Why a soft first quarter offers hope

The first quarter, by all accounts, was a dud, especially if you were invested in blue chip stocks as the Dow Jones Industrial Average retracted 0.74% in the quarter.

Yet March also saw some shifting of capital from higher-risk assets into blue chips and large-cap stocks, as the NASDAQ and Russell 2000 underperformed with declines of 2.53% and 0.83%, respectively.

But the muted gains in the first quarter do offer some hope heading forward, especially if the stock market can attract some leadership and if the economic outlook and jobs numbers can improve. For instance, the S&P 500 led the way in the first quarter with a 1.32% advance (or a 5.28% advance on an annualized basis). By comparison, in 2013, the index had already surpassed this level of advance by March.

Given the muted results to date, we could see much better gains in the quarters ahead, but much will depend on several variables that currently cast a cloud over the stock market.

First, the Fed is continuing to cut its quantitative easing and the consensus is that the bond purchases will dwindle to zero by year-end. While this is discounted by the stock market, traders are more concerned about when the Federal Reserve will begin to increase interest rates. The early thoughts are for rates to rise sometime in the first half of 2015.

Yet Fed chairwoman Janet Yellen gave the stock market a lift on Monday after suggesting the central bank would do whatever is necessary to make sure the economic renewal and jobs growth continue unabated. Now, this could imply that the bond buying could continue longer or it could suggest that higher interest rates may not surface until later in 2015. Higher interest rates aren’t necessarily bad, as an increase in rates indicates the economy is doing well—which is the end goal.

All eyes will be focused on the jobs report due out tomorrow. After a decent reading in February, the stock market and the Fed want to see if there has been progress in jobs creation, especially as the warmer weather comes. The Briefing.com consensus estimate is calling for an optimistic 195,000 new jobs in March, up from 175,000 in February. A number around this estimate should bode well for the stock market, given the impact of the cold weather.

And in a few weeks, we will get set for first-quarter earnings season. I doubt we will see strong revenue growth, given the harsh winter weather during the quarter, but what the stock market wants to see is the guidance going forward.

Outside of the United States, we also need to see a resolution in the Crimea stand-off. If this situation boils over and a war occurs, it could kill the economic renewal in both Europe and the global economy. The crisis comes at a critical time, as the eurozone is looking at a three-year-high growth of 0.5% in the first quarter.

The uncertainties will make the stock market continue to look for direction. A plus is that April could show stronger returns, as it has historically been the top month for stocks over the past few decades. And as we head into May, history also points out that May begins the worst six months for the stock market. But we could see different results this time, given the muted first quarter.

What I suggest you do is write some covered calls on some of your long positions in case the stock market trades sideways. This would generate some premium income.

You could also consider writing some put options on stocks you are looking to buy at a cheaper price in case the stock market corrects. Under this strategy, you receive premium income and have the chance to buy a stock at a cheaper price.

~ by George Leong, B. Comm.

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