Eight Reasons The Dow Could Get Back Over 14,000

It may feel like it was a generation ago when the Dow Jones Industrial Average reached its all-time high of 14,198.10. But that was almost three years ago – October 11, 2007. The index then dropped to 6,469.95 on March 6th 2009, due to a combination of the credit crisis and the depths of the recession.

It has risen 77% since then to the current level of 11,444. It would need to rise another 23% to move back above 14,000.

The 14,000 level is attainable in the next year or two if a small number of things happened. A longer recession would clearly bring the DJIA down. So might a prolonged period of unemployment near 10% or another drop in the home market.

However, instead of everything going wrong as in 2008 and 2009, most things in the financial markets may be going right.

There are relatively few changes to the current economy that would have to occur for the DJIA to move higher than it is now. Several of these would have to happen in tandem, but when the financial world improves, it is often because a number of things occur simultaneously.

1. Earnings per share are relatively cheap now.

That is only accurate if the revenue of large public companies rise or costs can be bought down more. Both may happen. Worker productivity improved 1.9% in the third quarter of this year. It has moved up most quarters for the last two years. American businesses seem to be able to squeeze more work out of each employee. There is clearly a limit to this, but it may not have been reached yet. Company margins, particularly work force ratios, could still get better, and so could sales. The forecasts that many companies put out for the current quarter and next year projected fairly robust growth. This is not only true for firms like Google and Apple.   For example, Ford expects sales to get better. So do companies as diverse as GE, Pfizer, AT&T, Alcoa and Boston Scientific. The final aspect of the EPS formula is that the nation’s largest companies have hundreds of billions of dollars on their books. Some, such as McDonald’s, are aggressively buying back stock—making their numbers of shares outstanding shrink.

2. QE2 could work.

The Fed’s purchase of $600 billion or more in long-term US Treasuries should bring other interest rates down. It is also likely to weaken the dollar and improve US export levels, which a number of America’s trade partners find objectionable. The newest round of quantitative easing should push down interest rates and the amount of capital banks have to lend at lower interest rates. Interest rates  are already at historic lows and the economy has not been helped much, but they eventually will be low enough to encourage borrowing – a key element to economic growth.

3. The housing market could improve.

Economists and the federal government are in a near panic over home values. Washington has already proven that it can do something to help the real estate market. The home buyer tax credit which lapsed in April had been a real success. There is a tremendous incentive for the new Congress to renew this program, or even increase the credits. Some of the new members of Congress have begun to talk about plans to reset the principles of mortgages which are larger than the value of the homes which they cover. Millions of Americans could sell their homes without paying their banks money for their underwater mortgages. And, the homeowners with those mortgages would also be less likely to default on property that they had believed would never have any value.

4. Unemployment could improve more quickly than anticipated.

Most economists and the Congressional and White House budgets assume unemployment will remain above 8% for the next two years. A surprising improvement in joblessness would help drive the stock market higher.Washington has not exhausted its weapons to improve the employment situation. There has been almost no legislation to give employers large and direct tax credits or payments to add workers. There have been no FDR-like programs for the federal government to directly create jobs. The situation has become desperate enough for the next session of Congress to be one which puts massive job programs into effect, even though that could raise the deficit for a year or two. A larger workforce means more consumer spending.

5. Exports levels could rise.

Rising export levels should help sales and profits at a large number of US companies. The Fed’s action may indeed keep the value of the dollar lower. Also, the Administration is busy setting up new trade pacts with nations like India. Industries critical to the overall export picture, which include agribusiness, airplane manufacturing, and defense companies have already begun to see more demand from overseas.

6. Key tax cuts could be extended.

There has been a fear the tax rates would go higher in 2011. This would include levies which are critical to investors, particularly dividend and capital gains taxes. Taxpayers will have more money in their pockets – money they may spend —  if the Bush tax cuts are extended. And, investors will not have a short-term reason to dump stocks to avoid a new set of levies which would make share sales more likely this year.

7. The price of commodities may have peaked.

Some are concerned that the price of commodities from gold to corn will rise high enough for margins at US companies to be damaged. Those costs might be passed on to consumers in the form of higher prices, which would undermine consumer spending. On the other hand, companies that could not pass along the added costs would lose profits. But, after a very rapid rise from 1,260 in July to nearly $1,400 an ounce, the price of gold has begun to flatten. The same is true of corn and other crops. Commodity prices could be the enemy of economic expansion, but only if they keep rising.

8. Stocks may rise.

The fact that the increase in stock prices may cause stock prices to rise even further may seem an odd way to look at the market. As shares move up, investor confidence usually does as well. So does investor wealth. An investor or pension fund with a 20% gain is more likely to stay in the market and make further investments than if their portfolios dropped rapidly like they did in early 2009.

Douglas A. McIntyre