Taking Stock: A Lot of Good News Already Priced Into Stocks

Most capital markets are due for a correction and that makes it more difficult to be a new buyer of stocks, bonds or commodities right now. All you have to do in the equity market is pull up a one-year stock chart on the S&P 500 Index and you’ll see the tremendous capital gain. The market has already priced in strong first-quarter earnings and, if companies don’t announce strong second-quarter visibility, I think share prices will retreat.

With the economy so fragile in its recovery, investor sentiment can change on a dime. We saw this last summer when not a single piece of good news could motivate equity investors to be buyers. Then, as if a switch had flipped, sentiment turned and it wasn’t even during an earnings reporting season. Obviously, you can make money just buying the index during these major swings in sentiment. Now we’re at a point where it’s time for a break. Trading volume is low, not all the economic data are pointing to renewed growth, and some industry groups aren’t performing as well as others. If I had to describe the current trading action in stocks, I’d say the market was experiencing choppy optimism with a side of general malaise.

We’ll get a lot more direction from the stock market as we progress through this earnings season. The financial sector is a key area that needs to report a substantial improvement. I’m still watching the railroads and retailers for overall market direction.

One thing I think investors need to keep in mind going forward is that there is already a lot of good news priced into the stock market. Right now we have interest rates that are unusually low, an unstated policy for a weaker dollar, improving corporate earnings, and strong growth from emerging markets. From a monetary perspective, things aren’t going to get any better. Interest rates are highly unlikely to go any lower (which the stock market generally likes) and price inflation is creeping into the economy. Fiscally, the U.S. government is in a pickle and this means that new stimulus spending (on things like roads and infrastructure) is unlikely. Therefore, we have a situation from a policy perspective, and government institutions can’t do any more than they’ve already done. This means the stock market and investors are on their own.

I would say that the stock market isn’t expensively priced at this time, but fully priced. Therefore, I only expect incremental returns going forward. With that backdrop, a good dose of caution is appropriate if considering new positions. I don’t see any need for investors to rush into any new actions over the very near term.

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