2016 Ends Amid Optimism

12/26/2016


Propelled by optimism regarding the U.S. and global economies, stocks are rallying into year-end. While today's rampant bullishness suggests any disappointments could trigger a harsh reaction, we remain in the bullish camp. In fact, our Focus List and Buy List are now 100% in stocks, reflecting this week's rank changes. Our Long-Term Buy List is 94% in stocks.

Upbeat data

Among both Wall Street and Main Street pundits, the election results get a lot of credit for the U.S. stock market's surge. Much of that credit is deserved, as lower taxes and reduced regulation could provide a meaningful boost to corporate earnings. But economists are divided on whether a big stimulus package for infrastructure would do more good than harm, with Federal Reserve chairwoman Janet Yellen warning that the U.S. economy is near full capacity and does not need fiscal stimulus.

Also, it's always worth remembering what comedian Groucho Marx said about politics: "Politics is the art of looking for trouble, finding it everywhere, diagnosing it incorrectly and applying the wrong remedies."

President-elect Trump and the Republican Congress won't get everything right, and the potential for a trade war with China or others is worrisome. But the market's rally reflects more than the coming change in Washington. Even before the election, stocks were beginning to discount an improving economy.

Economic-growth estimates are rising, with the consensus forecast for 2017 U.S. economic growth recently hitting a five-month high of 2.3%. The Citigroup U.S. Economic Surprise Index, which measures how economic reports have compared to consensus forecasts, has jumped close to the two-year high reached in July.

Relative to expectations, the numbers overseas have been even better. The European version of the Citigroup index reached a nearly four-year high in early December. The global index is at its highest level since early 2014.

Profit-estimate trends also provide grounds for optimism. Since the end of third quarter, consensus profit estimates for the fourth quarter have been reduced by a smaller-than-normal percentage, according to FactSet. The proportion of companies issuing negative earnings guidance has also been smaller than normal, says FactSet.

Conclusion

With the Dow Theory in the bullish camp and the outlook for corporate profits improving, we are maintaining a nearly fully invested posture. Top picks include new Focus List additions CBS ($65; CBS) and Citizens Financial Group ($36; CFG).


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