Stock prices opened 2011 the way they ended 2010 – in a strong uptrend, with the S&P 500 reaching another 27-month high.Price gains in Asia (Hong Kong, +1.7%; Korea, +0.9%) spread to Europe (Euro Stoxx 50, +1.7%) and the U.S. (S&P 500, +1.1%). The U.S. market also got some fundamental support with a solid report from the ISM manufacturing survey, the first important data out in 2011, which met expectations overall last month, with December’s new order rate the best since last May. As the chart below illustrates, after a bit of a swoon last summer, the manufacturing sector has experienced a nice fillip in new orders. There were parts of the ISM that might have been better – the employment component hit 55.7, its lowest reading since last March – but on the whole the improvement is palpable.
The 1.1% day one price increase in the S&P 500 is the 14th best opening day market in the past 82 years, but one shouldn’t get too carried away with its significance as a forecast of things to come. Last year’s 1.6% rise is a case in point: yes, 2010 did finally turn out to good year for stocks, there was that 16% slide in prices from April through July. The long-term correlation between first-day market moves and rest-of-the-year returns is only slightly positive (R2 = 5%), and there have been some spectacularly wrong indications (1929, 1931, 1970, 1973 and 2002). Still, the economy seems to be on a stronger trajectory, and the swing from fixed-income funds to equities appears not to have completely run its course.
INVESTMENT OUTLOOK…Despite the fourth quarter’s escalation in inflation expectations and bond market volatility, a respectable year-end rally in stocks was fashioned out of improvement in leading economic indicators and, in the United States, perhaps a sense that the two parties in Washington may be able to accomplish something positive in 2011. It is important to remember that at some point the U.S. economy will have to do without the trillion dollar stimulus packages – past and prospective – that have been contributing to the quickening seen in economic activity. In the end, strong corporate earnings can overcome a lot of this market’s shortcomings, and we judge the profits outlook for 2011 to be good. With respect to bonds, we are not completely comfortable with the near unanimity reflected in the markets during the fourth quarter that interest rates can only go higher in 2011. Stock market volatility has receded from the awful levels of 2008-09, but we would not be surprised if there are occasional bouts of volatility popping up through 2011.
Copyright © 2011 by Wright Investors’ Service, Inc.