Headed For a Fall
The market's stealth run-up has some fearful of a correction
History agrees. The equity market tends to hibernate between May and October. Meanwhile, the November-through-April period is typically the best for stocks. According to S&P, the average gain for blue-chip stocks between November and April is 7.1 percent. Compare that with the meager 1.5 percent returns between May and October.
It's not just seasonality that worries investors. A host of other reasons can make investors wary of the state of the markets. Among them:
Rising oil prices. Though oil at $70 a barrel and more hasn't spooked the stock market yet, "if left unchecked, oil creep will force a correction," says Jack Ablin, chief investment officer for Harris Private Bank. Not only do high oil prices eventually crimp profit growth; they also raise the specter of inflation.
Rising interest rates. Since January, the yield on the 10-year treasury note has climbed from 4.33 percent to as high as 5.11 percent. Rising rates threaten to slow the economy while they make bonds a more attractive investment alternative to stocks. Of course, bond yields are still relatively low by historical standards and may need to move above 6 percent to scare the equity markets.
A new Federal Reserve chairman. The last time someone new took over atop the Fed (Alan Greenspan in 1987), stocks lost 22 percent in the first six months of his term. While few question the economic acumen of new Fed Chairman Ben Bernanke, uncertainty abounds concerning how he will guide the nation's monetary policy. Bernanke inherited the Fed as it was still raising short-term interest rates to slow the economy and control inflation. History shows that the Fed has a knack for raising rates too much, often sending the economy into recession. Even if Bernanke stops lifting rates after the Fed's meeting in May, there's this to worry about: According to Ned Davis Research, the Dow has lost nearly 5 percent, on average, six months after the last in a series of Fed rate hikes.
Geopolitical saber rattling. Iran's nuclear ambitions have pushed Iraq's troubles off the front pages. Continued talk of military strikes against Iran could send stock investors fleeing to cash, as the price of crude might approach $100 a barrel.
An emerging-markets bubble. More new money flowed into emerging-markets stock funds in the first quarter of 2006 than in all of the preceding 10 years, according to Robert Adler, president of AMG Data Services. The frenzy to chase the eye-popping returns of emerging-markets stocks has some market watchers worried. A slowdown in Asia or Latin America could spur an immediate sell-off in the foreign markets that could spill over into U.S. stocks.
A cooling housing market. A slowdown in housing could drive some investment dollars out of real estate and back into stocks. But, more important, stagnant or falling home prices might jeopardize consumer spending, slowing the economy. And a sluggish economy is no friend of the stock market.
The slowdown in earnings growth. The surprising strength of profit growth has kept the equity markets humming in recent months. Earnings of companies in the S&P 500 are expected to grow around 13 percent in the first quarter, which would mark the 11th-straight quarter of double-digit gains, according to Thomson Financial. Yet this streak could end in the second quarter, especially if oil prices keep rising (a real possibility because of the situation in Iran, the start of the summer driving season, and the upcoming hurricane season in the oil-rich Gulf Coast). Indeed, S&P is forecasting that earnings will grow only around 7 percent in the second quarter. That could be enough to push stocks lower.