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Investors in US stock market could face a hangover.

New York: Revellers ringing in of the New Year this week need to watch out for the next day's hangover. And investors may experience a similar feeling early in 2015 after a two-year run that has propelled United States stocks up by nearly 50 per cent. Headed into the last trading day of 2014, the S&P 500 has gained nearly 13 per cent on the year, shaking off concerns about valuations thanks to improved economic growth and a very accommodative US Federal Reserve. Add in dividends and the advance is 15 per cent. However, the S&P 500's forward price-to-earnings multiple -- based on 2015 earnings expectations -- is at about 17 now, exceeding the 15-year average of about 15. It means that a pick-up in profits growth may be essential if the market is to continue to add to its historic gains. And yet Wall Street analysts' estimates for S&P 500 earnings growth for coming quarters are languishing in the mid-single digits. With the Fed ready to begin raising interest rates for the first time in a decade, and the strong dollar providing a headwind for companies with overseas operations, a lot will depend on whether the recent strong growth in domestic demand can drive corporate profits higher than those estimates. Whether consumers and companies benefit enough from lower oil prices to more than offset the effects of the slide on the energy sector is also critical. "Multiples almost always go down when the Fed raises rates - you're going to have to depend on earnings," said Jim Paulsen, chief investment strategist at Wells Capital Management in Minneapolis, which has $345 billion in assets under management. The S&P 500's forward price-to-earnings ratio sat at about 13 times at the beginning of 2013; it is now closer to 17, according to data. Since 1940, such a level is associated with S&P returns (excluding dividends) of about 5 percent over a 12-month period, according to data from Citigroup. The high valuation concerns are starting to have some impact on trading. Stocks have been noticeably more volatile in the last few months; the CBOE Volatility Index, or VIX, has averaged 15.4 over the past 12 weeks, compared with 12.6 at the end of August. Share buybacks If the Federal Reserve tightens, the higher rates will not only raise financing costs generally but would also be a deterrent to borrowing to do the share buybacks that have helped to propel earnings per share growth and stock prices gains in the past few years. With such artificial support crumbling, corporate America will have to rely much more on demand from domestic customers to drive earnings growth. Europe is expected to grow at just above 1 per cent in 2015, according to Reuters data, Russia has been slammed by oil's decline, and China and other major emerging markets are struggling with weak demand as well. Switching to more of a reliance on sales growth rather than the Federal Reserve's cheap money may not be an easy transition. Fourth-quarter estimates have plunged in recent weeks, largely in the energy sector as crude oil prices have cratered. Annual growth is now expected to come in at 4.3 per cent for the S&P 500 in the fourth quarter, down from a forecast of 11.1 per cent growth on only October 1. Citigroup's chief equity strategist Tobias Levkovich, in a note on Tuesday, said estimate cuts in the next few weeks, when companies typically warn if they expect to report disappointing results, could lead to some reversals and volatility, as "some of the late 2014 S&P 500 gains appear to have been borrowed from 2015's returns," he wrote. In perhaps a sign of things to come in the energy sector, Civeo Corporation, which builds temporary housing for oilfield workers, said revenue could fall by one-third due to falling crude prices, and cut its workforce and suspended its dividend. The company's shares lost almost 53 per cent on Tuesday.

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Publication:Times of Oman (Muscat, Oman)
Date:Dec 31, 2014
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