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April 2012
The first calendar quarter in 2012 was the S&P 500's best first quarter since 1998 and the best quarter overall since third quarter of 2009. Paired with the fourth quarter of 2011, stocks enjoyed their strongest two quarter performance since 2009, a time when stocks were roaring out of the 2008 recession. In a shift from the blue chip capital bias in 2011 when the Dow Jones Industrial Average lead the market, in 1Q12 the NASDAQ did best among the major indexes , rising nearly 19%; the DJIA in contrast rose only 8%. Investors in 1Q12 were trying to get some sense of where they were going in 2Q12 and beyond. At least in the U.S., investors were clearly in a risk-on mood. During the 1Q12 the best performing sector was financial services, up 21.5%, trailed slightly by information technology up 21.1%. Our assessment of the current economic condition supports ongoing earnings expansion; and ultimately, stock market gains are tied to earnings progress. On balance we think the positives in the picture outweigh the negatives. And while we are cognizant that the balance can shift at anytime, at this point we think the positives are relatively accelerating. For one thing, stocks appear attractively valued and the S&P 500 remains relatively inexpensive on forward earnings. At the end of 1Q12, the market was trading at about 13.7x on 2012 earnings forecast and at about 12.6x on 2013 outlook. That compares with a 5 year multiple of 16.6x and a 10 year multiple of about 16.9x. Given what we view as an overvaluation in the treasury market, the low level of interest rates and inflation, the market is even cheaper than indicated by these common measurements. On the economic front we saw improvement in employment, a drop in unemployment to 8.2% and improving sales of existing homes and new home sales data pointing to a recovery in the housing sector. Although there is much inventory to deal with in the housing area, we are seeing improving signs regionally particularly in the west and south. Improving consumer confidence has lead to higher spending, which has been reflected in stronger retail sales during the period. Although the Federal Reserve in recent announcements has reflected a view of an improving economy, Chairman Bernanke still is committed to low interest rates through 2014. Also, he has not ruled out using further quantitative easing (QE3) if the Fed sees the economy faltering later in the year. The U.S. market continued to react to problems in Europe with countries such as Greece, Italy and Spain who were facing a downgrade of their debt by rating agencies. The European Union has demanded that Greece and Italy in particular undertake severe austerity programs to receive further assistance from the EU. Although we have seen riots in Greece and a change in government in Italy these programs have been approved by both Parliaments. At the time being it appears that the EU and International Monetary Fund seem committed to solving issues and as a result U.S. investors have focused less on the potential of defaults by certain struggling European countries. As we have entered the second quarter of 2012 we have seen the market pull back to access expectations for second quarter profits. U.S. companies are sitting on large levels of cash and when they see improving consumer confidence in spending this could cause capital expenditures to meet future demand. As an example Apple computer which has over $100 billion in cash advanced in market price to a new high and a market capitalization reflecting it to be the largest U.S. company. Recently Apple's board decided to start paying an annual dividend as well as rolling out the iPad 3 which has received higher than expected consumer sells. If other firms follow Apple's lead given the amount of stockpiled cash that the corporate sector is currently holding, the resulting boost in personal income and consumption could be significant even if firms only paid out 10% of their liquid assets that would be enough to boost annual disposable income by almost 2% and, even if a lot of that extra income was initially saved, it would still boost annual consumption by 1%. After a strong jump in gasoline prices in January with more modest increases in February these levels do not appear to have major impact on the CPI index. At the same time with a mild winter natural gas prices have declined offsetting some of the rise in gasoline prices. Industry Performance At A Glance...
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