Wow, it's already June 15! Receiving a phone call to begin preparing for our next quarterly commentary is a gentle reminder that 2010 will soon be at the halfway point. Heading into trading on the morning of Tuesday June 15, the S&P 500 Index is down by 2.284% for 2010.
Much to the surprise of many investment banking analysts, Treasuries, the U.S. dollar, and the Russell 2000 Index are all higher. Overall, I would assess the prognostications presented to the Street at the end of 2009 as rather poor. That is one of the reasons that I have been so adamant about sticking to an investment plan, only adjusting weightings. By the way, I will be the first to admit that I have gotten some themes wrong too. Let's begin the process of preparing for the second half of 2010.
One of my major themes for 2010 is not to buy into the scenario some are presenting that suggests a capital market that returns to a similar path as in the fall of 2008. I do not foresee a double dip. There are several statistics that suggest avoiding the temptation to hit the "all cash" button, as well.
Corporations quickly and aggressively solidified their bottom line as the credit crisis unfolded. In doing so, the cash-to-asset levels of S&P 500 companies are resting at 30 year highs. Whether through share buybacks, dividends, or M&A, that cash will be deployed in the capital markets. We caught a glimpse of that with an end-of-Q1 flurry of M&A as the capital markets, the economy, and business confidence improved. I expect similar activity in the second half of 2010. Cash provides flexibility for growth.
Chinese economic numbers suggest that a soft landing is taking place. Electricity production, which accurately tracks industrial production, has moderated into a mild downtrend over the past few months. Retail sales and exports remain resilient, maintaining this year's modest uptrend. The confluence of mildly bearish economic numbers and mildly bullish numbers is the perfect mix. It prevents policy makers from adopting an aggressive monetary tightening stance. Rather, a mild tap on the brakes, which will not hamstring the China story.
On Friday, June 25, the Russell Index will rebalance, one of the largest yearly rebalances since 2007. I believe the market will undergo a rotation from junk toward quality. Similar to what occurred in the template period of 2003-2004, money managers might place a premium on quality names in the second half of 2010. The rebalance will highlight the positioning of money managers. Value managers will need to allocate more capital toward financials, health care, and consumer staples. Growth managers will focus on increasing holdings in energy, consumer discretionary, and materials. Understanding manager positioning will be important if a "chase for performance" unfolds in the second half of 2010.
Let's update the activity of the U.S. dollar and the euro, as I suggested last week that Federal Reserve Chairman Ben Bernanke provided the capital markets with a splash of confidence. That splash of confidence is reflected in a mild positive currency change-in-trend. Good for the U.S., in particular exporters - the appreciation of the dollar is easing since last week. Conversely, speculative shorts are being unwound in the euro, the beneficiary is the Chinese economy.
Overall, these four small contributors will prevent the capital markets from becoming "riotous" in similar fashion to the end of 2008 and early 2009.