Kass: 10 reasons for U.S. stocks to rally

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I reported two weeks ago on “Doug Kass’s 15 surprises for 2012”. Hedge fund manager Kass of Seabreeze Partners is a familiar and respected name on this blog, and readers are always keen to learn his views. I therefore thought his 10 reasons for the U.S. stock market to rally might also be of interest. The full article appears on The Street and I urge you to read it in its entirety. A summary is provided below.

Kass said: “I have rarely been accused of being an economic/stock market cheerleader, but I believe the U.S. stock market will surprise to the upside in the near term for the following fundamental, technical and sentiment reasons:”

1. Poorly positioned market participants

Watch not what they say; watch what they do. And the dominant investors (retail and institutional/hedge funds) are underinvested and/or skewed disproportionately in a “flight to safety” into fixed income over equities.

2. Technical breakout

[Breaking out of the recent trading range] will encourage technically based chasers of market momentum.

3. Big rotation

Don’t market historians tell us that a better tone for the financial sector is a necessary condition and reagent for a better stock market? Yet that turnaround of the financial continues to be treated with skepticism by most.

4. Misplaced preoccupation with Europe: The European situation has improved. Timid policy response is moving toward “shock and awe” — yet investors are still scared to wake up every morning to rising sovereign bond yields, and that fear is keeping them sidelined.

5. Recent earnings cuts discounted

Memo to negative strategists: The market has likely already discounted (with a 15% decline in price-to-earnings ratios in 2011) a diminished profits outlook.

6. Likely regime change in the U.S.

Though the odds of a Republican presidency have improved, most investors are ignoring this “market friendly” development that could occur within the next 12 months.

7. Better economic data

The prospects of a self-sustaining U.S. economic recovery have been more solidified in the past six weeks. (I continue to be of the view that ECRI’s Lakshman Achuthan’s recession call is wrong-footed.)

8. Contained geopolitical risks

We should monitor but not let geopolitical issues predominate our investing thinking.

9. Market-friendly rates

Low interest rates around the world in 2012-13 mean that any model based on interest rates results in a very inexpensive market valuation. (I continue to expect a massive reallocation trade out of bonds and into stocks.)

10. Lower volatility

Crazy market swings scared off and alienated investors over the past year. Shouldn’t the recent collapse in volatility help bring back investor confidence?

Source: Doug Kass, The Street, January 10, 2012.

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