Stocks: Is It Time to Start Betting on a Recovery?

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The financial sector is shrinking as a portion of the economy, and its future growth may be much slower, says Gary Wolfer, chief economist at Univest Wealth Management & Trust (UVSP). Financials also have an image problem with investors, given the huge mistakes—and in some cases, fraud— that caused the subprime mortgage crisis. "It's going to take a little time for people to embrace financial stocks," he says.

3. Consumers

The U.S. consumer has borrowed too much and saved too little, many economists say. In the long term, this must reverse itself. "We are going to rediscover that old-fashioned concept called thrift," Kasriel says.

As a result, the U.S. economy might be less reliant on consumers in the future—a negative for stocks that rely on consumer discretionary spending. But it's an open question as to when this shift will begin to occur.

The federal government is trying to revive consumer spending through tax cuts and other stimulus efforts. At the same time, spending could be slashed further as the unemployment rate continues to rise, even after the economy starts growing again.

Wolfer predicts a "jobless recovery." Eventually, he says: "Consumers will come out of their shell, but they won't be the big spenders that they have been." If present trends continue, this should benefit retailers of necessities such as Wal-Mart (WMT), which has seen steady sales by emphasizing low prices.

4. Export-driven companies

If consumer spending declines as a percentage of the economy, the U.S. will need to rely on other areas to make up for it. In the short term, the Obama Administration hopes that government spending will prop up the economy. In the long term, many say exports will need to be a prime source of growth.

Here the big wildcard is not the U.S. economy, but the global economy—particularly China's. "We're paying a lot of attention to demand from overseas," says Quincy Krosby, chief investment strategist at Hartford (HIG). If emerging economies recover and the dollar weakens, U.S. companies that rely on exports could benefit, she says.

Caterpillar (CAT), a maker of construction equipment, gained from the infrastructure boom in emerging economies but faltered when their growth slowed.

5. Government Policies

Economists and investors disagree about the impact of government policies on the economy. Hembre expects companies to benefit from infrastructure spending as part of the U.S. government's stimulus package. But Englund believes the spending won't have much impact for years.

Likewise, many worry about the effect of higher taxes in the U.S., particularly on the wealthy. Others, however, say the proposed tax hikes are relatively modest.

6. Bankruptcies

Titche warns that the U.S. economic recovery could be quite weak. "It may even be so weak that a lot of people complain that there is no recovery," he says.

In that case, many companies—particularly those with heavy debt loads—won't survive. "You need to be much more careful about the investments you make," Titche says.

He advises seeking out higher quality stocks in every sector. In other words, he says: "Kohl's (KSS) instead of Sears (SHLD), Staples (SPLS) instead of Office Depot (ODP) or Office Max (OMX). and IBM (IBM) instead of Dell (DELL)." (Titche's funds own Kohl's, Staples, and IBM.)

7. Earnings

There's a legitimate debate as to whether the stock market will be able to maintain its momentum even if the economy is on the road to recovery.

Hembre doubts it. With inflation low and growth slow, corporate earnings could be squeezed, he says. Market analysts often repeat the conventional wisdom that the stock market moves higher about six months before the economy recovers. That's not always the case: In the last recession, which ended in 2001, the stock market didn't hit bottom until 2003.

Hembre says that if earnings are stagnant, this decade might be like the period from 1967 to 1982, when stocks went nowhere. "Even though the economy grew substantially in that period, the equity market didn't," he says.

"all clear" is not in sight

So many open questions are a main reason why few investors are confident that the stock market's recent rally truly signals an end to the market misery. "We don't believe happy days are here again," Titche says.

Even if the economy's growth rate turns positive this year—a big 'if'—the market must still deal with such fundamental problems as bankruptcies, stagnant earnings, a global slowdown, excess housing supply, and job losses.

A stabilized economy would be something to celebrate, but it wouldn't by any stretch amount to an "all clear" signal for investors.

Steverman is a reporter for BusinessWeek's Investing channel.