Russ Wiles

The Republic | azcentral.com

After a slightly downbeat 2015, the stock market offers uncertain potential heading into 2016

The presidential election might boost optimism for investors. Profit gains also would be welcome

The interest-rate trend has shifted. Bond investors should be concerned. Mortgages remain attractive

The economy has added a net 2.6 million new jobs over the past year, with the national jobless rate falling to 5 percent — half the peak rate from the recession.

Corporate profits hit record highs in the latest quarter, helped by continuing low interest rates and low inflation. Gasoline prices have tumbled 10 percent over the past year, putting more cash in consumers' pockets. Bankruptcies have dropped to pre-recession levels, housing prices continue to climb and so do overall wealth levels for Americans.

No matter.

Those and other positive developments during 2015 were largely overshadowed by problems and worries, from terrorist attacks and sliding commodity prices to a slowdown in the international economy, namely in China. Pockets of good news weren't enough to lift the stock market, which ended 2015 a bit below where it began the year.

The Dow Jones industrial average closed the year down 2.2 percent, excluding dividends, at 17,425, with the Standard & Poor's 500 index slipping 0.7 percent to 2,044.

Could the excitement of the coming presidential election, along with a generally benign economic backdrop, generate more favorable investment results in the coming year?

As the presidential campaign swings into high gear, that might help investors feel more optimistic. "Historically, election years have been positive for markets, likely due to the fact that campaign speeches focus on how things will get better," said Nathan Erickson, partner and chief investment officer at Miller Russell Associates in Phoenix.

Erickson also said the Federal Reserve's decision to start raising interest rates in December signals confidence in the economy, although he expects subpar returns overall from the stock market in 2016, reflecting the effects of abnormally high results in recent years.

What do others see when they look into their crystal ball?

Grace Lau of PacWest Financial Management in Phoenix holds a more bullish view.

"For 2016, we continue to expect a strengthening economy to result in higher corporate profits and higher stock prices," she said. Lau doesn't predict a recession on the horizon and considers stock valuations to be reasonable. She also believes Wall Street analysts are being too conservative in their earnings forecasts.

But Morningstar analyst Matthew Coffina preaches caution when it comes to the stock market. "Investors should be prepared for modest returns over the next five years," he wrote in a year-end summary. Economic growth remains subpar, corporations could be hard-pressed to boost earnings and stock-market valuations remain on the high side, in his view.

Nor does Allan Flader of RBC Wealth Management in Phoenix predict exceptionally strong results for the stock market in the coming year, but he does believe foreign markets could fare better. Investors who lack exposure to international markets should consider adding to these areas, he suggested. The past several years have been marked by much better results in the U.S., but eventually foreign markets could catch up. As a rule, Flader recommends that stock investors consider staking 20 to 35 percent or so of their equity holdings in the international arena.

While China and other Asian nations still are generating some of the world's strongest economic growth, despite recent slowdowns, Lau expects conditions in Europe to improve and has been adding European stocks to client portfolios.

Arizona impact

For Arizona companies, 2015 was a year of hits and misses — and that could continue.

Some of the state's most prominent corporations suffered spectacular stock-market declines, highlighted by a roughly 78 percent plunge in the shares of Apollo Education Group and a 69 percent stumble for Freeport-McMoRan. Apollo's problems reflect widening losses as revenue and student enrollments drop at the University of Phoenix and the company's other adult-education units. Heightened online competition from traditional universities and tighter government regulations are among the challenges.

Freeport-McMoRan has been stung by sliding prices for copper, oil and other commodities that it produces. The company that formerly stood out as Arizona's profit leader by a wide margin lost more than $8 billion over the first three quarters of 2015, with fourth-quarter results pending. Co-founder and longtime Executive Chairman James Moffett announced his retirement in late December.

As positive highlights, Knight Transportation and Microchip Technology each logged their 100th consecutive profitable quarter during 2015. But while Microchip's stock returned 6 percent during the year, Knight shares lost about 27 percent of their value on worries over a trucking slowdown ahead. Phoenix trucking rival Swift Transportation fared even worse, with its stock tumbling 52 percent in 2015.

First Solar, the Tempe-based maker of solar modules, logged the best stock-market results among Arizona corporations in 2015, with a gain of 48 percent. The company ramped up revenue and profits over the past couple of quarters.

Arizona also saw a few new publicly owned corporations debut during 2015. Shares in GoDaddy, the Internet domain registrar and Web-hosting company, have jumped 60 percent following an initial public offering in April.

Cable One, the nation's 10th-largest cable operator, got spun off as an independent Phoenix-based company this summer.

