Five Sparks for a Stock Market Comeback

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Before the bottom fell out of the market in October and November, the Federal Reserve had projected an economic recovery for the end of 2008; that prediction has now moved well into 2009. If Bernanke & Co.'s next revision is for still lower growth, it will sink investor confidence, like a company that keeps missing its earnings estimates and keeps forecasting lower profits, says Skrainka.

If predictions for a return to economic growth get pushed out to September 2009, that would postpone a stock market bottom until March, says S&P's Young. "The opportunity cost of being even a month early [on a recovery bet] in this environment can be 5% to 6%, even in blue chip stocks," he says. "People are seeing how much money can be lost so quickly. Half the losses have been in the last few months."

Bill Stone, chief investment strategist at PNC Wealth Management (PNC) in Philadelphia, says investors' sentiment could turn positive if we start to see a slower rate of decline in the economic data. "You're seeing acceleration to the downside now," with GDP currently expected to drop 5% in the fourth quarter after a preliminary reading of a 0.5% decline in the third quarter.

Merrill Lynch's (MER) prediction last week that oil prices could drop to as low as $25 a barrel next year on falling world demand feeds investor pessimism in the same way, since the suggestion of protracted weakness in the global economy doesn't inspire much confidence in corporate profits, says Young.

The way out of a recession is typically created when prices for certain items and the cost of borrowing become low and attractive enough to entice consumers into buying and borrowing again, says Abby Joseph Cohen, chief U.S. investment strategist at Goldman Sachs (GS). "I do believe this will be a thornier problem than in previous recessions," requiring more time for the automotive and housing industries to rebound.

2. An Enormous Government Stimulus Package
As Obama's remarks over the weekend have already shown, a massive government stimulus package would help alleviate market fears about a recession dragging out. Although there was no mention of size, the President-elect's plan centers on an infrastructure program to rival the Interstate highway system of the 1950s and also calls for funds to make public buildings more energy-efficient. That includes schools, which would be modernized and equipped with new computers in classrooms.

Opinions differ as to how big the stimulus needs to be to put Wall Street back in a buying mood. The market has arguably already discounted a $500 billion package, says S&P's Young, while Robert Reich, Labor Secretary in the Clinton Administration, said last week that spending needs to be 4% of GDP, or roughly $600 billion. Quincy Krosby, chief investment strategist at The Hartford (HIG), believes the package needs to be larger than $700 billion to be meaningful.

While investors are most concerned with policies that could jump-start the economy now, investing in longer-term projects will ultimately drive more sustainable GDP growth in the future, says Abby Joseph Cohen at Goldman Sachs. And investing in infrastructure no longer means only building tangible projects like bridges and highways, but also encompasses provisions for the "information economy, like the right sort of broadband connections and making sure portions of the population that are shut out of educational opportunities have access to [Internet-based resources]."