Having just reviewed my 2009 predictions, I now look ahead to
2010. My hope for the year is that the economic recovery takes
hold, markets remain steady, and a sense of normality returns after
what has been a very confusing and hectic period. However, as we
have all become accustomed to expect the unexpected and wait for
the next domino to fall, this is nothing but hope.
For this article I will outline five predictions for the year
ahead as well as four potential surprises that could debunk my
theses. Doing so will allow the reader to consider both angles of
the argument- a practice we should all adhere to as investors. As
always, as my views change I will update subscribers through the
, bonus articles, and these weekly commentaries. Even when we are
adamant about future events, we must remain flexible and be
prepared to alter our opinions when new information emerges.
My five key predictions are as follows:
Profitability and GDP to skyrocket
- Business cycles tend to follow a boom and bust pattern. When
companies are optimistic about the future, they expand, hire
employees, and increase inventory to handle expected future
demand. If that demand never materializes, employees are shed,
inventories liquidated, and businesses falter. Entering the
"Great Recession," we did not have this typical pattern.
Following the dot-com bust, companies began to manage their
businesses better and avoid the excesses of the past. Since the
recession has led to enormous job loss and inventory destocking,
we now find ourselves with lean corporate structures and limited
new products on hand. The result is that any increase in
consumption will flow straight to a company's bottom line and
lead to a huge upswing in production. With easy year-over-year
comparisons for the first half of 2010, we could see a surge in
corporate profitability and GDP that trumps what even the most
optimistic forecasters expect.
The Federal Reserve (Fed) stays in the market
- Recent bond purchase programs are expected to end early in
2010. I expect the Fed to do an about-face and remain in the
market. As the major incremental buyer of Treasuries, if the Fed
steps away from the market as deficits are rising, the increase
in interest rates would thwart an economic recovery. Instead,
purchases will be maintained and the yield curve will
Markets Fairly Valued
- Last year my fair value target called for a sharp decline in
the S&P 500. This year, at 1,150, my estimate calls for
stability. Please remember this is a fair value estimate (a level
at which we are being compensated for taking risk) and not a
price target. Although this number is not much higher than the
current price of 1,126, for the first time since 2004 I feel the
market is providing a buying opportunity to start the year. A
replay of 2004, when markets gradually moved higher, seems fair,
but a repeat of 2009's 25% return is unlikely.
Search for income
- With markets fairly valued and bond yields unattractive, the
theme for 2010 will be a search for income. With bond yields low
and cash paying virtually nothing, investors will have to search
far and wide. Expect high-dividend payers such as utilities to be
among the year's best performers.
Return of the meltdown
-2009 was light on many of the hedge fund/financial meltdowns we
experienced during the height of the credit crisis. As nearly
every entity was too big to fail, the Fed and Treasury happily
bailed out anyone needing help. Now with the dash out of TARP and
large public backlash over Wall Street compensation, the next
time trouble arises, the politicians will be less willing to
help. I continue to believe many banks are not properly reserved
and a flattening of the yield curve could crimp current profits.
From there all that is needed is a surprise market move and we
will face a quick test of who is truly too big to fail.
Although I'm confident in these predictions, I always present a
counterargument. These four surprises, which I consider unlikely,
could derail my predictions:
The New Normal
- This theory states that the U.S. is adjusting to a slower
growth future. If correct, the increase in consumption that will
turbo-boost GDP will not occur as companies have reduced staff
and inventory to levels that are in line with the new
- A collapsing currency will force the Fed from the bond markets,
increase the likelihood of interest rates rising, and force
investors to hunt for capital appreciation over current income.
In this scenario commodities and emerging market equities will
flourish while utilities and bonds languish.
Bear Market Rally
- A group of investors still believe the current rally is simply
a countermove in a long bear market. If so, at some point the
stock market will begin sliding again and any rational strategy
will be mute as fear dominates and prices cascade lower.
Spike in Volatility
- Volatility has been retreating for nearly a year and signs
point to lower levels ahead. With this backdrop, businesses can
invest and markets can grow. However, the outcome of the massive
fiscal and monetary stimulus has not been felt yet and upcoming
elections could alter the political landscape. This increases the
potential for a surpassingly volatile market.
Summarizing all these ideas, I believe 2010 will be a positive
year for investors. Whereas 2009 required a keen ability to flip
from one idea to the next, in 2010 investors must be able to spot
big trends and have the patience to trade with them. Neither total
gains nor price swings from high to low will be as fantastic as
what has been seen in recent years, but a nice, boring year of
reasonable returns is expected. As we shift from a growth-driven
market to one more focused on reasonable return and current income,
both stock picking success and active risk management will be
needed to thrive in 2010.
The 'Fiscal Times' Is Off to a Very Bad Start