Now that Washington has talked American investors down from the fiscal cliff, what will be the market's next obsession? And how might people invest for a new normal where tax rates have been decided, but everything from worldwide growth to the fate of Europe's economy remains in flux?
Stocks surged on the first day of the year in a global sigh of relief that the U.S. economy will not go over the precipice after Congress compromised on curtailing recession-threatening spending cuts (for now) and tax increases.
Now that we're over the cliff, what are the biggest worries for investors looking to make more than zero on their money? Here are five key questions and answers, from fund managers and analysts, that will matter in 2013.
1. Will the tech sector recover its sizzle? Put another way, will Apple, the Company Formerly Known as the World's Most Valuable, find its way back to favor with investors? Its products are still cherished by consumers, and it sits on the topmost shelf of global brand names. But it became a dark star for tech stocks last September as its falling price dragged the entire sector lower. A related question: Will investors ever embrace Facebook after its IPO flop?
[Read: Post-Cliff Financial Plans for 2013.]
Why it could be a problem: Apple (symbol: AAPL) and Facebook (FB) are important because even after their declines, they make up a large portion of the tech sector. Beyond that, Apple matters for the excitement it creates among consumers. Facebook is significant because it is seen as an indicator of whether social media can produce earnings growth to match the hype (and lofty stock prices). Clearly it is a time of transition in which both companies face challenges.
Investing solution: There is no doubt that mobile computing and social media are booming. But investors may need to take a broader view of tech stocks and invest in diversified tech funds, says Todd Rosenbluth, an ETF analyst at S&P Capital IQ. Two funds he cited were Technology Select Sector SPDR (XLK) and Vanguard Information Technology ETF (VGT). "What it does is give investors a chance to get exposure to all of those players instead of just making a bet on one," he adds. He thinks Apple (it's the largest holding in both funds) could be bargain-priced now after its 25 percent fall from a September peak above $700. Buying broader funds also gives investors a piece of solid tech stock like IBM (IBM), Microsoft (MSFT), QUALCOMM (QCOM), and Cisco (CSCO), "just a few of our favorites in a sector that could be set for a rebound," he says.
2. Is there a bond-market bubble? The fiscal cliff threatened to trim $500 billion to $1 trillion from U.S. growth. The next threat on that scale comes from the bond market. Investors have been avid buyers of U.S. debt and now hold $16 trillion worth. With prices at an all-time high and yields at an all-time low (prices are inverse to yield), some fear it is a massive bubble.
When it could be a problem: There will be a series of critical checkpoints for the bond market. One of the biggest tests could come as early as next month when Congress must decide whether to raise the debt ceiling to fund government operations. There are also eight Federal Reserve Open Market meetings this year and each will include a full review of the Fed strategy of keeping rates low, although recent decisions to keep rates very low until the jobless rate falls to 6.5 percent make sudden moves unlikely. Still, even tiny increases in interest rates could mean big risks for bond investors. "Rates are so low they are eventually going to have to go up and when they do, people are going to lose money in bond-market positions," says Hugh Johnson, chairman of Hugh Johnson Advisors. "It's very deep worry and it's got a bubble feeling." Rates should be stable and unthreatening this year, he says, but 2014 could be a year of reckoning.
Investing solution: It's a good time to look at your portfolio and make sure it is not overloaded with long-dated U.S. debt, especially in bond funds. If you own long-term government debt securities yielding 3 percent to 4 percent, you might consider selling them over the next year--or prepare to hold them to maturity as prices fall. Bond funds could be even riskier since the yield they pay fluctuates with the market--so there is not a true hold-to-the-bitter-end fixed payout option. Their value also falls as rates rise.
3. What happens in the rest of the world? Everyone has been focusing on Washington's budget crisis for much of the past year and a half. Attention is now likely to turn back to trouble spots in the world at large. European stocks rallied last year, but Europe is far from solving its towering debt issues. China, though, is back on a growth track after more than a year of pulling back on economic stimulus to slow inflation.
The export problem: U.S. export sales dipped during the recession and have remained under pressure. Rising commodity costs have curbed the appetite for American farm produce, usually one of the steadiest exports. Higher-end products from computers to jets have lagged as world economic growth stagnated.
Investing solution: Global stocks are not cheap after a solid year. But since half the profit of major U.S. companies is derived from abroad, investing in U.S. equity provides plenty of foreign exposure. "International stocks have been doing better for a while," says Johnson. But as investors become willing to take on more risk, that global rally could fan out to include "small and midsized companies" that have been left out.
4. How solid is the housing recovery? Look for housing sales and prices, especially the S&P Schiller index, to become a bigger focus again as investors try to gauge the staying power of a recovery that gained momentum last year. Housing always has a large direct impact on the economy--more so since the housing collapse of five years ago destroyed consumer confidence and reversed the feel-good "wealth effect" of home equity.
One problem: The big recovery seen in the past year could dissipate if job growth remains tepid. "The housing and jobs markets are improving in the U.S., but only modestly," says David Edwards, president of Heron Capital Management, Inc.
Investing solution: In the wake of big gains in real estate investment trusts (REITs) and other direct housing investments over the past three years, investors might be better off looking at the consumer and housing-related sectors that have not recovered as fully.
5. Why are industrials attractive now? Nothing is ever fail-safe when it comes to investing. And industrials are notoriously volatile. But there is wide consensus that this sector is more promising than most others in a strengthening global economy. A weaker dollar makes U.S. industrial goods more competitive and translates directly to higher earnings from other, stronger currencies. Even so, businesses are still reluctant to invest in capital goods until they see clearer end-user demand from consumers.
Investing solution: A pure equity play focused on larger industrials is the safest, partly because the cash-rich companies can pay dividends and support shares through stock buybacks and get a lift from foreign earnings and a weak dollar. Says S&P's Rosenbluth: "We see economic growth improving now that the first level of the cliff is resolved and more cyclicals like industrials and consumer discretionary stocks will do well in this kind of environment." The defensive stocks--utilities, consumer staples--will lag, he adds. "People pulled back on the risk at the end of 2012," says Rosenbluth. Now it's back on--until the next cliff approaches.