February Best Month since 1998
Despite ending February with a decline over concerns with Greece, unemployment and real estate, the S&P500 Index had the best month since 1998 with the small, mid-caps and NASDAQ indexes doing even better. Investors focused on earnings, fundamentals and incremental economic improvement, as some of the heighted sovereign debt risks receded.

Earnings – Best “Beat” in History
The 4^th quarter "beat rate" of S&P500¹ corporate earnings already high expectations was the highest in history. In addition the breadth across sectors beating expectations was the widest in history - CNBC Closing Bell 2/26/10.

Going forward, specific stock selection may be more important than in 2009 when stock selection was less important with the big rebound in most all stocks.

For 2010 and 2011 the corporate earnings outlook continues strong. When we see improvement in jobs and an improvement in consumer sentiment, this could be a catalyst for a steeper market rebound.

Fed “Normalizing” Cheered Not Feared
As both Morningstar and Wells Capital point out, the Fed when it starts to normalize interest rates and monetary policy, this should be seen as a sign of success and to be cheered, not feared - except of course it will hurt bond investors. 

Wells Capital says, "The 'zero' Fed funds rate has been psychologically damaging to the national sentiment like no other Fed policy in the postwar era.  Zero connotes being at the end of the rope, being close to the precipice of depression, and that the Fed is simply out of bullets."

Retail's Strong Rebound & Positive Outlook
3/12/10 CNNMONEY.com - February's increase showed that Americans were still making it to the stores despite the snow and cold weather last month and customers were splurging on electronics. We've seen a gradual thaw in the consumer pocket book...retail sales are likely to pick up more in the next few months as the season changes and consumers shop for spring and summer clothing.

(Historically) in January, February and March as a three-month stretch, there's not a lot of excitement. But at the end of March and in April and May, you will see a lot more people spending on apparel as the spring comes out, and a pick-up in apparel will be a very encouraging sign."

In a separate report last week, the Labor Department said fewer jobs were lost in February than expected, boosting optimism about a recovering labor market

03/12/10 - CNBC Street Signs - Gilbert Harrison, founder and CEO of Financo Inc., an investment banking firm focused on the retail sector said:

"The year is starting off with a bang. The consumer is feeling much better, they paid down debt. They want to buy.  We saw this in the February sales.(gives long list of examples). The gain outside autos which was up in (January), in department stores, furniture stores, appliance stores, and even Home Depot and Lowe's have been showing tremendous rebound."

His firm specializes in mergers and acquisitions (M&A) in the retail sector. Harrison says, "We are busier now than we have been for the last two years.  The strategic buyers and even the private equity funds are for the first time looking at doing things. Across the board we are seeing deals getting done. We have in the pipeline shoes, we have apparel, department stores, optical, we have three or four foreign acquisitions. We hope this year is going to be a banner year (in retail) just like your people were talking before in electronics (prior very positive report). The consumer feels better about themselves, they have paid down bank debt and they like to spend."

Harrison mentions as Warren Buffet said last week "When the consumer feels better they spend.  When they spend companies hire more people.  When companies hire more people there are more consumers spending" "So it’s a vicious circle which right now is on the upside."

More Positive Economic Data
While consumer sentiment declined retail sales continue to increase. Most key indexes continued to show expansion including the Chicago Purchasing Managers Index even stronger than expected.

The ISM index for February reported factory output expanded for the 7th straight month.  The Commerce Dept. reported that personal spending rose more than expected, but there was only a .1% increase in personal income.  On March 3rd it was reported that the services sector grew at the fastest pace in two years.

Kiplinger 2/26/10 issue, believes net job growth will rebound to about 100,000/month in late Spring. The unemployment rate will probably stay around 9.5% because the pickup spurs 2.5 million people too discouraged to seek work will again be in the unemployment numbers until they find jobs.

View of Largest Risk to Market – Why I also recommend other alternatives
While I believe the outlook for the next few years is very positive for equities (and negative for bonds), the biggest risk to both the economic and market recovery is commercial and home mortgages.

There are reports that if banks had to write-down their more than 60 day delinquent mortgage loans, to current values or in foreclosure sales, this would make many large banks insolvent. Regional banks have more risk in their commercial mortgages which have similar delinquency problems - or are due since typically they only have 5-7 year terms.

So far, “Pretend and extend” has prevented most write-downs. For homes, the modification program is failing since the servicers (who don’t own the loans) make a lot more fees by foreclosing and selling - they incur no losses. On GSE loans (Fannie Mae and Freddie Mac) the losses are taken by taxpayers not the banks. About 70% of first mortgages are guaranteed by the GSE’s. But about half of homes also have seconds where the banks take the loss since there is no GSE backing of second mortgages.

 ¹Investors cannot directly invest in indices. Past performance does not guarantee future results

The views and opinions expressed by Dave Hutchison, CFP are as of the date of the report, and are subject to change at any time based upon market or other conditions.  The material contained herein is for informational purposes only and should not be construed as investment advice, since recommendations will vary based on a client’s goals and objectives. Information is believed to be from reliable sources; however, no representation is made as to its accuracy.  All economic and performance information is historical and not indicative of future results.  Hutchison Investment Advisors, Inc. is an Arizona registered investment advisor. Part II of Form ADV (Disclosure Statement) has been given advisory clients and is available upon request and is at www.davecfp.com