Earnings Will Be Bad, But What's Ahead Matters More

Pockets of Strength

With all of the bad news permeating the markets, investors will be looking for worst-case scenarios and placing their bets from there.

"I do not believe we will see a sustained rally in the market until people feel like they can call with reasonable certainly both the amplitude of the earnings drop and somewhat the timing of it," says Uri Landesman, head of global growth strategies at ING Investment Management in New York. "What investors are basically looking for is what is the worst we can get in S&P earnings and let's put an 18 multiple on that, and that will be the low end for stocks."

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Cyclical stocks will be popular this year, says Landesman, who manages more than $2.5 billion at ING. Energy, consumer discretionary and materials stocks should do well, while Landesman is underweighting financials, consumer staples, health care and utilities.

"I have heard it opined that at least in the short term (the S&P will be in) an 800 to 1,000 trading range. I think that's very possible," he says. "Right now, I'm still hoping by the last quarter of the year then we take out that 1,000 top and make up a number where we end the year--1,105, 1,165, 1,200--I'd like to think we can be somewhere near there."

Those types of numbers have traction among other analysts, who believe the best returns will come in those areas that capitalize on the downturn, with the notion that stocks will recover ahead of the economy.

Those trends should be reflected in the earnings of companies across various sectors.

"As the economy declines there's going to be a return to increased beer consumption and away from spirits," says Steven Roge, portfolio manger at the Roge Partners Fund. "For the past couple of years spirits outpaced beer consumption. I think a lot of it had to do with the economic expansion. As the economy contracts, people are going to look for a cheaper alternative."

Companies such as Boston Beer should do well in such an environment, Roge says. He also cites Molson Coors in the space, while also asserting that as more people will buy beer, they'll also be smoking while they're drinking.

Among those companies he advocates Philip Morris International .

Outside that area, Roge also is watching companies that should do well in the Obama White House, including software companies that will benefit from the planned infrastructure stimulus and the need for sound urban planning programs.

He cites Microsoft and Autodesk among two that should benefit.

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Also following economic plays, AIP's Schultheis says he'll be short on dental supply companies but long on pharmaceuticals, reasoning that people will put off optional work on their teeth but continue to buy prescription drugs they need.

At the same time, he says he wouldn't be short or long the market exclusively, instead focusing on pockets of strength and weaknesses for respective long and short positions.

"The overall environment can improve if the psychology improves," he says. "This is a stock picker's environment especially if you're able to be both ways. I don't know that it's a great stock-picker's environment if you're traditional long only."

"We're at least starting to make some gains," Schultheis adds. "I think confidence is coming back but it's coming back in increments, sort of like a lot of little baby steps."

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