January 7, 2005
TRANSITIONS
I. DECEMBER 2004 COMMENTS...STOCKS CLOSE HIGHER...BONDS STABLE...SHIFTS UNDERWAY
- Stock prices ended 2004 on a strong note, with the S&P 500 providing a total return of 10.9% for the year. Leadership was high quality in nature, with investors placing a premium on earnings growth, dividend distributions and financial strength.
- Interest rates reached their 2004 low at mid-year and began to rise as inflation concerns worried bond buyers. The Federal Reserve Bank more than doubled short-term interest rates providing five increases through the year.
- Global growth appears to be on 2% to 3% growth trajectory. Many factors impact this statistic, including higher oil prices, China’s attempt to slow growth, an expected pick-up in consumer spending, and the weak dollar. Geopolitical risks and assistance to South Asia Tsunami victims are also important but not quantifiable as yet. How well the U.S. markets fare during 2005 will depend on the interplay of these forces and the nature of corporate spending on capital goods and hiring decisions to be made over the next few months.
II. ECONOMIC OUTLOOK ...GLOBAL GROWTH SLOWING...CONSUMER SPENDING IS JOB-DEPENDENT...CAPEX WILL DRIVE 2005
- Employment trends continue lukewarm with 157,000 new jobs created in December and the unemployment rate remained at 5.4%.
- Auto companies stimulated sales in December with large rebate and financing deals. Notably Volkswagen is offering free car insurance for new buyers. Housing has been very strong for longer than expected, resulting in nearly 71% of households owning rather than renting. Neither of these sectors should be counted on to support GDP growth in 2005.
- On the other hand, prospects for business investment are promising: margins are high, cash balances are large, inventories are lean and major expenditures have not been made since the Y2K era. A one time lowering of corporate profit repatriation tax in 2005 will provide extra cash for multinational US–based companies to spend.
- Export sales are favored by currency trends as the economies of Europe and Japan find U.S. goods inexpensive. Chinese demand remains strong, but authorities there have been trying to slow the growth of the Chinese economy so as to reduce domestic inflation.
- Commodity prices have been broadly lower over the past month; shipping costs, steel scrap, nickel, oil, copper and lumber are but a sampling. Much of this may be China-based, but industrial production in many nations has slowed.
- The good news about global growth of 2% to 3% is that it is sustainable and non-inflationary.
III. FIXED INCOME OUTLOOK ...FED RAISES RATES...IMPORT PRICES RISE...FEDERAL BUDGET DEFICIT NARROWS...COMMERCIAL AND PRODUCER PRICES RISE
- Consumer prices rose a moderate 0.2% in November, as energy prices rose slightly following a surge in October. Core inflation rose 0.2% as well.
- Producer prices rose 0.5% in November; crude and intermediate goods prices rose sharply. Excluding food and energy, finished goods prices rose a moderate 0.2% but greater inflation is in the production pipeline at earlier stages of production.
- Upward pressure on consumer prices also came from rising import prices – a reflection of the depreciating dollar. Rising energy costs and import prices taken together could force the Fed to raise rates more than expected over the next year.
- We are encouraged that the Bush administration appears genuinely interested in reducing the Federal budget deficit. Tax revenues are already well above expectations and there is talk of reduced defense outlays and select cutbacks in entitlement spending.
- The Federal Open Market Committee raised the target federal funds rate by 25 basis points to 2.25 % at its mid-December meeting. Most observers expect similar increases at the FOMC’s next two meetings.
- The course of interest rates during 2005 will depend on the interplay between currencies, commodities, monetary and fiscal policy, and economic growth. Rates will remain difficult to forecast, but upward pressure will probably characterize most of the year.
IV. STOCK MARKET OUTLOOK ... LEADERSHIP CHANGES...COST CONTROLS vs. REVENUE GROWTH...EXPORTS vs. IMPORTS
- Much as in early 2004, it seems likely that market leadership may change in the weeks ahead. A year ago, the change was more pronounced than it is likely to be now. We continue to expect earnings, dividends and financial strength to be the key factors in stock selection. The economic environment favors large cap over small cap companies.
- We continue to favor companies with positions that are not easy to replicate. Examples of these are service providers, media companies, and medical technology companies.
- An opportunistic eye toward stock selections will likely stand us in good stead this year. We believe the stock market in 2005 will show irregular progress and reward investors with returns in line with historic averages.
VISIT US IN OUR OFFICES OR AT OUR WEBSITE, www.beacontrust.com
John W.
Gustafson
Senior Vice President
| 12/31/03 | 12/31/04 | Change | Dividend Yield | |
| S&P 500 Index | 1111.92 | 1211.92 | 8.99% | 1.6% |
| Dow Jones Average | 10453.90 | 10783.00 | 3.15% | 1.9% |
| Treasury Bonds (10 yr.) | 4.25% | 4.22% |
Beacon Trust Company
333 Main Street, Madison, NJ 07940
(973) 377-8090