A broad-based rally on Tuesday got the 2nd quarter off to a great start. The Dow Jones Industrial Average started the month with a 391 point gain (+3.2%) on a day when the news was anything but good. Swiss bank UBS announced a record write-off of some $14 billion at the same time that Lehman Brothers was scrambling to place a multibillion preferred stock offering. It was the third Tuesday out of the last four in which the Dow has posted a 350-400 point gain. But as has been the case for several weeks, the one-day advance failed to find much follow through for the rest of the week. For the period the Dow gained 393 points (+3.2%) to close at 12609.
As evidence that a short-term bottom may be in place, the NASDAQ outperformed the Dow on a percentage basis for the second consecutive week. The tech-heavy index has now advanced for three weeks in a row. For the period the NASDAQ gained 110 points (+4.9%) settling at 2370.
While much work has yet to be done in healing the significant damage in the first quarter, institutional support for equities appears to be increasing.
The Appleton Group Composites™
It appears that the markets are putting in at least a temporary bottom, as evidenced by a recent strong positive shift in institutional sentiment. The “wisdom of the crowd” right now says that things in the economy are so bad that it would be difficult for them to get much worse. The logic is flawless, in that if things can’t get any worse, they can only get better, right? Market bottoms really are problematic in the same way that market tops are: you don’t know for sure if they really exist until you’ve already passed them. Recently, our asset allocation has gone from downright defensive to neutral to now slightly assertive. This is a bit like dipping your toe into a pool, then wading in a bit further little by little. If we really have a lasting bottom (made almost exactly at the end of the 1st quarter) we will be able to hold our offensive positions for an extended period of time. If the market bottom proves a mirage, we stand ready to adjust further towards a more neutral stance. So far this year, the volatility has benefitted our discipline tremendously.
First quarter earnings season is quickly approaching, and all indications are that it will be a mixed bag. Financial companies are likely to produce dismal numbers, but much of that is largely “baked into the cake.” What these companies say about 2nd quarter earnings will be much more important. With there being no hard data to suggest that we’re already in a recession, there’s a real possibility that by the time the data catches up with reality we may already be out if it! This isn’t at all unusual, but it is a bit quirky. The consensus among economists is that non-financial companies will produce on-target annual earnings growth of between 6-8%. Not bad, considering the severity of the problems the economy has had to deal with over the past three months. As is so often the case, what WILL happen tends to be so much more important that what HAS happened, and looking forward tends to be much more valuable than looking back.
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