Next stop, 15,000? As the Dow Jones Industrial Average settled at a new all-time high of 14,253.77 on March 5, the psychological lift on Wall Street was undeniable – the market was finally back to where it was in 2007. Or was it?1
For many Americans, the Dow equals the stock market, and the stock market is a direct product of the economy. It doesn’t quite work that way, of course. Right now, it is worth examining some of the factors that have driven the Dow to its series of record closes. Does the Dow’s impressive winter rally signal anything more than unbridled bullish enthusiasm?
The small picture. Investors should remember that the Dow Jones Industrial Average includes just 30 stocks – 30 closely watched stocks, to be sure, but still just 30 of roughly 2,800 companies listed on the New York Stock Exchange. The S&P 500, with its 500 components, is considered a better measure of the market. When you hear or read that “stocks advanced today” or “stocks retreated this afternoon”, the reference is to the S&P. As the Dow kept settling at all-time peaks in early March, the S&P was consistently wrapping up trading days at 5-year highs but still remained about 2% off its 2007 record close.2,3
You could argue that the Dow is even less representative of the broad stock market than it once was. In 2007, Kraft, Citigroup and General Motors were among the blue chips; since then, they’ve been tossed out and the index has gotten a little more tech-heavy.1The DJIA isn’t indexed to inflation, so hitting 14,167 in 2013 isn’t quite like hitting 14,167 in 2007. It is a price-weighted index as well (i.e., each Dow component represents a fraction of the index proportional to its price), which also makes a comparison between 2007 and 2013 a bit hazy.1
The big picture. The Dow surpassed its old record thanks to many factors – the resurgent housing market, the Institute for Supply Management’s February purchasing managers indices showing stronger expansion in the manufacturing and service sectors, an encouraging ADP employment report, and of course earnings. Perhaps the most influential factor, however, is central bank policy. The Federal Reserve’s ongoing bond-buying has stimulated the real estate industry, the market and the overall economy, and fueled the DJIA’s ascent. The parallel, open-ended effort of the European Central Bank has diminished some of the anxiety over the future of the euro.3So basically two perceptions are moving the market higher. One is the conclusive belief that the recession is over. The other is the assumption that the Fed will keep easing for a year or more. Pair those thoughts together, and you have grounds for sustained bullish sentiment.
How high could the Dow go? Any time the Dow flirts with or reaches a new record high, bears caution that a pullback is next. Though many analysts feel stocks are fairly valued at the moment, a combination of headlines could inspire a retreat – but not necessarily a correction, or a replay of the last bear market. While the market has soared in the first quarter, the economy grew just 0.1% in the fourth quarter by the federal government’s most recent estimate. That may have given some investors pause: the Investment Company Institute said that $1.13 billion left U.S. stock funds in the week of February 25-March 1, which either amounts to bad timing, an aberration (as it was the first outflow ICI recorded this year), profit-taking or skittishness.4If the Dow hits 14,500 or 15,000, that won’t confirm that the economy has fully healed or that the current bull market will last X number of years longer. It will be good for Wall Street’s morale, however, and Main Street certainly takes note of that.
1. business.time.com/2013/03/06/dow-jones-closes-at-record-high-so-what/ [3/6/13]
2. www.nyse.com/content/faqs/1050241764950.html [3/7/13]
3. money.cnn.com/2013/03/07/investing/stocks-markets [3/7/13]
4. www.cnbc.com/id/100533269 [3/7/13]
Damien helps individuals invest and manage risk. He is a Certified Financial Planner™ professional and a principal of Walnut Creek Wealth Management. These are the views of Damien Couture, CFP® and not intended as investment advice. Investors cannot invest directly in an index. Your comments are welcome. Damien can be reached at 925-280-1800 x101 or Damien@WalnutCreekWealth.com.
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