-- How Now, Dow? The Street's seers bid farewell to a painful year, but renew hope --
According to Thomson First Call, their 2003 consensus estimate for S&P 500
operating earnings is $52.80, which would represent a gain of 11.5% over this
year's likely results. Once again, the strategists' forecasts are back-end
loaded, meaning they expect the biggest quarterly gains to accrue in the latter
half of the year.
The S&P now trades for 18.4 times this year's expected earnings, and for 17
times '03 estimates. That's well below the market's price/earnings multiple of
23 times expected earnings last December, and its peak P/E of 26 in January
2000.
Corporate America's aggressive cost-cutting in recent years should help to
propel earnings next year, says Abby Joseph Cohen, chair of the investment
policy committee at Goldman Sachs. While companies will continue to be sensitive
to costs, she says, they will "begin to look at growth opportunities" in 2003.
Cohen expects the Dow to round out '03 at about 10,800, and the S&P at 1150.
Wall Street's bulls are also depending on a rebound in capital spending, which
was notably sluggish in the past two years. With inventories lean and confidence
rising, albeit slowly, among CEOs, the prevailing hope is that more companies
will loosen their purse strings next year.
Richard Bernstein of Merrill Lynch fears too many companies will face
competing demands on their capital, however. Companies in many industries are
under pressure to improve their balance sheets, boost dividends and increase
spending, all at once. "I think the rating agencies are going to win, forcing
companies to repay debt to shore up their balance sheets," he says.
Bernstein acknowledges that business fundamentals are improving, but "not as
dramatically as everybody wants." He expects S&P reported earnings (including
one-time charges) to rise 15%, to $36.50, in 2003, although a continued
contraction in P/E multiples could leave the S&P at 860 and the Dow at 8200 --
both below current levels -- by next December.
The stock market, he notes, has taken on an increasingly speculative cast this
year. "Money managers have been more concerned with missing the turn in the
markets than preserving capital," he says. "And there's still a general belief
that equities are the asset class of choice."
That's not a bad thing, of course, but it rarely signals the end of a bear
market. Typically, Bernstein notes, the bear departs when no one wants to own
stocks, though they're inexpensive. In the early 1980s, everyone wanted
money-market funds. In the late 'Eighties, it was bonds. Consider, in each case,
the golden years that followed for equities.
In order to accept the rosy views of Wall Street's bulls, investors must have
faith in the U.S. economy and its key driver, the consumer. And so long as
unemployment stays near its current 6%, there may be little need to worry about
the consumer's health. But stable interest rates and a slowdown in mortgage
refinancings could prompt changes in consumers' focus, says Goldman's Cohen. She
predicts a shift from interest-rate-driven purchases, such as cars and homes, to
smaller, discretionary items and services such as entertainment and travel.
Francois Trahan, who moved to Bear Stearns this year from a strategist post at
Brown Brothers Harriman, thinks "companies geared to business spending rather
than consumer spending" will be the stock market's winners next year. "There's
no indication that monetary policy has stopped working, so the economy should
improve in 2003," he says. Yet he's looking for merely modest gains in the
indexes, to 9000 in the Dow and 950 in the S&P.
The nation's economy, and its financial markets, could get a boost if
President George Bush manages to effect a tax cut next year. At the least, the
recent overhaul of the administration's economic team, marked by the
resignations of Treasury Secretary Paul O'Neill and Chief Economic Adviser Larry
Lindsey, demonstrates the growing emphasis the president has placed on the
economy.
"The desire of the Bush team to extend its stay in the White House will lead
to measures to insure the economy has enough stimulus to stay out of recession,"
says Thomas McManus, chief investment strategist at Banc of America Securities.
Besides, in the third year of a presidential term the markets historically
have performed well -- a factoid that's received a lot of attention this year.
On the eve of 2003, the valuation discrepancies have narrowed among most
industry sectors. Consequently, most strategists think the year ahead is likely
to reward stock pickers rather than those who make sweeping sector bets.
Morgan Stanley's Galbraith likes companies with high free-cash-flow yields,
determined by dividing cash flow per share by stock price. A high yield
generally indicates a company has been disciplined in its capital spending and
has lots of cash on hand. Galbraith cites energy, defense and health care as
three industries with typically high cash-flow yields.
Edward Kerschner, chief global strategist at UBS Warburg, likes companies that
can generate more sales from their assets. "Asset turn is going to be as
important as boosting margins in the 1990s, or leverage in the 1980s," he says,
citing railroad-operator CSX as a company that will benefit from shortening the
time needed to load and unload cargo.
Ed Yardeni, chief investment strategist at Prudential Financial, warns that
pricing pressure will pose big challenges to earnings growth. Accordingly, he's
on the lookout for industries and companies that don't compete directly with
China. Yardeni, who sees the Dow at 10,500 by the close of 2003, favors
health-care companies, which face little global competition. But China will
export deflation in computer hardware, and India in software, he warns.
Like many analysts, Bernstein recommends stocks with high dividend yields.
They will benefit if the Bush administration ends taxation of dividends, but
also from investors' search for current yield.
Many companies in the S&P 500 already seem well aware of the power of
dividends. "They are raising dividends ahead of a pick-up in economic growth,"
says Salomon Smith Barney strategist Tobias Levkovich.
Meanwhile, most of the Street's top strategists are steering clear of their
own turf -- financial stocks. They've had a nice run in recent years, but could
buckle if the Fed begins to raise rates again.
Sure, there are plenty of reasons why the stock market could make it a
miserable four-for-four next year, ranging from more earnings woes to more
terrorist attacks. But you, dear readers, might sleep better knowing that the
venerable Dow has fallen four years in a row only once in its history, from 1929
through 1932. So trust in the past, and happy new year.
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31-Dec-2002 03:36:00 GMT
Source BAR - Barron's |
