Don't jump ship on this rally yet

By Jim Jubak

Nervous? With the stock market hitting new all-time highs just about every day, I certainly hope you're feeling cautious.

As we celebrate the lunar new year and move into the Year of the Pig, it's certainly a good time to remember the old Wall Street saw about hogs getting slaughtered. Now is not the time to forget about fundamentals or to ignore price targets.

But it's not time to bail out. Some pretty strong currents are still running in this market's favor, and we're likely to climb the famous Wall Street wall of worry to even higher highs over the next few months.

Up, up and away

That said, this certainly isn't the time to be laying on risk with a trowel. (See preceding wall metaphor.) And it certainly is becoming harder and harder to find a bargain in the stock market.

On Feb. 16, the Dow Jones Industrial Average ($INDU) closed at 12,767, a record for the closing price on the index. That close erased the record of 12,765, set just the day before. The close was the 29th new high since Oct. 3, when the Dow broke a six-year-old record.

The rally has been remarkable for its longevity, its lack of corrections and its breadth. It's now 4½ years old, making it the third-longest bull market on record. Much of that climb has been without significant backsliding: For the past 47 months, the market has climbed without a 10% correction, says Jim Stack of InvesTech Research. Most sectors of the stock market have participated in this rally; only 19 times since 1929 have the Dow industrial, utility and transportation averages hit simultaneous record highs, as they did Feb. 14.

Not all the news is good

All that good news is enough to make any investor nervous. If you want to worry, you can -- if you must -- find things to worry about:

• Earnings growth, which has been above 10% for most of this rally, is slowing. It looks like earnings growth on the stocks in the Standard & Poor's 500 Index ($INX) will come in just below 10% for the December 2006 quarter, and Wall Street analysts are projecting just 5% growth for the first quarter of 2007.
• Economic growth is strong enough that an interest-rate cut by the Federal Reserve -- which would help push stock prices higher -- doesn't seem to be in the cards for 2007.
• The housing market is still in a slump, and although inventories of unsold homes continued to decline in December 2006 from a high of 7.2 months of supply, recent inventory levels of 5.9 months of supply are still well above the 4- to 4.5-month range that marks a healthy home market.
• Low oil prices, which have helped increase profits in industries such as airlines and have given consumers more spending power, could come to an end when the peak summer driving season arrives with its big surge in demand for gasoline.
• And, of course, stocks aren't cheap with the S&P 500 trading at roughly its average long-term price-to-earnings ratio.

These worries are absolutely real, which is why I'm cautious. Since Jubak's Journal started the year 100% invested, I don't have any need to buy anything new that's not a bargain.

If I can't find bargains right now, I'd be perfectly comfortable selling into this rally whenever a stock hits my target price. I'd certainly like to have some cash on hand as we head into the second half of the year.

Watch for the summer slump

Seasonality turns against stock investors in May and sinks until it hits a bottom in September. February is, on average since 1950, a down month for the S&P 500, according to the Stock Trader's Almanac. But March and April have produced a 1% and 1.3% average return, respectively, since 1950. May's average return is just 0.2%.

Many of the worries in my list above are likely to have more effect in the second half of 2007 than over the next few months:

• Oil prices typically don't climb much in the shoulder season, when refineries make the transition from winter to summer products.
• The Fed is likely to keep interest rates on hold for the first half of 2007, pushing off any surprise rate increase to the last part of the year.
• And there's a good chance that investors are too optimistic about the speed of a housing-sector recovery. We're likely to see data weak enough to raise the fear that we haven't seen a bottom yet before we see the true recovery.

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