Better Conditions Ahead

S&P sees the economy strengthening and underlying demand for stocks improving

By Arnie Kaufman

A round of buying was sparked last week by mildly upbeat economic reports and news that Microsoft will escape a breakup. Apparently, investors are anxiously seeking excuses to put to work some of the reserves that have been accumulating over the past several months. Clear signs of improvement in business conditions therefore should have a decidedly positive impact on the market.

We at S&P expect those signs to appear fairly soon, though second-quarter earnings reports will not make happy reading. In general, inventories no longer are far out of line with sales levels, and tax rebates, lower withholding and the Fed's half-year of monetary easing will have an uplifting effect in coming months. Last week's sixth drop in the fed funds target this year is likely to be followed by another quarter-point reduction to 3.5% in August, according to S&P chief economist David Wyss.

S&P investment strategist Sam Stovall took a look at how the market performed when the Fed cut rates six or more times, which it did on four occasions over the past three decades. Twelve months after the sixth cut in 1976, 1982, 1986 and 1991, the S&P 500 was up an average of 24%. Nasdaq's gains over the 12 months following the sixth cut averaged 29%.

The summer usually has not been a good time for stocks in recent years. But July alone has been the best month over the long term. From 1928 through 2000, the S&P 500 averaged a gain of 1.7% in July. (January and December tied for second at a 1.5% average increase.)

We believe a bullish investment policy is in order.

Kaufman is editor of Standard & Poor's weekly investing newsletter, The Outlook

Before it's here, it's on the Bloomberg Terminal.