The first quarter of 2012 was a stunner in the equity markets, giving us the best first quarter since 1998. And that raises the question: What did 1998 look like relative to 2012?
Table 1: A Little Comparative Economic History
||Beginnings of an enormously impactful Internet revolution
||Banking sector still struggling, corporation cash at record levels in response to continued economic uncertainty coupled with political volatility.
|Federal government spending
||Relatively controlled with a surplus of 0.7% of GDP
||The highest percentage of GDP in history outside of a world war with a projected budget deficit nearing 9% of GDP
||Infighting of Montague and Capulet quality
||Sustained 4+% of GDP
||Under 2%, weak, and slowing
|Industry capacity utilization
||78.4% (significant excess capacity)
||Strong and growing
||23% of homeowners are underwater, prices still falling, and a mortgage process more invasive than a colonoscopy
||Unemployment at 4.5% with 67.1% of the population employed
||Unemployment at 8.3% with 63.8% of the population employed
||Conference Board measure 131.7
||Conference Board measure 70.2
||Stable and predictable with a balance sheet of $500 billion rising at 5% annual rate
||Unpredictable and in uncharted territory with a balance sheet of more than $3 trillion rising at a 20% annual rate
|Inflation as measured by CPI
||1.6% (significantly less than GDP growth)
||3% (above GDP growth)
We must also take into consideration the weather, which has given us not only an exceptionally warm January and February, but also a March that was reportedly the warmest on record. In addition, the Easter Bunny is arriving this weekend, two weeks earlier than last year. Easter is the third-biggest buying holiday in the US, behind only Christmas and Valentine's Day, so that is likely to help support economic data in the coming weeks.
If we look a little deeper at the markets, Apple Inc. (Nasdaq: AAPL) rose 48% in the recent rally and is responsible for nearly 20% of the appreciation in the S&P 500. It represents 4% of the S&P 500 market capitalization and 11% of the Nasdaq. Divergence is everywhere, meaning there is no clear, consistent trend, despite the headlines. Small and mid-cap stocks, the broader NYSE composite, transports, the Baltic Exchange Dry Index, and Treasury yields have not made new highs, contrary to what would be expected in a true bull run.
With first-quarter earnings season barely a month away, the stock market will need to see $108 of operating earnings per share from the S&P 500 to justify the market at its current price-to-earnings level. The current consensus calls for $105, and my calculations tell me that figure is overly optimistic.
Bottom line: Don't let the tail wag the dog. The markets have become increasingly dependent on monetary stimulus while often disregarding economic and investment-specific fundamentals. The minutes the Federal Open Markets Committee released this week from its March 13 meeting revealed that it believes the economy is strengthening. That assessment led the markets to believe another round of quantitative easing is less likely. Stock indices immediately turned downward, and volatility rose. We work within markets in which bad news is good and good news is bad. When the markets do not reflect the same reality as the macroeconomic fundamentals, guess which one eventually wins?