THE FALL OUTLOOK

Barron’s Fall outlook has some good thoughts on the market going forward:

THE 2009 RALLY HAS REPAIRED SOME of the portfolio damage suffered in the stock-market crash. Repairing confidence, however, is a different matter. Though stocks rebounded as much as 52% in the past six months, even Wall Street’s most faithful constituents don’t expect that momentum to last.

As autumn arrives, the 10 top strategists and investment officers surveyed by Barron’s say they expect the Standard & Poor’s 500 to finish this year at an average of 1056 — barely 4% above today’s level at 1016. To put this in perspective: After clocking monthly gains averaging 6.5% since March, the market is now expected to creep up less than 1% a month. Apparently, the fourth-quarter bounce has gone the way of the three-piece suit and the two-martini lunch. A Santa Claus rally? Maybe not this year.

No, the strategists haven’t turned bearish. They are essentially bullish, even if their price targets are subdued. Nearly all of them think that lavish government stimulus programs have stabilized the economy during the worst recession in generations, and they expect operating profits of S&P 500 companies to rebound 24% in 2010. The majority heavily favor cyclical energy, materials and technology stocks, which usually thrive as the global economy mends. In contrast, no one likes consumer staples. And other defensive havens, such as health care and utilities, are roundly shunned.

Remarkably, our last survey, conducted this past December, called for the S&P 500 to finish this year at 1045. That puts our forecasters well on track for a bull’s eye. Yet many of these vocationally bullish strategists have resisted the urge to nudge their targets higher, even as the S&P approaches, or surpasses, their previous marks.

The cluster of year-end targets between 1000 and 1100, all in a tight band within a short distance of today’s market, reflects a common concern that stocks have already run up very far, very fast. Traders lunging at stocks at the first whiff of economic recovery have swelled price/earnings multiples. “A lot of good news is already priced into the market,” says Larry Adam, Deutsche Bank Private Wealth Management’s chief investment strategist.

Says Myles Zyblock, RBC Capital Markets’ chief institutional strategist: “We’ve had the lion’s share of multiple expansion, and we’ll need earnings to grow to catch up. The market is digesting a lot of gains, and it won’t take much to trigger a correction.”

Last week, stocks pulled back 1.2%, even after data showed manufacturing expanding for the first time since January 2008. One red flag for this fall: Estimates by stock analysts for 2010 profits are still roughly 25% higher than market strategists’ forecasts — and the third quarter is when companies begin looking ahead to a new year and quashing improbable expectations, says Citigroup strategist Tobias Levkovich.

The expiration of the Federal Deposit Insurance Corp.’s term-loan guarantee for bank bonds, or any tax hikes to fund health-care reform, could rattle the market, he warns. In addition, companies were granted a reprieve from funding their pensions in 2009, and with only 21 companies within the S&P 500 sitting on fully funded retirement plans, the resumption of that obligation will eat into next year’s profits.

Still, no one seems to think a correction will be anything but short and shallow. Most believe that the 12-year low seen in March, when the S&P 500 skidded to 676, will remain a “generational” threshold, and that the government’s assertive policies have averted a depression and forced a revival that is beginning to resuscitate our economic indicators.

The restocking of depleted inventories, consumer-targeted incentives like cash for clunkers, and easier comparisons all invite economists to pencil in gross-domestic-product growth in the low single-digits in the second half and in 2010.

Nearly everyone acknowledges the looming threat of stringent taxation, and the toll that must one day be paid for today’s financial-disaster relief. But no one expects the Federal Reserve to yank its obliging monetary policy before year end. The debate, in fact, is whether the government will wait until 2011 before raising rates again. And seven of the 10 firms in our survey expect Treasuries to stagnate and the yield on the 10-year to edge up from about 3.44% today.

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