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A Shift in Emphasis

By Joseph Lisanti Until recently, more than a few market participants had been heard grumbling about the sluggish pace of stocks. Through the first half of the year, the S&P 500 was lower by 1.7%. That seems to be a lot of time for such little movement. But the reality was different from the perception.

Although the overall result was a trading range, stocks had seen a great deal of movement: January was down; February was up. Then March's slide just about equaled the previous month's gain. April's drop was more than made up by May's advance. June was virtually flat.

The first half of July erased the losses and put stocks in the plus column, despite the terrorist attack on London and higher oil prices. Although the world's problems will always be waiting in the wings, we believe that earnings will now command investor attention.

We expect second-quarter operating earnings on the S&P 500 to be reported at a respectable 8% above the same period in 2004. Although that would be a retreat from the double-digit percentage gains seen in each of the past 12 quarters, we see a return to larger earnings gains in the second half of 2005.

Combine good earnings gains with a growing economy and muted inflation prospects, and we believe you have a recipe for more optimistic investors. As we see it, that should translate into higher stock prices.

Standard & Poor's Investment Policy Committee has shifted its sector focus to take advantage of this expected rise. We now advocate an emphasis on growth-oriented sectors, and advise an overweight position in consumer discretionary and information technology stocks. Concurrently, we advise a portfolio underweight in consumer staples, industrials, and materials. We suggest that you hold the remaining sectors -- energy, financials, health care, telecommunications services, and utilities -- in their market weightings.

Overall, maintain 45% in U.S. stocks, 15% in foreign, 25% in short-to-intermediate-term bonds, and 15% in cash. Lisanti is editor of Standard & Poor's weekly investing newsletter, The Outlook

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