Investment strategists considering what’s next for the nearly seven-year-old bull market tend to agree with the late baseball legend Yogi Berra: It ain’t over ’til it’s over.
No one is predicting any home runs, but they think the bull market for U.S. equities can persist through 2016—and maybe beyond. As strategists see it, the U.S. economy is still growing, the Federal Reserve is likely to raise rates extremely slowly, the global central banks remain very accommodative, and the stock market tends to rally after presidential elections.
Of course, all bets are off if inflation heats up or if China sinks into a recession, but strategists don’t expect either one of those things. They’re also creating similar playbooks with a big emphasis on the technology, financial and consumer discretionary sectors.
Economist Ed Yardeni, president of Yardeni Research, thinks the U.S. equity market will be mostly driven this year by earnings, though he adds, “It’s hard to get wildly optimistic about earnings because profit margins are already at a record high and the outlook for revenues is not exciting.” That’s because global economic growth, largely dampened by a slowdown in China, will likely remain subpar, he says.
The good news is he doesn’t see China or the U.S. pulling into a recession this year. “It’s usually recessions that trip up bull markets and lead to bear markets,” he says.
Yardeni expects earnings to rise at best by 5% to 7% in 2016, right in line with the gains he anticipates for the stock market. That’s assuming there isn’t much upside in price-earnings multiples, which are also at record highs, he says.
The Federal Reserve has no intention of causing a recession, he says, given the fragile state of the U.S. and global economies and very low inflation. So he’d be surprised to see it hike the federal funds rate more than twice by the end of 2016, or by more than 25 basis points either time. (He thought the first hike might come at the Fed’s mid-December meeting, to be held just after this issue went to press.)
Yardeni sees continued challenges for sectors exposed to the global economy and to commodities. He thinks the consumer sector will remain strong, but notes that wage pressures are starting to cut into margins and could result in some disappointments for retailers. Meanwhile, strong regulations have muted financial companies’ ability to surprise to the upside, he says.
“I think if we’re looking for upside surprises next year, it’ll probably be in information technology,” he says. “I think it’s just a continuation of what we’ve seen—large-cap IT stocks that are very much exposed to the Internet in general and to the cloud in particular.”
More To Go
Technology also remains a top sector for Charles Schwab & Co, says Brad Sorensen, the head of market and sector analysis for the Schwab Center for Financial Research and a member of Schwab’s Investment Strategy Council. Technology has been an outperformer, he says, and the firm thinks that can continue.
Innovation is plentiful, consumer spending continues to be very directed at technology, and several surveys suggest that companies may finally be willing to boost their capital expenditures—especially on technology, in order to enhance their efficiency and productivity, Sorensen says. The current rate of capital investment continues to lag historical averages, he notes.
The one area of technology he cautions about is hot: social networking. “We do think there’ll be some winners in there, but not all of them can be winners because they’re all chasing the same ad dollars,” says Sorensen, “and at this point there isn’t a sustainable revenue model for charging actual users of those services.”
His team expects the financial sector to outperform this year. Its valuations look relatively attractive next to other sectors and next to much of the market, which the team thinks is slightly overvalued. “A lot of the bad news has already been priced into those stocks,” says Sorensen. “We’re seeing some of the fundamentals improve, and they should get a tailwind from the Fed coming off its zero interest rate policy.” Improving fundamentals in the financial sector include an increase in total loan growth, a continued drop in nonperforming loans, a decline in foreclosures and financial companies’ better expense management.
As for the entire stock market, “we think stocks will continue to move higher, but it’ll be much more of a grinding higher than what we’ve seen over the past few years,” he says. Modest gains will likely be accompanied by additional volatility spurred by uncertainty about the Fed’s activity and the election, he says. “Biotech, for example, took a pretty big hit from some campaign rhetoric,” he says. “But traditionally the presidential election year is a decent year for the stock market.”