Sam Stovall over at S&P is one of the best out there. He may talk earnings and multiples, but don’t let him fool you, he can definitely navigate through those charts. He sat down with Tom Hudson on PBS Nightly Business Report talking about his fourth quarter expectations. He likes the chances of an end of the year rally, but still looking for lower lows down the road.
TOM HUDSON: After the double digit drop for the major stock indices this quarter, history tells us prices may actually improve at least in the short run. Tonight`s “Market Monitor” is Sam Stovall. He is chief equity strategist at S&P. He joins us from that firm in New York. Certainly you know a thing or two about market history. Sam, it was such an ugly third quarter what, does history tell us to expect in the fourth quarter?
SAM STOVALL, CHIEF EQUITY STRATEGIST, S&P CAPITAL IQ: Well, actually, history says that we might end up with a fairly favorable fourth quarter because this most recent decline of more than 14 percent was the tenth time since World War II that we had a third quarter decline in excess of 10 percent. And in the prior times, the average price change was a gain of 7.2 percent and we saw the market rise in eight of those nine observations.
HUDSON: So odds are that the fourth quarter will actually see higher prices from the prices we see tonight. But can the rally last into 2012?
STOVALL: I don`t really think so. I think it`s what I would call a tale of two time frames where`s we might end up with an end of year rally because we were so oversold in the third quarter. We then bounced back in the fourth quarter. The bar is set fairly low for third quarter earnings reports and I guess just nobody really is expecting a Santa Claus rally. We might be pleasantly surprised. But as we head into 2012, I think we are likely to see that we`re going to be increasing the risks of recession here in the U.S. as well as dipping into a new bear market environment. So I would tend to say that chances are the market will continue to be challenging in the year ahead.
HUDSON: So a new bear market. You think that the S&Ps could drop 20 percent below the highs that we saw this year in April.
STOVALL: That`s right. You could say well, gee, that`s not sticking your neck out too far. We were already down 18 percent. But if history repeats itself and there`s no guarantee it will — we could end up seeing the S&P decline the average 30 percent that it normally does associated with recessions and along with it, it could be dragging down corporate earnings as it has by an average of 18 percent since 1948.
HUDSON: Sam, tough environment you describe here in your research points. The company is paying dividends, companies with a history of rising dividends and investors favoring less volatile stock. Over the past decade, the S&P 500 down 21 percent. Add dividends, the index is down 2 percent. But you look at the aristocrats, those S&P 500 components that pay continuous dividends and increase those dividends, those stocks are up almost, better than 100 percent. What explains this difference?
STOVALL: I think what explains it is paying up for quality by focusing on those companies that have consistently increase their earnings and dividends. They`re not going to be in your high-beta or high-volatile groups. They`re not the companies in a sense that are fly-by-nights. They are your blue chip stocks that do pay a dividend yield and because of that you get to compound that growth. More than 45 percent of the total return of the S&P comes from reinvested dividends and when you get solid companies behind them, then the price goes along with it.
HUDSON: Ten, 12 years ago dividend was an ugly name. Investors wanted that cash reinvested in the companies. You brought along a couple of examples of these type of firms. Abbott Labs, the pharmaceutical maker, share price $51 and change tonight. Also McDonald`s (NYSE: MCD), a household name, MCD, has had a nice run. In fact, this quarter hit a brand new all-time high. What explains their performance?
STOVALL: Well, you could say it`s a combination of things. First off, they both have the similar characteristics of above-average consistency of raising their earnings and dividends. S&P has something called equality ranking where we go back 10 years, looking at the consistency with which a company raising earnings and dividends. We give it a letter grade. A-minus or higher is above average. Also it pays a dividend yield of 3 percent or more, so you tend to compound that and because of good management, international exposure and also happened to be in fairly defensive sectors don`t hurt either.
HUDSON: No, not at all. How about disclosures? Any ownership positions yourself in those two, Sam?
STOVALL: No ownership positions in those two.
HUDSON: On to the fourth quarter with our “Market Monitor” this evening, always good to see you, Sam. It`s Sam Stovall with Standard & Poor`s.