Capital IQ’s Stovall Waves Off Bear Market

The S&P 500 wrapped up February with a fourth consecutive month of gains while the Dow Jones Industrial Average clambered within 16 points of its record closing high of 14,164.53 set October 9, 2007. The Dow’s intraday record high, set October 11, 20117, remains at 14,198.10. For the month of February, the Dow advanced 1.4%, the S&P 500 rose 1.1%, and the NASDAQ gained 0.6%.

After a solid-run up during the first of the year, S&P Capital IQ chief equity strategist Sam Stovall in an interview with Yahoo! Finance’s Breakout says the lack of volatility in the markets historically signals that the market is headed for a pullback (5-10% decline) or correction (10-20% decline), but not enough to turn into a bear market (+20% decline).

Stovall added that the downside risk looks shallow, as does the potential upside.

While will probably see several attempts to challenge the S&P’s top level of 1,565, which was set on October 9, 2007, said Stovall, looking at fundamentals, politics and other macro influences, “I'm not really willing to call for a brand new high just yet."

China’s Real Estate Restrictions Crimp U.S. Stocks

U.S. markets opened the first full week of trading in March under the weight of economic concern overseas after Chinese authorities imposed new real estate buying restrictions to curb the country’s red hot property market. China’s Shanghai Composite Index dropped nearly 4% Monday morning, representing the index’s worst percentage drop in nearly seven months.

The new real estate measures include higher down payments and mortgage rates on second homes in areas with steep increases in property prices. China’s State Council also imposed a 20% capital gains tax on sales of existing homes, which economists say could also dent fundamental demand.

Jia Kang, the head of the Ministry of Finance’s Institute of Fiscal Science Sunday said the restrictions aren’t necessarily set in stone. He added that the new measures could trigger demand for new homes vs. resales as the cost of taxes are passed on to would-be buyers.

"Considering the positive and negative effects of this policy I could see that this isn't a permanent measure,” Kang said Sunday at the Chinese People’s Political Consultative Conference.

Local governments are slated to release more information on implementation plans by the end of March. Until then, Bank of America-Merrill Lynch's chief China economist Ting Lu also warned of near-term pitfalls.

"More detailed measures will be announced by related ministries including the People's Bank of China (central bank) and local governments, so markets should definitely take the edict seriously and be prepared for falling prices of related financial assets," Lu said in a note dated March 3.

Economic Calendar through
March 7

Tuesday March 5

10 a.m. (ET) – ISM Non-Manufacturing Index
Analysts are forecasting the U.S. non-manufacturing sector to hold steady at 55.2 in February. Readings above 50 indicate activity is expanding.

Wednesday March 6

8:15 a.m. (ET) – ADP Employment
Payroll processor ADP estimates that private employers added 175,000 in February vs. 192,000 in January

10 a.m. – Factory Orders
Orders for goods produced in U.S. factories are expected to fall 2.3% in January vs. a rise of 1.8% in December 2 p.m. – Beige book

Thursday March 7

8:30 a.m. – Weekly jobless claims
For the week ended March 2, applications for jobless benefits is expected to rise to 358,000 vs. 344,000 reported for the week ended February 23

8:30 a.m. – Trade balance
U.S. trade deficit forecast at $42.7 billion for January vs. a deficit of $38.5 billion in December

8:30 a.m. – Productivity
Consensus calls for Bureau of Labor Statistics U.S. productivity down 1.6% vs. decline of 2.0% in Q4

8:30 a.m. – Unit labor costs
Consensus calls for unit labor costs to rise 4.1% vs. Q4 rise of 4.5%

12 noon – Household debt
Consensus forecast: -- vs. a decline of 2.0%

Friday March 8

8:30 a.m. (ET) – Nonfarm payrolls
Total nonfarm payroll expected to increase by 160,000 in February vs. an increase of 157,000 reported in January

8:30 a.m. – Unemployment rate
Forecast to remain essentially unchanged at 7.9% for February vs. January

Small-Caps Poised to Give Large-Caps a Run for Their Money

Though largely ignored by mainstream media coverage, small-cap stocks have significantly supported the broader market rally and have remarkable potential for more upside in the year ahead.

The Russell 2000 Index, a measuring stick of the performance of the small-cap market, has returned around nearly 12% during the last quarter, representing about 2/3 of the total U.S. equity reach. Small-caps outperformed large-caps in January, making their contribution to Wall Street is worth a second look.

When the housing market buckled in 2008, small-cap stocks outperformed the logged large-cap market by more than 3%. Because of their resilience to macroeconomic factors such as political issues and concern in foreign markets, a run-up in companies with smaller market capitalization often lends momentum and confidence to large-cap rallies.

Furthermore, data from FactSet shows that small-caps have outperformed large-caps by roughly 40% in seven of the past 10 years and have outperformed large-caps both times the major markets lost value in this decade.

While there are market analysts on both sides of the fence, some banking on small-cap favorable historical trends while others question whether the stocks can maintain the pace, the prevailing mood is that the small-cap market is set-up to benefit from broader market variables such as earnings growth and an increase in M&A activity as larger companies seek out small-cap acquisitions to secure a foothold in niche markets.

Dan Veru, chief investment officer at Palisade Capital Management, recently told CNBC that the M&A cycle is just getting started, adding that so far this year, there have been 13 deals involving Russell 2000 companies.