BlackRock guru Bob Doll explains why the US equity market can grind higher despite the nervous economic outlook.
Equity prices have been helped in recent weeks by continued strong corporate earnings.
The current quarter has been one of the strongest in recent years. Analyst forecasts for the remainder of 2010 have been moving up as well, although expectations for 2011 have fallen slightly.
On the economic front, the most important data recently was the July employment report. The headline numbers were disappointing, as the US shed jobs last month, largely as a result of the loss of temporary census workers. Additionally, private sector payrolls advanced by a less-than-expected 71,000 jobs.
The unemployment rate remained steady at 9.5%. There were, however, some bright spots in the data. Hours worked and average hourly earnings both advanced, which augers well for the future.
Overall, US and global economic statistics continue to show the pace of economic growth has trailed off in recent months. Both the US and Chinese Purchasing Managers’ Indexes (PMI) for July, for example, indicated that there has been a loss of economic momentum. Nevertheless, recent market reactions have shown many investors have shrugged off the weak data, suggesting most believe the recovery will continue.
In addition to improving equity markets, industrial commodity prices have advanced by almost 15% since early June. It is difficult for us to reconcile rising commodity prices with a view that the Chinese economy is collapsing or that the US and other developed markets are heading for a double-dip recession.
From our perspective, the recent soft patch of economic data is just that—a slowdown in the pace of recovery and not an indication that the economy is sliding back into recession.
Many risks remain in our cautiously optimistic outlook, including the failure of the US housing market to stage a meaningful recovery, the need for ongoing consumer deleveraging and the move toward fiscal austerity in many markets.
Any of these factors, plus the ever-present risk of additional external shocks, could potentially conspire to derail the US economic recovery. Notably, however, we believe such a scenario is unlikely. We would be more concerned about the possibility of a double-dip recession if the corporate sector was showing signs of profit difficulties, but that clearly is not the case.
Looking ahead, as long as the economy does not fall back into recession, US equity markets should be able to grind higher over time.
Bob Doll is BlackRock vice chairman and chief equity strategist for fundamental equities, fund manager BGF US Flexible Equity fund
