Two chief Wall Street strategists issued reports yesterday advising investors about their stock market holdings.
J.P. Morgan said buy. Merrill Lynch said sell.
What's an investor to think?
The two firms reached the opposite conclusions by focusing on different information -- something investors often do, which has made buying stocks more of an art than a science.
Strategies particularly collide in times like these, when economic data seem contradictory, corporations are unsure of the future and investors feel wary.
"These sorts of things certainly don't serve to eliminate the confusion; they only raise the level of noise," said Duncan W. Richardson, who manages about $15 billion as chief equity investment officer at Eaton Vance Corp. "While it's important to recognize that both companies are keeping their equity exposure around 50 percent, there's no doubt that it is adding to a confused market, the most confused I've seen in 16 years of doing this."
During the roughly eight-year bull market, investors poured their money into stocks. But after hitting a peak in early 2000, U.S. equity markets have been in a rut. Investors yanked their money out of stocks, and more than $2 trillion is now sitting in money market funds.
After the Dow Jones industrial average hit a five-year low of 7286.27 on Oct. 9, almost 40 percent below its January 2000 peak, it has risen 20 percent, sparking a debate over the likelihood of a sustained turnaround.
Yesterday Merrill Lynch & Co.'s respected chief U.S. equity strategist, Richard Bernstein, weighed in. Citing an earnings picture that he felt did not justify recent market gains, Bernstein recommended that investors reduce stock holdings to 45 from 50 percent of their assets and raise bond holdings to 35 from 30 percent. Bernstein said, in a report e-mailed to investors, that the remaining 20 percent of assets should be held in cash. He predicted that the Standard & Poor's 500-stock index will fall 8 percent, to 860, over the next 12 months.
Merrill Lynch concluded that the 20 percent increase in the S&P 500 and the Dow, and the 30 percent increase in the Nasdaq "are robust for a year, let alone for a two-month period," said Merrill Lynch's senior U.S. strategist, Kari Bayer-Pinkernell, who helped prepare the report with Bernstein. "We recommend selling into the strength because, despite the gains, the economic and earnings picture hasn't changed too much."
Bayer-Pinkernell also cited rising unemployment, an increasing number of analyses that predict a decline in the growth of the gross domestic product in 2003, and an announcement yesterday by the Office of Federal Housing Enterprise that the increase in housing prices slowed in November as important signs that the economic outlook is bleaker than the market's recent performance would suggest.
Complicating matters for investors, said Bayer-Pinkernell, is that more companies than ever appear to be straying from the generally accepted accounting principles, or GAAP, when describing their financial results.
"A lot of companies report numbers like pro forma earnings or earnings that exclude certain charges, and this is moving further and further away from GAAP and reported earnings standards," Bayer-Pinkernell said. "We see this as a concern because it makes earnings less transparent and makes it increasingly difficult for investors to compare companies' bottom lines."
Merrill Lynch's report also took into account analyst sentiment, which Bayer-Pinkernell called "historically bullish" and "a good contrary indicator that the upward trend is about to change."
But Christopher J. Wolfe, head of equity market strategy for J.P. Morgan's private banking business and one of the people charged with deciding J.P. Morgan's asset-allocation recommendations, sees things differently. J.P. Morgan yesterday issued a report recommending that investors increase equity holdings to 47 from 45 percent and lower their proportion of bonds to 53 from 55 percent. It does not recommend that U.S. investors hold any cash.
Wolfe said J.P. Morgan's views are rooted in the belief that interest rates, which are near 40-year lows, may be set to rebound.
Merrill Lynch "has identified some very good elements in the market, but at this point we're a little more fearful that the interest rate cycle is turning on us," Wolfe said. "The implication for investors who are on a 12-month-to-18-month time horizon is that if you've been hiding out in bonds, it may be time to move back into equities in the select opportunities." That's because rising interest rates will mean lower bond prices.
Wolfe's outlook for the economy is also more positive than Bernstein's.
"We see enough stimulus out there for 2.5 percent or even 3 percent GDP growth next year, and that will help the equity market," Wolfe said.
Institutional investors said the differing advice from Wall Street strategists must be tailored to the investor's goals, knowledge and comfort level with risk.
"What the analysts are doing is weighing the relative attractiveness of stocks versus bonds, but everyone's risk profile is different," said Jay Mueller, who manages $20 billion in bond funds at Strong Capital Management in Milwaukee. "The age, income level and individual circumstances of the investor should determine the makeup of a portfolio."
Mueller also said investors should not treat any asset class as a "monolithic entity." For example, "this was a great year for Treasury bonds," he said, "but corporates have been mediocre to poor, and high yield has performed horribly."