NEW YORK – Don’t bet your shirt on a repeat performance.
That’s the message from some of the nation’s biggest investment firms as the Dow Jones industrial average has closed above 16,000 for the first time and the Standard & Poor’s 500 index is on the cusp of its best year in a decade with a gain of 25.9 percent.
Although investment professionals still are optimistic, investors shouldn’t expect such outsized gains will be repeated.
The S&P 500, the Dow and other stock indexes have risen steadily as the Federal Reserve has maintained its economic stimulus to keep long-term interest rates low, and the economy has continued to strengthen. Although economic growth hasn’t been spectacular, it has been strong enough to enable companies to keep increasing their earnings.
As for the outlook, a double-digit gain is not out of the question.
Many of the tail winds for the stock market are still in place, but they may start to weaken next year. Corporate earnings are strong, but profit margins could be peaking. Interest rates are still low compared to historical levels, but will likely rise gradually, particularly if the Fed starts to pull back on its bond-buying stimulus program.
However, the biggest challenge to the stock market is that valuations have risen so much this year, said Larry Puglia, portfolio manager of T. Rowe Price’s Blue Chip Growth fund. That is to say, investors have been willing to pay more for a company’s future earnings, pushing up prices. The price-earnings ratio for S&P 500 companies has risen to 15 from 12.5 at the start of this year, according to FactSet.
“We still find selected stocks attractive and think that the market’s OK, but I would be surprised if the market … was able to duplicate the type of gains we’ve had this year,” Puglia said. He still thinks stocks could rise as much as 10 percent.
Conrad Hermann, a portfolio manager at Franklin Templeton, said statistics show that when the market logs an annual gain of 20 percent or more, it has been followed by another year of gains on two out of three occasions – for an average gain of 11.5 percent the next year.