It was a lackluster 2015 for the stock market with the S&P 500 managing a total return of just 1.4% (dividends included). Equity investors struggled to predict the timing of the first Federal Reserve rate hike in nearly a decade, a slowing Chinese economy weighed on emerging markets, commodities prices—notably oil—plummeted, a booming U.S. dollar pressured earnings (and contributed to commodities weakness), and terror threat escalated.
Against that difficult backdrop for stocks, we got some things right and some things wrong.
What We Got Right
We were correct in our forecast for the Fed to begin its rate hike campaign in December 2015, which we maintained throughout the year, even as many had targeted mid-2015 earlier in the year and mid-2016 later in the year.
Although we were slightly optimistic in our stock market forecast, we did get the leadership correct, favoring growth over value and predicting a transition during the year to large cap leadership. The Russell 3000 Growth Index outgained its value counterpart by 9.2%, while large caps outperformed small by 5.3%, based on the Russell indexes.
At the sector level, most of our calls also added value, including favoring technology, consumer discretionary, and healthcare, and avoiding utilities.
What We Missed
We were slightly overly optimistic on the stock market performance, as the S&P 500 missed the low end of our 5% to 9% total return target. However, we did not capitulate when stocks were down 10% on the year in late August 2015, and maintained our positive stock market view.
Our 2015 earnings forecast proved too optimistic because of tumbling oil prices and the strong U.S. dollar. If we exclude the energy and currency drags, corporate America actually produced high-single-digit earnings growth. We did not foresee the extent and duration of the energy downturn and its ripple effects, although our energy sector view was appropriately cautious throughout the majority of the year.
One victim of 2015 commodity weakness was the industrials sector, where our positive view missed the mark. We underestimated consumer staples’ boost from cheaper oil, as this sector solidly outperformed. We chose to play cheap oil through the consumer discretionary sector, which outperformed—and more so than consumer staples.
Hit And Miss
We came into 2015 expressing a view that an opportunity would emerge in international equities. That opportunity never really emerged. We did maintain previously established, modest exposure to emerging markets during the year, which hurt performance, but largely avoiding international developed markets turned out to be the right asset allocation decision.
Key First Quarter Events
With the books closed on 2015, let’s now look ahead to some of the likely key drivers of stocks in early 2016:
· Fourth quarter 2015 earnings season. After the important Institute for Supply Management (ISM) Manufacturing Index and employment reports for December 2015, due out this week (January 4–8), the next big event on investors’ calendars should be the start of fourth quarter earnings season, which unofficially begins with Alcoa’s quarterly results on January 11 and kicks into high gear at the end of the month. Thomson-tracked consensus expects a 3.7% year-over-year drop in S&P 500 earnings in the fourth quarter, which would end up as the third consecutive quarter of 1% earnings growth or less. Guidance from corporate America for 2016—beyond the commodity sectors—will be key to determining how stocks start the year. We will preview earnings season in next week’s commentary.