Equities

Happy days are here again, yet …

Some experts see correction, followed by a leveling off of major indexes

It’s official — the U.S. stock market knocked off another milestone last week, which happened to coincide with the end of a quarter, making it even more significant for anyone keeping track.

Where do we go from here? Well, cue the nail-biters and doomsayers, because we all know that markets move in both directions.

While the Dow Jones In-dustrial Average spent most of March setting new highs, the S&P 500 played it for drama — waiting until the last trading day of the quarter to surpass the high point set in October 2007.

From the start of the year, the S&P 500 has gained 10% and also set a record by gaining 143 points in the quarter.

The Dow finished the quarter up 11%, marking its best quarter since 1998.

For a bit of enthusiasm-dampening context, it is worth noting that many of the broader Russell indexes hit new highs months ago. And according to The Wall Street Journal’s Market Data Group, on a total-return basis that includes dividends, the S&P 500 actually has hit 33 record highs over the past 12 months.

In essence, the happy days are here again, unless you happen to be one of those pesky short-sellers who has spent the past few months buying stocks to cover short positions. To those folks, we offer condolences and also give thanks for helping to fuel the rally with their short covering.

Across the financial services landscape, you are being served pretty much what one would expect at times like these. It is a smooth blend of justified market fundamentals paired with a tangy hint of something that feels a lot like a warning.

“I think this stock market is the real deal and part of a sustainable move to higher levels,” said Gene Peroni, senior vice president of equity research at Advisors Asset Management Inc.

“I am bullish,” he added. “But there is certainly room for some consolidation here.”

Frank Fantozzi, president and chief executive of Planned Financial Services, described the markets as “fairly valued, if not a little overbought.”

VOLATILITY AHEAD

“I’m telling people to enjoy it while it lasts,” he added. “The market at the end of the year will probably not be much different than where we are today.”

In other words, expect volatility over the next several months, and little else. But don’t despair, because even if the market finishes 2013 at these levels, it will be a pretty good year for stocks.

With the S&P 500’s price-to-earnings ratio at around 14, which is about three points below where it was at the market top in 2007, it is not crazy talk to say stocks still have some room to run.

“We’ve been excited about stocks for a year and a half, and we think stocks are approaching fair value, but by no means are they overvalued,” said Jim Russell, senior equity strategist at U.S. Bank Wealth Management.

Aside from the nominal price levels of the broad market indexes, there aren’t a lot of parallels to be drawn between now and the 2007 market peak. Among the major distinctions between then and now is the overused reference to this being the most hated market rally in recent memory.

The S&P 500 has more than doubled since the March 2009 low point, yet over the four-year period through last year, U.S. stock mutual funds saw nearly $400 billion in net outflows.

Only over the past few months has the direction of flows into stock funds turned steadily positive.

“People think we need a booming economy and booming growth to have a strong stock market, but that’s when the Fed starts tightening and slowing things down,” Mr. Russell said. “Right now, we’ve got low inflation, improving domestic and global trends, [an] accommodative Fed, and it all adds up to a package that is a constructive backdrop for equities, so I’m not surprised that the stock market is doing so well.”

“BIT OF A PULLBACK’

The caveat — you guessed it — is the burning reminder that it has been more than 500 days since the market has seen a correction of at least 10%, and even if valuations look fair, some near-term volatility seems inevitable.

“Stocks have been very strong, and we do anticipate a bit of a pullback before too much longer,” Mr. Russell said.

Logic and simple market forces dictate that at some point, the other shoe has to drop, and those forces don’t really care that mutual fund investors only recently started moving off the sidelines.