So Far, 2014 Kind Of A Drag


A tepid start to 2014 has raised concerns in some quarters, with many arguing the market's failure to rally at a normally strong time of year is worrisome. New investment money typically pushes stocks higher in the first five trading days of the year. When stocks decline like they did this year, history suggests the prospects for the remainder of the year are not as bright.

While statistical support for the first-five-days effect is not particularly robust, investors have other reasons to worry. The Dow Industrials have not suffered a 10% pullback since the summer of 2011. With valuations somewhat expensive and bullish sentiment unusually high heading into this year, a few disappointing quarterly reports could be enough for the recent profit-taking to morph into more serious selling.

Having some cash ready to take advantage of a market pullback seems prudent. But this does not seem like the time for wholesale selling, and you should also be prepared for opportunities in stocks that rally on strong December-quarter results.

Why aren't we more concerned?

For one thing, trying to time secondary corrections is very difficult. The Dow Industrials and Dow Transports closed at all-time highs on Dec. 31 — an unequivocal bull-market confirmation under the Dow Theory.

For another thing, it's not clear investors are turning their backs on stocks. Advance-decline lines and equal-weighted averages reflect a market moving sideways so far in 2014.

Finally, we don't think the central question is whether stocks are somewhat cheap or somewhat expensive. We're focused on whether we can find enough attractive stocks to build a diversified portfolio. We think we can, partly because solid growers are available at reasonable valuations.

The 26 stocks on our Buy List are expected to average 13% growth in per-share profits for 2014, versus 11% for the S&P 500 Index. Yet our 26 Buys trade at roughly 16 times expected current-year profits, on average, versus more than 19 times for the average stock in the S&P 500.

Six top value picks

Our buy lists have 91% to 93% in stocks. Buy-rated Apple ($546; AAPL), Express Scripts ($73; ESRX), Foot Locker ($41; FL), J.P. Morgan Chase ($58; JPM), Qualcomm ($73; QCOM), and Skyworks Solutions ($29; SWKS) trade at a discount to their five- and 10-year norms based on trailing P/E ratios. All six, with Quadrix scores of at least 75 for Value and 85 for Overall, also trade at a discount to sector and industry-group averages. Yet all six are expected to deliver at least 8% growth in per-share profits in 2014.

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