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The Dow Jones industrial average dropped for five straight weeks through June 3, with one disappointing economic report after another. That's the longest streak of declines for the Dow in seven years. Still, the grim news is doing little to reduce bullishness among U.S. money managers and market strategists, including JPMorgan Chase's (JPM) David Kelly and Liz Ann Sonders of Charles Schwab (SCHW), who say strong profit growth and valuations that are below the historic average will lift equities this year.
"The economy is still growing, albeit at a slow pace, and sufficient for corporate revenues, corporate earnings, and corporate cash flow to advance," says Bob Doll, who helps oversee $3.65 trillion at BlackRock (BLK), the world's biggest money manager. "We're at the end of the recovery and the beginning of the expansion. That's typically a time when stocks still go up, just at a lesser pace."
The Standard & Poor's 500-stock index, which climbed to an almost three-year high of 1,363.61 on Apr. 29, dropped 5.8 percent, to 1,284.94, on June 7. Forecasters have cut projections for U.S. gross domestic product growth in 2011 to 2.7 percent, from 3.2 percent, in March, the biggest reduction in a forecast since the start of the bull market, according to Bloomberg data. "The U.S. economy is in a slowdown, which is more than technical, but still a good deal less than fatal," says Kelly, who helps oversee $445 billion as chief market strategist for J.P. Morgan Funds. "The expansion will continue. The economy will actually strengthen in the second half of this year. But given the downpour of bad economic news, it's not surprising the equity markets have taken a hit."
At its June 7 level, the S&P had a price-to-earnings ratio of 14.6 based on the past 12 months' profit, compared with an average of 18 over the past 10 years. Many strategists see that as a positive sign. "There's ample valuation support for the market," says Sonders, who recommends investors buy technology shares and avoid companies that depend on consumer spending. She says the factors that have hampered economic growth this year, such as the effects of Japan's earthquake in March, the European debt crisis, and the spike in commodity prices, are temporary and the economy will continue to improve.
"I think stocks head higher," says Jeff Rottinghaus, manager of the T. Rowe Price U.S. Large-Cap Core Fund. He doesn't expect analysts to cut earnings estimates. He especially likes big industrials, which "did more to restructure their businesses in the downturn than any other industry," he says. "They're coming out of the downturn with higher returns and higher margins." His favorites include United Technologies (UTX), Honeywell International (HON), and FedEx (FDX).
"We're buyers," says Cliff Remily, who co-manages the $9.2 billion Thornburg Investment Income Builder Fund. "In this environment, where you have low interest rates, high uncertainty, and a lot of volatility, dividend-paying stocks are an attractive investment." He cites Coca-Cola (KO), McDonald's (MCD), Kraft Foods (KFT), and Verizon Communications (VZ) as strong choices.
Pacific Investment Management's Bill Gross, who manages the $243 billion Total Return Fund, is also a dividend fan. With interest rates near record lows, investors should avoid government debt and buy shares of "conservative" companies such as Procter & Gamble (PG), Merck (MRK), and utilities, according to Gross. While dividend-paying stocks are not as safe as government bonds, they offer potentially higher returns. For investors who "can risk a little bit of their capital, then there are alternatives," he said on June 3. "You have to take a little bit of a chance to avoid getting your pocket picked here."
The bottom line: Money managers see the stock rally continuing after an almost 6 percent pullback spurred by a series of bad economic reports.