Markets

Michael P. Regan is a Bloomberg Gadfly columnist covering equities and financial services. He has covered stocks for Bloomberg News as a columnist and editor since 2007. He previously worked for the Associated Press.

It's that time of year. The leaves are off the trees. The fresh cranberries are back in stock in the produce section. And the visions of sugar plums aren't quite dancing yet, but they are at least limbering up on the sidelines.

Of course we're talking about the most wonderful time of the year -- when Wall Street's strategists make predictions for next year.

It is a strange ritual, indeed, when the quants break out their crystal balls and turn into Madam Marie to predict the level of the S&P 500 on the New Year's Eve of a year that hasn't even started yet.  

This is about as easy to do as predicting the winner and final score of the 2017 Super Bowl. No one's record is spotless, but the quants make such a good show of it that it's hard not to stop by their stand on the boardwalk to hear our fortunes. 

Calling His Shot
David Kostin of Goldman Sachs has been eerily accurate about 2015.
Source: Bloomberg

David Kostin of Goldman Sachs slapped his tarot cards down on the table on Tuesday, and it's worth paying attention since his call for 2015 has proved to be eerily accurate, at least so far. At this time last year, Kostin predicted the S&P 500 would reach 2,150 in the first half of the year and, after a bout of volatility triggered by agita over the Federal Reserve's plans to raise interest rates, close out the year at 2,100 for a gain of only about 2 percent. As of the end of 2014, he and Jonathan Glionna of Barclays were the only strategists tracked by Bloomberg with targets that low, though others have joined them since. 

Lo and behold, the index rose to an intraday high of about 2,135 in May. With a little more than a month to go, it closed on Monday less than 14 points below 2,100. (After the volatility of the summer, Kostin lowered his 2015 forecast to 2,000.)

In his most recent note and an interview on "Bloomberg Go" with Stephanie Ruhle and David Westin, Kostin called for an even flatter year in 2016 -- reiterating a prediction that the S&P 500 will end the year at 2,100.  That results in a gain of only about 2 percent from the end of 2014 through the end of 2016.

Two consecutive years of flat returns in the S&P 500 are rare. The benchmark index hasn't posted full-year moves of 2 percent or less -- either up or down -- for two consecutive years since the late 1940s. In fact, it's rare for the market to be flat for even a single year. In the last 45 years, it's happened only six times, and the following year always produced a double-digit percentage gain -- the most recent was a 13.4 percent rally in 2012 and the biggest was a 34 percent surge in 1995. 

Flat to Flush
The S&P 500 has posted double-digit gains after flat years since 1948.
Source: Bloomberg

The rationale for Kostin's prediction for next year is similar to the one for this year's -- the expansion of valuations is over and the market's price-to-earnings ratio will most likely decrease in 2016 as higher interest rates overshadow a return to profit growth. Also explaining the flat returns is what he sees as a "bifurcated" market under the surface: strong balance sheets beating weak balance sheets; strength in consumer stocks versus weakness in industrials; companies with high U.S. sales outperforming high foreign sales; growth beating value; cyclicals beating defensives; and mega-caps beating small caps. 

Strategists, like fortune tellers, need to be good storytellers to make a name for themselves. They build reputations with bold predictions about bull markets or bear markets, just like the palm readers who see tall dark strangers or grave danger on the horizon.   

As a result, perhaps predicting a flat market for two years in a row -- the type of thing we haven't seen in almost seven decades -- is the boldest call of all. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Michael P. Regan in New York at mregan12@bloomberg.net

To contact the editor responsible for this story:
Daniel Niemi at dniemi1@bloomberg.net