INSIGHTS

On January 03, 2012

Flight 2012, Cleared to Hold?

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Commercial air travel can be pretty frustrating these days, but nothing compares to the call from the cockpit as you approach your destination that the flight is entering holding.  Immediately many questions enter travelers’ minds including:  Why?  How long?  Where will we land?  Given the S&P 500 essentially experienced a holding pattern in 2011, many investors must be asking themselves similar questions right now.  Specifically the S&P lost .04 points last year as it began 2011 at 1257.64 and ended the year at 1257.60.  Officially that equates to a price decline of 0.0032% but thanks to the magic of rounding will be immortalized as a price move of 0.00%.  The good news is the S&P 500 does have a dividend yield and when you include dividends (total return) the S&P 500 notched a total return of 2.11% for 2011 which marks its third consecutive year of posting a positive total return.  Clearly there were many factors that contributed to the S&P 500 spending 2011 in a holding pattern (and we will address some of those later), but it would be tough to blame the companies that make up the index.

 

The S&P 500 began 2011 with a P/E (Price per Earnings) of 14.88, which was about 27% below its 20-year average, and expected earnings growth rates in the low teens.  With earnings reports in for the first three quarters we show annualized EPS (Earnings per Share) growth of 15.62% and we would expect that to moderate slightly but still come in much better than expected.  In addition, we show that 80.4% of the earnings’ reports included year-over-year revenue growth so the gains in earnings were not just generated by cost cutting, but by solid top line growth.  We also show that the S&P 500 paid out 16.29% (40-year average year-over-year increase is 5.58%) more dividends in 2011 than it did in 2010 and that cash and short-term investments were up 14.47% year-over-year.  Simply put, U.S. corporations executed very nicely in 2011 and though we expect this to moderate in 2012 we still expect close to 10% growth for both EPS and dividends for the S&P 500 index.

 

So if the S&P 500 constituents are not to blame, then who or what?  First and foremost it was concerns over the Euro zone that weighed on the equity markets in 2011 as well as lingering issues over housing, employment and the prospect of a double-dip recession in the United States.  In addition, it was the perception that these issues are worse than they are and will have longer lasting, and deeper, effects than even the dire predictions describe.  In a nutshell, bad news is greeted with a “you have no idea,” and good news is greeted with a “yeah, but…”  As an example, after a very strong Black Friday start to the holiday retail season we were greeted with, “yeah, but let’s see how the rest of the weekend pans out.”  After the rest of the weekend showed strength, we were greeted with a “yeah, but let’s see how Cyber Monday pans out.”  After Cyber Monday posted records we were greeted with, “yeah, but let’s see how the rest of the month pans out,” and so it went and now they are talking about shopping hangovers in January and February.  Even this morning  we got a reading of 53.9 (greater than 50 signifies expansion) on the Institute for Supply Management’s Manufacturing Index which was better than the 53.5 expected as well as the highest level in six months and it was immediately greeted with a, “yeah 2011 finished strong, but 2012 is a concern.”

 

Guess what, looking forward is always a concern and always will be a concern.  In addition, we will still be staring at headlines concerning Europe, housing and employment a year from now and beyond and of course many more concerning the upcoming elections in November.  Despite this we still think U.S. equities will post low double-digit gains in 2012 driven by low valuations and solid growth.  For those still weary, we would encourage you to look hard at dividend strategies, which we recommended at the beginning of 2011, as many of them posted total returns well in excess of the S&P 500’s return in 2011 and should help to soften some of the market’s volatility.  Though it is tough to stay invested when the markets get stuck in a holding pattern we would hate for investors to look back and say “yeah, the equity markets had a good year, but unfortunately I sat it out.”

 

This commentary is for informational purposes only. All investments are subject to risk and past performance is no guarantee of future results. Please see the disclosures webpage for additional risk information. For additional commentary or financial resources, please visit www.aamlive.com/blog.