are slowing, and the Federal Reserve expects it will have to keep interest rates low until 2014 to return to normal economic growth. A hard landing in China does not appear to be happening either, their manufacturing indexes are still signaling expansion and central banks in many emerging markets are shifting their focus from fighting inflation to stimulating economic growth.
This is where the opportunity comes in. Valuations for U.S. equities have been below their 50-year average for the longest period since the 1970″s. That was a very different environment – inflation was in double digits and so were Treasury yields and Certificate of Deposit yields. Today inflation is 3% and falling and 10-year Treasury yields are a paltry 1.80%, less than inflation and less than the dividend yield on the stocks in the S&P 500 Index.
Investing in the stock market is ultimately investing in companies that are expected to post record profits this year. The same is true in Emerging Market stocks, where dividend yields and long-term growth rates are even higher; these stocks lagged domestic markets last year but are already up 10% in 2012. An environment with record corporate profits, historically cheap stock prices, higher dividends, low inflation, and low interest rates, could lead to healthy stock market gains in 2012.
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Have a great day!
Bob and the All Star Team