U.S. stocks may have more room to run, but analysts say it might be wise to buy on the dips as the market looks for the next big catalyst to move it forward.
Strong economic data, including the fourth-quarter GDP report, has made it increasingly unlikely the Federal Reserve will act to cut rates any time soon. Many investors had been looking for a rate cut to push stock prices higher. Analysts also say the momentum from corporate earnings growth could be waning.
While many analysts believe stocks will end 2007 higher, they say investors should expect a sell-off at some point.
"I think a pullback is overdue," Michael Metz, chief investment strategist at Oppenheimer & Company, told CNBC.com. "The market has already discounted the soft landing, and I think it's time to get cautious. I don't believe in timing investments, but if you have reasonable exposure to stocks, I would wait for some sort of pullback to add to your positions."
Stocks rose to new highs after the Fed said inflation is under control and data showed strength in the economy. But the market finished the week stuck in narrow trading following a weaker-than-expected jobs report.
"I think the market is struggling because we are in a period of shifting investor expectations," Ken Tower, Chief Market Strategist at CyberTrader, told CNBC.com. "Up until a month ago, we were thinking, 'How soon will the Fed lower rates?' and now the question of when the Fed is going to act has been pushed way out into the future."
With no immediate action from the Fed, and with steady economic growth and tame inflation priced into the market, analysts are looking for other catalysts to move stocks higher.
Earnings, Earnings, Earnings
"It's earnings, earnings, earnings," Frederic Dickson, chief market strategist at D.A. Davidson & Company, told CNBC.com. "The next catalyst is possibly a stronger economy producing an uptick in first-quarter earnings surprises. Interest rates are kind of on hold. The Fed is really in the background."
Corporations face the challenge of living up to their recent past. S&P 500 companies have reported a double-digit rise in earnings for the past four and a half years, according to Standard and Poor's.
"The big question is, 'Can corporate profits continue to rack up these big gains in the new economic environment?'," said Tower. "Since almost all of the market averages are at new highs, that's a vote of confidence that profits can expand."
"The fundamentals are very positive, but technically, the market is probably overextended," said Keith Wirtz, president and chief investment officer at Fifth Third Asset Management. "I think we're getting close to a consolidation as investors adjust their psychology to not (expect) 15% earnings year-over-year, but maybe something closer to 10%."
"We are looking at a market that is shortsighted right now," said Randy Bateman, Chief Investment Officer at Huntington Funds, told CNBC.com. "I think as we start to realize in the second and third quarter that aggregate earnings are going to be disappointing, that will take the market down."
Chief Investment Strategist Jason Trennert of Strategas Research Partners believes liquidity will power the markets forward. "There's an enormous amount of cash on corporate balance sheets and in private equity that will be brought to bear in the market," Trennert told CNBC.com. "You're already starting to see that happen with merger Mondays and, I think, we're going to see a lot more of that."
However, Steven Lord, chief investment strategist at The Trend Investment Group, says it could be months before we see where the next 1,000 points in the Dow might come from. "I'm not bearish, but I'm of the opinion that the odds we trade flat to slightly down are higher than the market roaring to 14,000. The next six months are pretty well priced into the market, so I think we muddle here for a while."
Even as the markets struggle to find new footing, analysts say there are still smart ways to invest your money.
"What's going to propel this market forward is people who understand the market is undervalued now," Neil Hennessy, portfolio manager for Hennessy Funds, told CNBC.com. "Letting emotion enter your investment decisions is a good way of getting killed in the marketplace.
"Be patient and buy on the market dips," advises Wirtz. "We think the U.S. plays catch-up to the foreign markets and big caps finally outpace small caps."
Analysts say there are a number of sectors that offer opportunity in the current environment.
"We like the aerospace parts industry," Chief Market Strategist Michael Sheldon of Spencer Clarke LLC told CNBC. "Boeing has had record orders. They have a $250 billion backlog, which should help some of those companies."
Other sectors Sheldon recommends include Internet advertising, the water industry, cell phone towers, and the asset management industry, which is benefiting from so many people saving for retirement.
Dickson likes a broad, diversified commitment in U.S. equities. "We favor financials, which will benefit from global economic expansion and mergers," he said. "We also like large-cap undervalued technology stocks such as Intel, Texas Instruments and Oracle software."
Dickson owns shares of Texas Instruments.
Even Lord, who is not looking for any prolonged move up in the market right now, says there are still good buys - if you know where to look.
"This is going to be more of a stock-pickers market in the next few months," he said. "Any sector that is driven by long-term dynamics - like economic growth in China and India - will have the wind at their backs for the next several years. I like industrial machinery stocks like Caterpillar and Deere."
Lord also recommends investors consider oil services stocks and drug companies such as Eli Lilly. He does not own Caterpillar, John Deere or Eli Lilly stocks.