A repeat of ’04?
There are only a few days left in 2009 and who would have believed the year would turn out this way? As of the time of writing, the S&P/TSX Composite Index was up almost 30 per cent from the 2008 close of 8,987.7. Back in the dark days of early January, no one was predicting anything like that result. In fact, the big concern was that we were on the brink of a new depression.
Of course, we are not out of the woods yet and as our political leaders keep telling us, the recovery is, to use their favourite word, “fragile”. But the mood is light-years ahead of where we were at the start of the year and the latest employment numbers suggest that business is finally picking up steam. The banks, which almost everyone was selling in January, are reporting huge profits again. Gold surged to record levels before pulling back some. Oil prices have rebounded to a level where even the highest-cost energy companies can make handsome profits again. Mothballed oil sands projects are being restarted.
Add it all together and we have witnessed a turn-around that has been so rapid as to be almost mind-boggling. The question that remains is: How real is it?
At the start of this year, I predicted that 2009 would be rough and warned that the TSX could experience further losses in January-February before rallying later. I got that part right but I was much too conservative in my forecast, saying only that the Composite Index would be above 9,000 by Dec. 31. That call was based on my concern it would slip much lower before the turnaround began. In fact, the TSX hit its low for 2009, and the cycle, on March 6 when it closed at 7,479.96. Since then it has gained more than 50 per cent.
That’s great news for our brokerage accounts but I fear we have come too far, too fast and that the next stage will be a cooling-off period that will see a significant pull-back to below 11,000. I have expressed this concern before, only to see the Composite Index rebound to new yearly highs. But we need to remember that, historically, no stock market goes up in a straight line. There are always dips along the way.
Co-incidentally, as I was preparing this column I received articles from two of my Internet Wealth Builder newsletter contributors, Irwin Michael and Ryan Irvine. Both independently expressed the same caution, saying that we need to be very selective when it comes to stock picking at this stage.
Normally, we expect to see what has become known as a “Santa Claus Rally” in December as investors take advantage of bargains generated by tax loss selling. That would be a nice way to end the year but I am not optimistic it will happen. We may have already seen the high for 2009.
As for 2010, I’m concerned that we could end up with a repeat of 2004. In case you have forgotten, that was a difficult year for both stocks and bonds. Following the end of the high-tech crash in the fall of 2002, all the major stock indexes staged huge rallies in 2003. The TSX Composite rose 24.3 per cent that year, the Dow was up 25.3 per cent, and the S&P 500 gained 26.4 per cent. After the trauma of the tech bubble, everyone breathed a sigh of relief.
It turned out to be premature. As interest rates rose, bond prices dived and stocks struggled. As late as Sept. 1, 2004 the TSX Composite was trading below its opening level for the year. Only a strong autumn rally pushed it back into positive territory and it ended the year with a gain of 12.5 per cent.
A similar pattern in 2010 would not surprise me. Stocks need time to consolidate their gains and to have them validated by rising profits. Following the correction I expect to happen, we could be in for a few months of sideways movement before the rally resumes.
If you agree with this assessment, take profits on some of your winners now and do some tax-loss selling where appropriate to offset the gains. Then bide your time, wait for the correction, and selectively (there’s that word again!) add new positions. There will be money to be made in 2010. It just won’t be as easy as it has been in recent months.
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Photo ©iStockphoto.com/ Björn Meyer