October 9, 2010 Market Outlook

There has been essentially no change in interest rates from last week. Rates remain historically low, providing stimulus to the economy. Companies who operate with debt can service their debt at a low cost, improving their profitability. Banks and financial institutions that earn a spread are also more profitable. For these reasons, chances of a bear market still seem very slim. We are experiencing a bull market as the economy recovers from the recent recession. It hasn’t all been straight up, but we’re seeing the market move in the right direction for investors.

It was another very good week for stocks, with the market advancing 1.4% over the week. Stocks are definitely the place to be right now, and it’s starting too look as though the market may take a serious run at 13,000 by the end of the year. It will also be interesting to see how institutional investors react. Apparently, many institutions and individuals, still scarred from the market crash, are holding large amounts of cash. When they finally believe that the bull market is real, they are very likely to plow the cash into stocks. Risk aversion is still very much apparent, and it’s likely that the blue chips will benefit first. However, it should give the already-rising markets a boost, pushing them to new heights.

Alcoa reported their earnings last Thursday, after market close. They beat Wall Street’s expectations. That was a theme last quarter, with about 75% of companies reporting earnings better than Wall Street’s expectations. This tells me two things: corporations are very profitable and Wall Street’s expectations are too low. When Wall Street values a stock, they base it on their expectations of future earning power, so this implies that the stock market is currently undervalued. It will be very interesting to see what news the next few weeks bring.

We are nearing the strongest season for stock markets. The saying, “Sell in May and go away” held fairly well this year. The corollary is that November to April is the period with the strongest returns. We still have much of October ahead of us, and it’s possible that the markets will take some time to establish a new base before moving higher. However, it feels like it will be wise to be fully invested in stocks over the coming six months.