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February 03, 2006 at 07:00 PM
If January represents an accurate barometer for the rest of the year, 2006 should be good for domestic stocks, although clouds of uncertainty still remain. Despite continued high energy prices, weak GDP growth in the fourth quarter of 2005, worries over when the Federal Reserve will end its tightening campaign, and a global crisis brewing over Iran’s nascent nuclear ambitions, the average U.S. domestic stock fund gained 4.76% during the month.
Small-Caps Living Large
Small-cap funds led the pack in January, with the average small-cap growth portfolio leaping 8.35%. Large-cap value funds posted the lowest average return out of all domestic fund categories, rising 3.05% in comparison. Mid-cap funds fell in the middle. The S&P 500 gained 2.65% for the month.
While many observers have been waiting for large-cap stocks to dominate after six years of underperformance, they may have to wait a bit longer. “Investors have been attracted to growth opportunities,” said Rosanne Pane, mutual fund strategist at Standard & Poor’s. “The most attractive growth rates are in the small and mid-cap space, with the growth styles leading returns for the month. We believe mid- and small-caps will continue to lead returns over the short term, as recent earnings disappointments have been focused in the large-cap arena.”
Standard & Poor’s equity analysts estimate that operating earnings for the S&P MidCap 400 and S&P SmallCap 600 indices will advance 19% and 21%, respectively, in 2006. In contrast, the large-cap S&P 500 index is projected to deliver only 11% operating earnings growth this year,
Meet The New Boss
Another major concern for investors lies with the Federal Reserve, which in addition to undergoing a change at the top, has been tightening since June 2004. The Fed Funds rate currently stands at 4.50% following another 25 basis point hike yesterday in Alan Greenspan’s final session as Chairman. His successor, Benjamin Bernanke, will chair his first rate-policy meeting in late March. There is a lot of speculation on how much further he will boost rates, if at all.
U.S. GDP gained only 1.1% in the fourth quarter of 2005, the weakest advance in three years. That has led some economists to surmise that the Fed may soon stop hiking. “An additional rate hike at the March meeting is a possibility, but looks increasingly less likely, due to the weaker-than-expected 4Q 2005 real GDP growth,” said David Wyss, Standard & Poor’s Chief Economist. “We don’t think Bernanke will raise rates just to let the markets know that he is in charge.”
However, others believe the tepid fourth-quarter numbers reflected a temporary pause, and were not indicative of any sustained economic weakness. Moreover, with inflation rising (core prices rose 2.2% in the fourth quarter of 2005, up from a 1.4% rate in the third quarter), the Fed may need to hikesome more. Standard & Poor’s Economics department expects 3.5% growth for real GDP for 2006. In 2005, GDP rose 3.5%, following a 4.2% gain in 2004.
