Over the past several months, there has been much debate on Wall Street about the future direction of stock prices and the U.S. economy.
The Bulls have pointed to strong employment, low inflation, and rising corporate profits as "proof" of a strong economy and as reasons for stock prices to continue their up-trend. They have also argued that the need for manufacturers to replenish low inventory levels will lead to an increase in economic growth during the second half of 2007.
In looking forward, the Bulls claim that low interest rates, strong corporate balance sheets, and worldwide market liquidity will lead to further increases in U.S. equity prices.
Meanwhile, the Bears point to the continuing slump in the housing market, rising inflationary pressures, and historically high debt levels as factors that will lead to a U.S. recession and declining stock prices over the coming months.
The Bears maintain that the weakening U.S. dollar and massive trade deficit will lead to further inflationary pressures in the months ahead, and that falling home prices and rising energy prices will lead to a slowdown in consumer spending and an economic recession.
We think the Bears' arguments merit more attention, because many of the factors mentioned by the Bulls are either lagging economic indicators or there has been an adverse change in the direction of those indicators.
For example, the Bulls continue to comment on "strength" in the retail sector, even though same-store sales at the nation's leading retailers have declined significantly over the past several months.
Another example is "rising" corporate profits. Although corporate profits have in fact risen during every quarter since the fourth quarter of 2001, the year-over-year change in corporate profits fell to 6.4 percent during the first quarter of this year, from double-digit rates during each of the prior four quarters. Standard & Poor's estimates corporate profit growth will fall to 5.7 percent in the second quarter and to a mere 2.4 percent in the third quarter of 2007.
Meanwhile, more and more "experts" are starting to admit that the housing slump is far from over and that falling home prices and rising energy prices will likely curtail consumer spending over the coming months.
However, rather than taking sides, our focus is on making money. We therefore follow the principle of "riding the wave" of investor enthusiasm. This enthusiasm is often displayed in what is referred to as "market internals" — the number of advancing stocks versus declining stocks and the number of stocks making new 52-week highs. Our research reveals that these market internals are currently quite bullish.
Meanwhile, huge amounts of publicly traded stock are continuing to be taken off the market, as corporations continue to buy back large blocks of their public equity and private equity firms take even more public stock off the market.
Just this week, Johnson and Johnson (JNJ) announced that it has approved a share repurchase program of up to $10 billion, ConocoPhillips (COP) reported that it has approved a $15 billion share buyback program, and Sears Holdings (SHLD) announced that it has approved the repurchase of up to an additional $1 billion of the company's common shares. Sears' authorization is in addition to the $121 million worth of shares that remain available for repurchase under the company's existing repurchase program.
During the first quarter of this year, public corporations repurchased a record $117.4 billion worth of stock and private equity deals rose to an all-time high.
So, while we think both the Bulls and the Bears have some good arguments, we suggest you focus on making money. And, until corporate buyback and private equity transactions slow down significantly, we think the bull market in equities will remain intact.
Longer-term, however, we suggest you pay more attention to the Bears. Consider subscribing to our Financial Intelligence Report (FIR). Although this publication has sided more with the Bears, FIR focuses on alerting its subscribers to money-making investment opportunities in bull markets and bear markets. In the upcoming July issue, FIR covers the commodities market.