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Strategies & Market Trends : Z Best Place to Talk Stocks -- Ignore unavailable to you. Want to Upgrade?

To: Ron McKinnon who wrote (47563)	4/6/2003 7:55:34 PM
From: E.J. Neitz Jr	Read Replies (1) \| Respond to of 53068

Merrill--Global Research Highlights – 4 April 2003 Strategy Focus United States • Our Sell Side Indicator was unchanged for March, and our valuation models deteriorated somewhat. All in all, we have not altered our recommended asset allocation or our S&P 500 price objective. Our allocation is 45% stocks, 35% bonds, 20% cash, and our 12-month objective for the index is 860, not far from its recent level. • We continue to believe that investors are viewing geopolitical issues much too narrowly. The consensus seems to be that the U.S. economy will be fine after the Iraq war and that uncertainties will fade quickly. Our feeling is that we might be entering a 10-year or 15-year period of significant change on the geopolitical front and that considerable uncertainty will persist. • The market might stage a relief rally when the end of the war with Iraq comes into view. The question for investors then would be whether such a rally represents an opportunity to buy or an opportunity to sell. Because domestic economic fundamentals continue to deteriorate, we would view such a rally as an opportunity to sell stocks into strength and reallocate assets into more-conservative asset classes. • The latest reading of the Sell Side Indicator (March 31) is 65.7%, the same as the figure for February. Wall Street strategists continue to believe that the current environment represents one of the best times in the past 18 years to buy equities. Experience shows that their views are usually a good contrary indicator. • The Sell Side Indicator’s 12-month expected return for the S&P 500 is –11%, and some of our other models have deteriorated a bit. Taken together, they suggest that a slight change in our S&P 500 price objective might be appropriate. We’re not making such a move, however, because even a very small change would imply a level of precision that is probably not realistic. • That said, our valuation work has begun to suggest that the market is becoming less attractive. The market did advance slightly during March, but a possible peak in earnings expectations appears to be having greater influence on some of the models. • We have pointed out that the consensus seems to be that the profit cycle is in its infancy. However, the data are increasingly suggesting that the cycle is in a later phase. Our work indicates that the momentum of estimate revisions in the U.S. seems to have peaked. Another point: estimate revisions in Asia, which tend to lead those in the U.S. and the world as a whole, peaked eight or nine months ago, and they continue to weaken. Moreover, although most observers continue to forecast substantial earnings gains for the S&P 500, reported earnings (based on a smoothed four-quarter total) are now declining on a sequential basis. Trailing four-quarter EPS were $30.05 for the third quarter, but they slipped to $28.00 for the fourth quarter. • The increase in long-term interest rates during March also hurt our valuation models. The 30-year Treasury bond rate rose from 4.67% to 4.83%, and the 10-year Treasury rate rose from 3.70% to 3.81%. Had Treasurys not rallied toward the end of the month (and stocks sold off), we might have been compelled to reduce our S&P 500 target. • Meanwhile, the end of the war with Iraq, when it occurs, is unlikely to sound the “all clear” for the U.S. economy and for geopolitical worries. Rather, we think that economic problems will persist and that many years of geopolitical uncertainties lie ahead. • We still believe that the chances for a “double-dip” recession are about 50/50, and we think that the probability is very high (more than 90%) that earnings will be weaker than most investors currently expect. It is difficult to imagine how equities will outperform bonds and cash in such an environment. • The consensus investment strategy remains this: investors should buy equities “on dips”; higher-beta stocks are preferable to lower-beta ones; equities are the asset class of choice (the “where else can anyone get meaningful returns?” argument); and there is more risk being out of the stock market than being in it. Our work tells a different story, and we prefer to continue to focus on yield, quality, and a significant degree of asset diversification. Richard Bernstein Chief U.S. Strategist