Thursday, January 14, 2010

2010 Outlook

Apparently something odd happens at the beginning of each calendar year where all of the economic and market issues that created uncertainty in December suddenly are resolved. In January, it seems that all investment pundits, analysts, managers, newsletter writers, bloggers, and anyone else who cares to wade into the pool proudly announces their forecast for the upcoming year. Magically, all that was murky and unclear in December gets resolved and the forecasts stand as beacons of light in the uncertainty of the current market climate. The 2010 forecasts are, as usual, all over the map as some investors are looking for a continuation of the market rally that began last March, and others are convinced that the market is due for a severe sell-off.

Please forgive us for not participating in this exercise. The same issues that clouded our forecast a few weeks ago still seem unresolved to us, and the new calendar year hasn’t helped at all. We are continuing to focus on interest rates and the dollar, the sustainability of the economic recovery, and even if we are having a recovery at all given the problems with seasonally-adjusted economic data. We are discussing whether the Fed will follow through on their pledge to remove economic stimulus and whether the mortgage market and other credit markets will implode if the Fed takes away the punch bowl this year. Earnings are a continuing source of concern as we consider whether consensus forecasts for 2010 are too optimistic. Clearly some kind of transition must take place this year in terms of top-line growth for corporate America. There are a lot of moving parts and unresolved questions as we enter the New Year.

The thing is we are evaluating these issues in real time, looking at the data as it comes in and incorporating it into a thought process that gauges the probabilities of future events. What are the odds of a double-dip recession, $85 S&P operating earnings, a bottom in housing prices, a 2% Fed Funds rate, etc? As we consider the probabilities of these and many other events, it leads to incremental changes in our portfolio construction as we add or trim positions based on a high or low conviction forecast. At the moment, we think the odds of the S&P reaching 1,200 to 1,350 are at least 50-50, which leads us to have a neutral or benchmark level of risk in our managed accounts. Not surprisingly, this is the same positioning that we had two weeks ago. To say the odds of a continuing bull market is a 50-50 proposition is not exactly the kind of ringing endorsement of an investment view that investors want to hear in January. However, we think it’s the best we can do. If the data changes our outlook, or our conviction, our clients will be the first to know. They will see it in the transactions that are executed in their portfolio. We will leave the grandiose market prognostications to others.