How Real Is the Market Rally? Two Views
With the Dow edging close to 9000, the S&P hitting a high for the year, and the Nasdaq recording its 11th consecutive advance, the question on the lips of so many investors as BusinessWeek went to press on July 22 was: Has the stock market turned a significant corner? To get a broad sense of where stocks are headed, I talked separately with two respected voices: Robert Zagunis, chairman of the investment committee at Jensen Investment Management in Lake Oswego, Ore., and Abby Joseph Cohen, senior investment strategist at Goldman Sachs ( (GS)) in New York.
MARIA BARTIROMO You've got the Dow poised to cross the 9000 mark. Are people seeing real changes in the economy, or is there a bit of irrational exuberance going on once again?
ROBERT ZAGUNIS Yes, probably a little bit. Some of these changes in the economy revolve around the consumer, and the consumer's behavior has, no question, changed. It's almost akin to Depression babies—you know, the shock to the system has been so severe that there may be a more permanent profile emerging. We see deleveraging happening, the savings rate going up. Overall, there is more clarity, but not really enough yet. But equity investing is supposed to be long-term in nature, and from our point of view, we look at the individual companies, and what we see on a fundamental basis is actually very encouraging. You know, even with the severe downward acceleration of business activity, we are really very happy with the actions of managements to move fast and decisively. So if you're long-term and looking for a time to enter the market, certainly the opportunities are very, very good right now. Provided you can accommodate some likely continued volatility, I think you'll do quite well in the long run.
Do you think there's been a long-term shift in the mentality of the investor?
ABBY JOSEPH COHEN I think we need to be looking at changes in behavior in many different ways. First, we have seen the savings rate for households increase. It got down to an unsustainably low zero, and now it's back up to 6%, and that's a good thing. In the short term, it means the economy may not recover as quickly as it would have, but it's better to have those household balance sheets restored. Second, in terms of investments, we are seeing that some investors are already moving back in, but they're moving back in a careful way. So many of them, for example, are using index funds or other mutual funds where they feel that they have good transparency and understand what they're investing in. But it will take a long time before investor confidence returns to the levels we had seen previously.
So how do you want to be positioned going into the second half?
ROBERT ZAGUNIS We see technology as an opportunity, health care as an opportunity, and, certainly, industrials developing as an opportunity toward the end of the year.
ABBY JOSEPH COHEN The second half of the year will be much more of an investor's market. Our strategy teams see opportunities in some economically sensitive areas, including technology. We also note that the tone for business equipment investment has improved, so that should be helpful. In addition, we do see some opportunities in financial services. Many of the surviving companies in the second quarter, at least thus far, have reported some improvement in margins, and we'll be watching that carefully as well. So it sounds as though you think the market will be higher by yearend than where we are now.
ABBY JOSEPH COHEN We think the market should be viewed as a series of trading ranges [a trading range is the spread between high and low prices over a period of time]. Forget the U, forget the V; it looks like a staircase. We've had a very significant upward step from March. And we think that the next step will also be upward. There are two very important things here. Number one, we think the recession will be ending. We think GDP will be positive in the second half of the year. The other thing that will look better will be corporate profits. Keep in mind that we're getting to some extremely easy comparisons. The third quarter of 2008 was not good, and the fourth quarter of 2008 was dreadful. So those comparisons are going to look great. Also a bit of an optical illusion is that some of the companies in big trouble that were in the S&P index a year ago, may no longer be there. But the third thing that is more important, and we're spending more time looking at, is that we do see profit margins picking up.
What are you looking at right now as far as specific opportunities in stocks?
ROBERT ZAGUNIS We have Cognizant Technology ( (CTSH)). We own Microsoft ( (MSFT)), a fairly large position. We own Oracle ( (ORCL)). Adobe Systems ( (ADBE)), ADP ( (ADP)), and Paychex ( (PAYX)). One theme for us is efficiency—businesses looking to outsource functions that someone else can do a lot better than they can internally. I mentioned health care. We feel there is a great opportunity there. We own Stryker ( (SYK)), Medtronic ( (MDT)), and Johnson & Johnson ( (JNJ)). Interestingly, we used to be in pure pharma, but have sold Merck ( (MRK)) and Pfizer ( (PFE)).