BLUE-CHIP US stocks limped to their first annual loss in three years in 2005, and opinion is divided over whether 2006 will be any better for Wall Street.
Some analysts see a cooling of economic growth as US consumers finally curb spending to shore up their finances. Others predict the kind of rally that, in the end, eluded US stocks in the year just over.
Having gained 29.3% over the previous two years, the blue-chip Dow Jones Industrials Average lost 0.6% over 2005 to close the year at 10,717.50.
A December decline for the barometer of leading companies sped up after Santa Claus failed to deliver his usual gift of a year-end rally and institutional investors cashed out what gains they had made for tax purposes.
But the tech-rich Nasdaq composite and broader Standard and Poor's 500 index finished 2005 with their third-straight yearly gains, albeit modest ones.
The Nasdaq climbed 1.4% over the year to 2,205.32, while the S and P 500 rose 3.0% to 1,248.29.
Wall Street’s performance over 2005 paled in comparison with its major overseas counterparts: Britain's FTSE 100 share index rose 17%, Germany's DAX 30 climbed 27% and Japan's Nikkei 225 surged 40%.
Of the Dow's 30 components, 16 lost ground for the year, with troubled auto giant General Motors tumbling 51.5% hitting a 23-year low in the process – to lead the 2005 losers.
For some, the Dow might have posted its first yearly loss since 2002 but that wasn't a bad result given the devastating hurricanes, record-high energy prices and fears over terrorism that buffeted markets in 2005.
“The market has shown great resiliency,” said Eugene Peroni, head of equity research for Claymore Securities.
“Just the fact that the market has been able to hold in a trading range in this environment is bullish,” said Peroni, who predicted the Dow will reach 13,000 in the next 18 to 24 months.
“This is a momentum market. Although this may conjure memories of the technology bubble, this environment is much richer in diverse sector opportunities. I believe the market action indicates economic activity with very good depth.”
Other analysts are more cautious, arguing the stock market has still not worked off the excesses of the technology bubble of the late 1990s and that growth for the major indices will be linked to the economy and profits.
They pointed to the gloomy end to 2005 when many investors were spooked by a so-called inversion on the market for US Treasury bonds, as the interest yield on short-term notes began to outpace that on long-term bonds.
In the past, as in late 1999, an inverted yield curve has been a harbinger of a stock market slump and economic recession.
Paul Nolte, director of investments at Hinsdale Associates, said that in the wake of the biggest bull market in decades followed by a horrific bear market, stock values remain expensive by traditional measures.
“We went from being expensive 10 years ago to crazy expensive and now we're back to just expensive,” said Nolte, who predicts the market could lose up to 10% in 2006.
Using Wall Street’s measure of price-to-earnings (PE) ratios, the average stock is priced at around 15 to 16 times projected 2006 profits, Nolte said. But based on current earnings, the PE ratio is even higher at 18 to 19.
Nolte said corporate profits will grow only if US consumers – who represent 70% of economic activity – keep spending more.
But he sees this as unlikely, especially with interest rates well above last year's lows and the housing market cooling, curbing the ability to take out home equity loans.
When the dust settles, analysts said the only major catalyst for the market may be the Federal Reserve, if it ends its recent cycle of interest rate hikes.
“Historically, when the Fed is about done, the markets start to rally. But historically when the Fed stops, we have valuations much lower than they are today,” Nolte said.
Despite 2005's weak close, many were still optimistic about 2006's prospects because of hopes for an end to the Fed hikes, a retreat by oil prices and foreign demand for US stocks.
“The near-term pattern on the Dow, S and P 500 and Nasdaq suggests that further pullbacks are a distinct possibility,” said Morgan Stanley technical strategist Mark Newton.
He said the recent weakness had been relatively contained, considering a strong rally in November, “which leaves the overall monthly trend still quite bullish”. – AFP