Vereit, a commercial-property real-estate investment trust or REIT, isn't a new company. But in 2015, it got a new management team, a new name and a new listing on the New York Stock Exchange. Vereit formerly was known as American Realty Capital Properties.

Profit pressures

Although large corporations continued to boost profits, albeit at a slow pace, through 2015, Coffina at Morningstar fears earnings for large stocks could face pressure ahead, constrained by weak commodity prices, a slowdown in developing economies and the strong dollar, which hurts exports, especially for U.S. manufacturers.

"Even if current profit margins and price/earnings ratios are sustainable, it seems unlikely that dividends and earnings growth can support total returns above 6 percent to 8 percent per year over the long run," he wrote in the Morningstar report. "Investors should set their expectations accordingly."

It doesn't help that the economic expansion, now entering its seventh year, is getting long by historical standards, noted Wells Fargo Securities in a recent report. The average length of expansion since World War II has been about five years.

One favorable trend has been the recent uptick in consumer spending. That could be a key driver, as consumers account for more than two-thirds of U.S. economic activity.

A 2016 investment-outlook report by U.S. Bank's private-client division describes the risk backdrop as elevated for the stock market, what with slow global growth, geopolitical instability and terrorism, the shift toward higher interest rates and rising wages in certain industries. Still, the company expects the S&P 500 index will hit 2,225 during the coming year, which would mark a gain of nearly 9 percent from current levels.

Interest-rate shift

Flader at RBC doesn't expect interest rates to rise all that much and notes that the various types of rates won't all move in unison. U.S. Bank notes that many foreign investors continue to buy bonds issued by American government entities and corporations, while more retiring Baby Boomers will be looking to add to their fixed-income positions. Both factors could prop up bond prices and hold down rates and yields.

Retirement funds also might become more conservative and buy more bonds, helping to keep yields down. "Many corporate pension plans have approached fully funded status and have begun to reduce equity positions in favor of longer-dated debt," wrote Jennifer Vail, head of fixed-income research at U.S. Bank.

Wells Fargo predicts 10-year U.S. Treasury notes will end 2016 with yields between 2.75 percent and 3 percent, up slightly from the current level of 2.3 percent. The 10-year Treasury is important because that's the rate against which long-term fixed mortgages generally are pegged. Relatively stable mortgage rates could be positive for housing, which also is affected by job growth, wage levels, household formations and other factors.

Wells Fargo expects a healthy 11.6 percent rise in overall housing starts in the coming year, with more growth in single-family construction than in apartments, where a recent building boom is likely to taper off. "Home price appreciation and residential rents should moderate somewhat, as new supply comes to the market," Wells Fargo said. The company expects U.S. home prices will rise about 4 percent on average in 2016.

Crumbling commodities

American motorists have enjoyed lower gasoline prices, but stock-market analysts and investors view the oil slump as worrisome. For one thing, price declines undermine profits in the energy sector, which includes dozens of the nation's largest corporations. Besides, some point to lower oil prices as a sign of economic sluggishness.

That situation might not change anytime soon. Energy prices are marked by significant oversupply — a situation made worse by OPEC's refusal to scale back production, by improving drilling efficiency in the North American shale-oil sector and by growing oil inventories held in storage, Coffina said.

But he expects that will reverse eventually. "Current oil and gas prices can't support the investment needed to meet long-term energy demand, and sooner or later natural decline curves will catch up to producers that are sharply cutting back on drilling activity," he said.

U.S. Bank sees commodity prices mostly moving sideways in 2016 after five years of price declines. Demand remains solid, but bloated inventories continue to put downward pressure on prices, the company said.

Put it all together, and 2016 is shaping up as a restrained if not boring year for financial markets, though with surprises always a possibility.

While investment results, for both stocks and bonds, could be subpar in 2016, single-digit returns don't look so bad in the context of low inflation. "While investment returns may be low, the growth in the cost of goods and services due to low oil prices and borrowing costs should be low as well," Erickson said.

Reach the reporter at russ.wiles@arizonarepublic.com or 602-444-8616.

Financial resolutions for 2016

If you plan to take actions that could improve your financial situation in 2016, you're not alone. Some 37 percent of respondents to a recent Fidelity Investments survey plan to make at least one financial resolution for the coming year, up from 31 percent who said the same for 2015.

Saving more money was cited by 54 percent of the more than 2,000 respondents in the October survey, making it the top choice, ahead of spending less (19 percent) and paying off debt (16 percent). Among worrisome types of debt, Fidelity noted more people paying attention to bloated credit-card balances.

Major financial concerns for people include unexpected expenses, the general state of the economy and market volatility/interest-rate uncertainty. But in general, Americans feel optimistic for their finances going into 2016, with 72 percent predicting they will be better off in the coming year.

— Russ Wiles