The market correction of the past three weeks has rattled many investors, especially
because many consider January an indicator of full year performance. Much of the market
downdraft is a reaction to fears of sovereign debt defaults in Europe and deficit spending
and employment levels at home. I do not interpret the correction as a precursor for the
remainder of the year. First, the economic and fundamental backdrops continue to
improve, with some startling gains in factory manufacturing, productivity and sales.
Second, January performance has a poor track record for predicting the direction of the
market for the rest of the year.
First, let’s start with company fundamentals. With over 60% of S&P 500 companies
reporting fourth quarter results, the results have been impressive. Earnings have grown
45% from the same quarter a year ago (14% when financials are excluded), albeit from
depressed levels in 2008. In addition, 77% of companies have exceeded analyst’s
expectations, well ahead of the 60% long term average. The positive earnings surprise
average of 13% above expectation is near record levels. Even more important, revenue
growth has returned, with companies delivering 8% year over year growth, exceeding
estimates by 3%.
Second, the economic recovery is on schedule. Real consumer spending gained in
November and December. This trend accelerated in January as same store sales growth
well exceeded expectations, 3.3% vs. 2.5% expectation. This is the strongest monthly
gain since April of 2008. Manufacturing activity and orders also increased as the index
posted it highest readings since 2004. Productivity in the business sector increased 6.2%
while output grew 7.2% and hours worked gaining 1%. The modest increase in hours
worked was the first since the second quarter of 2007 and raises hope for potential job
growth.
Lastly, recently we learned that unemployment fell to 9.7% from 10%. Normally this would
be extremely positive but the improvement was due mostly to a shrinking labor force, thus
muting the impact. The silver lining is that temporary employment continues to expand,
rising 52,000 in January. Rising part time jobs is a harbinger of rising full time jobs-which
is usually the last statistic to recover. Also, the average work week expanded slightly.
In conclusion, the economic and fundamental backdrops continue to improve, which will
ultimately benefit longer term stock market performance. The labor market is acting as it
has in prior recessions for this part of the cycle. Peaks in jobless claims have almost
perfectly signaled the end of recessions (in this cycle jobless claims peaked last April) and
jobless claims have typically been quite volatile during the early stages of recovery.