Last Year, Stocks And Profits Were Off the Charts

Consumer purchases of jewelry, cable TV service, movie tickets, clothing, electronic gadgets, restaurant food and a long list of other discretionary items helped fuel a stellar securities market in 2006.

That buying, born of an optimism fed in part by lower-than-expected oil prices, pumped company earnings to unexpected -- and record -- levels, as did stable interest rates, plentiful supplies of money to borrow and invest, and corporate America's general success in keeping costs down, stock market analysts say.

And it all happened during a lousy housing market.

"Consumers continued to spend. The 'me generation' came back," said Howard Silverblatt, Standard & Poor's senior analyst of the company's widely watched 500-stock index, a broad measure of large, publicly traded companies. "The attitude seemed to be: Never save for tomorrow what you can spend today."

The S&P 500 ended 2006 up 13.62 percent from the previous year, with 11.96 percentage points gained since mid-August alone. That's when company earnings and consumer spending began to outpace expectations, he said, and inflation anxieties eased as interest rates stabilized and oil prices fell from their high in July. It was the fourth consecutive year of gains in the index, a welcome turnaround after technology stocks collapsed in 2000, producing three years of double-digit declines.

But the character of the 2006 gains is unusual: The S&P 500 rose in all but one month, a performance not seen since 1958. "And this is not like at the end of the 1990s, when gains came mostly from technology stocks," Silverblatt said. "This time it's broad. That's important because if one sector falls down, there's others to support it."

Other stock market measures told a similar tale. The Nasdaq composite index, also a broad market measure but slightly more weighted toward technology companies, gained 9.5 percent in 2006. The Dow Jones industrial average, which measures the 30 bluest of the blue-chip stocks, climbed more than 16 percent for the year after spending the fourth quarter hitting one all-time high after another. The Russell 2000 index, which measures the performance of smaller companies, gained 17 percent.

"There was a lot of pessimism going into the year," said Stuart T. Freeman, chief equity strategist for brokerage and investment banking firm A.G. Edwards. "People were pleasantly surprised."

But last year's grand performance increases the chances that growth in 2007 will slow, analysts say.

First of all, investors are likely to engage in profit-taking in the next few months, selling shares to convert paper gains into cash. That could push prices down in the short run, analysts say. More fundamental will be a likely slowdown in consumer spending; Silverblatt estimates it will gain 2.7 percent in 2007, down from a 3.1 percent increase in 2006. (While 3.1 percent might seem low, he said, it was much better than the pickup of 2 percent or less that had been predicted.)

Not surprisingly, that means corporate profits are also predicted to drop. The double-digit gains in earnings that have persisted each year since 2002 are likely to subside into single numbers, said economist Randell F. Moore, editor of Blue Chip Economic Indicators. The latest estimates say that earnings gains for 2006 might reach nearly 20 percent but that they'll probably drop to 5 percent this year, he said.

Last year was also a banner one for mergers and acquisitions, as pending and completed deals globally reached a record $4.06 trillion, an increase of 36 percent from 2005, according to Dealogic, an investment banking analysis firm. One of the year's biggest transactions was AT&T's $85 billion purchase of BellSouth. It pushed AT&T onto the list of the top-10 performing stocks in the Dow average and BellSouth onto the top-10 list of gainers in the S&P 500.