Stocks started off 2011 on the right foot, as all the major equity indexes finished to the plus side during first week of trading in the New Year. The ball dropped on the New Year with a nearly 100-point rally on the Dow Jones Industrial Average on the first trading day of the year. And even though we ran out of gas the rest week, Monday’s surge was enough to put the first week of 2011 into the “win” column. This was great news for the bulls, especially when you consider that January tends to be one of the weakest months of the year. Specifically, over the last ten years, only two months have averaged a worse return than January (February and June).
The Dow Jones Industrial Average rose for a sixth straight week as it added 97 points, or 0.8% to a level of 11,675. The Standard & Poor’s 500 snagged its best week since early December and added 14 points, or 1.1%, and now stands at the 1,272 mark. Meanwhile the Nasdaq composite Index rose by 1.9% to 2,703, while the smaller-cap stocks as represented by the Russell 2000 climbed 0.5% on the first week of trading in 2011.
So, with stocks now at a two-year high, the nagging question as to what possibly could go wrong begins to arise. And while we’re not trying to throw a wet blanket on the red-hot rally, four-month rally, there is no doubt that investors could be facing an oncoming pull-back or consolidation at best. The financial talking heads have been chomping at the bit to let us all know that the recession is now over and that the economy is finally on the mend. There certainly seems to be a bullish tone to every report on economic news, and there is even more of a bullish tone when we hear of stocks moving to new two-year highs.
There is an old adage that stocks climb a “wall of Worry,” but that saying has apparently been put out to pasture. It is clear that the Federal Reserve thinks that the stock market is one of the most important leading economic indicators, which is probably why it has benefited either directly or indirectly from all of the TARP and quantitative easing cash. The Fed’s purchases of U.S. bonds has certainly helped, but even with the QE2’s $600 billion, interest rates are still nevertheless still rising. The big question is what happens to this game of musical chairs when the QE2 music finally stops in June, and everyone still has to find a seat?
Treasury yields ended a busy first week of the year for the bond market little changed, even with that sharp drop last Friday in reaction to weaker-than-expected employment data for December. Bond yields have finally settled into a relatively narrow range. Due to the weak jobs report, it is now apparently quite clear that the Federal Reserve will keep interest rates at their current low levels. In the bond market, yields on the short-to-intermediate maturities fell more sharply than those on issues due in 10 years or more. The yield on the benchmark 10-year note was up to 3.32%, but that was still lower from the 3.47% mark at midweek. The five-year note ended the week virtually unchanged at 2% and the two-year note ended the week at a yield of 0.60%.
This week the earnings season officially kicks off with reports from Alcoa, Apollo Group, Intel, Lennar, Supervalu, H.B. Fuller, Shuffle Master and J.P. Morgan to name a few. Over the past four weeks, analysts have raised forecasts for 576 companies within the S&P 1500, while lowering their sights for just 382 companies, according to Bespoke Investment Group. The consensus expects fourth-quarter operating profits at S&P 500 companies to rise by some 32%. However, keep in mind that this will be the last of the easy comparisons as profit growth slows to about 13% in 2011.
With respect to economic data this week, they’ll be a plethora of economic news to chew on. On Wednesday, the Beige Book will be released and traders will be parsing the report for signs that our economic recovery is gaining momentum. On Thursday, it’s the December producer price index report, which reflects prices at the ‘wholesale’ level. It’s expected to have jumped to a monthly 0.8 percent increase for December. Friday we get the consumer price index report, which should show an increase of around 0.4 percent. Also on Friday is the December retail sales report, which will more than likely show that we had a decent holiday shopping season. In addition, Friday shows us the industrial production and capacity utilization reports. Both of these reports should show some marked improvement over past recent tallies. In fact, it is our hope that all of the major economic indicators to be released this week will be rather healthy, and reaffirm that our economic recovery continues to be on the road to improvement.
Once again, stay tuned for what promises to be another wild and woolly trading week in the New Year.
Sources: Barron’s, Wall Street Journal, Reuters, Associated Press, Econoday, Gorilla Trades and Bloomberg