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Week Ahead: Bulls Raring to Go in 2011, as Stocks Drift Higher Into Year-End

'Tis the season to be bullish.

That's certainly the call of many Wall Street's strategists, who get a lot of press this time of year on their prognostications. Many see the S&P 500 scoring double-digit gains and finishing 2011 at 1400 or higher, because of a better economy, better earnings, better tone from Washington, and a better case for equities versus bonds.

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Yet, stocks in the past week barely budged, and the coming week could be just as quiet as investors close out their books for the year. The S&P 500 was up 3 points, to1243, while an extraordinary level of volatility in the bond market—see more about that on page 2—sent investors running for cover.

The VIX, the CBOE's volatility index, also had a wild time, dropping 7 percent Friday to 16.11. A low VIX is sometimes seen as a warning that stocks are getting toppy, but traders say maybe not this time.

"What this is implying is with the next two holiday weeks, people are going to be sitting on the sidelines and we're not going to see a lot of movement," said Patrick Kernan of Cardinal Capital, who trades S&P options at the CBOE. "I think a lot of people had a good run this year, and they're kind of packing it in."

Housing data and durable goods orders, as well as three days of Fed bond purchases are among the highlights of the holiday-shortened week ahead.

Stocks in Your Stocking?

"All in all, our retail clients, while they want to be optimistic, they still have glass-half-full kind of attitudes, and they have not gotten back to be fully invested. That's a generalization but I think it's pretty accurate." -Wells Fargo Advisers, Scott Wren

As strategists look to next year, they like U.S. equities, and are generally a little less enthusiastic about emerging markets than they had been. They also do not expect to see the kinds of returns from corporate bonds that investors enjoyed in the past year. They are wary that Europe's sovereign issues could continue to bubble up, and they think the U.S. deficits will kick up as an issue from time to time.

Deutsche Bank has a high forecast for the S&P at 1550; Goldman Sachs is at 1450; J.P. Morgan is at 1425; Barclay's is at 1420, and Bank of America Merrill Lynch and Citigroup are at 1400.

"The thing that strikes me about these outlooks is I can't recall a year where there were so many people that were so consensus bullish, and honestly we're right in there too. We're right along with the consensus. We see 10 percent earnings growth and we're at 1350 (on the S&P)," said Andrew Burkly, equities strategist at Brown Brothers Harriman.

"It kind of tells me to watch out in the first half because expectations have gotten so extended. Obviously, the summer was the sweet spot because everybody was so bearish," he said. Since Aug. 27, when Fed Chairman Ben Bernanke first discussed quantitative easing, the S&P has risen 18.8 percent.

Burkly's 2010 forecast was for 1250, just a few points above Friday's close. "I think we will be strong into year end, above 1250," he said. See more on the 2011 stock outlook on page 3.

Even as the market has gained 11 percent year-to-date, individual investors continue to shy away from investing in stocks. "You saw a big redemption from bond funds but you saw it come out of bonds and it's going back into the money market funds," said Burkly.

Scott Wren, senior equity strategist at Wells Fargo Advisers, said retail investors remain wary. "All in all, our retail clients, while they want to be optimistic, they still have glass-half-full kind of attitudes, and they have not gotten back to be fully invested. That's a generalization but I think it's pretty accurate. They're not back to optimistic or fully invested in equities, like they should be," he said.

"There may be some fund guys in here chasing it a little bit, but very little bit, and I sense we have zero retail in here chasing," he said.

Brawling Bond Bears

Bond Bears Brawl

Just as the stock market forecasts brightened, as economists raised their 2011 economic outlook, Treasury yields also began to rise as investors sold. This past week, bond market volatility reached a crescendo. The 10-year yield finished the week at about 3.33 percent, not far from last week's closing level. But that was after it hit 3.56 percent Thursday morning.

New York Stock Exchange, downtown New York City.
Photo: Oliver Quillia for CNBC.com
New York Stock Exchange, downtown New York City.

"Fear and loathing in bonds. From Monday to Thursday, there was so much fear and blood, actually. We haven't had one of these since 2003. Eightbasis points in two weeks, and we gave back 20 today," said Jefferies Treasury strategist John Spinello.

In the week ahead, he expects it to be more quiet. "I don't think you get much through 3.25...There's not a lot of data. The real action will be the Fed buying and whatever happens in Europe," he said.

The Fed purchases $27 billion in Treasurys in five passes Monday through Wednesday. The quantitative easing plan so far has not resulted in lower yields, as expected. Instead, rates bottomed in October and have run even higher since the Fed began buying Treasurys in November. Some traders believe the market was overbought on expectations for Fed easing, and needed to rebalance.

Econorama

Housing data highlights in the week ahead. Existing home sales are reported Wednesday, and new home sales on Thursday. Durable goods are also reported Thursday.

RBS economist Michelle Girard said she is watching the durables this week, and expects improvement over October. She said the durables data should follow the same pattern as last quarter—weaker in the first month, then stronger in the following two. She expects to see 1.5 percent, excluding defense and aircraft.

"Business feels confident heading into year-end. I think they feel good about what's happening in Washington, and I think that'll spill over," she said.

Economists have ratcheted up their forecasts for next year, once President Obama announced a tax package compromise earlier this month.

That package was signed into law Friday. Girard said she put her forecast at 3.5 percent GDP for 2011, after it was announced. Her fourth-quarter forecast is 3.4 percnet.

The second revision to third quarter GDP is released Wednesday. Weekly jobless claims are released Thursday, as are personal income and consumer sentiment. Markets are closed Friday for the Christmas holiday, and the bond market and futures markets close early Thursday afternoon.

Outlook for Stocks 2011

Whither Stocks?

Burkly said he believes investors will need to be more discerning about stocks and sectors in 2011. "We think there's going to be more differentiation between sectors. One of the trends this year was the correlation was very high among stocks, and sector-picking wasn't of much value. We think that's going to change next year," he said, adding earnings comparisons will not be as easy. He likes energy and consumer discretionary plays for 2011.

Wren set his target for the S&P next year just above the market's current level—1250 to 1300. Stocks beat his forecast for this year, which stood at between 1100 and 1140.

It's not that he doesn't believe the S&P can reach 1400 in 2011.

"We could trade toward 1400. That's if you have some things go right. Maybe some better news on unemployment and housing, and the Fed continues to provide liquidity, and you don't see oil prices shoot up," he said.

"We're not looking for the type of year that would be a big get up and run kind of year. We've had a huge get up and run since March, 2009. The probability of having another big move up from here is pretty low," he said. The S&P has gained 84 percent since the market bottomed in March, 2009.

"The third year of the presidential cycle tends to be positive. We look at all those kind of things," he said. "Our projected work basically says we could see the high for the year toward the middle of the year. It could be higher than the top end of our year end target range...Our work suggests we're going to fade into year-end and end up in that 1250 to 1300 range." Wren said the market could react negatively as the Fed finishes up its quantitative easing program to purchase $600 billion in Treasury securities.

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Photo: Oliver Quillia for CNBC.com

"We're leaning cyclically. We're overweight industrials. We're overweight materials. We're underweight health care and staples. Those are kind of like core positions for us right now," he said. He expects earnings per share for the S&P 500 of $89 in 2011. "That's a P/E range of 14, 14.5 percent. That seems very reasonable. If there's a little more confidence in the economy, you could maybe squeeze a little more P/E out," he said.

Girard said she believes both consumers and businesses are starting to show more confidence in the economy. "It's all relative. It isn't a boom time. We've had a couple of really lean years, and people are spending. I think the purse strings are loosening up. People are less concerned about the outlook. They are still concerned but they don't feel like the floor is going to give out," she said.

Major earnings reports next week include Darden Restaurants and Adobe Systems on Monday, Nike on Tuesday, and Walgreen and Bed, Bath & Beyond on Wednesday.

Markets are closed Friday for Christmas Eve.

- Follow me on Twitter @pattidomm.

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