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2 Important Issues That Bulls Are Overlooking

European debt woes and the prospect of higher taxes are likely to lead to a market correction by summer


Stocks around the world are off to a rousing start for 2012. On Feb. 17, the Dow jumped to its highest level since May 2008. The Nasdaq climbed to an 11-year peak, and emerging markets — beaten down last year — snapped back with a vengeance. Lastly, India, one of my favorite bourses, has spiked 18% since Dec. 31, and Brazil is up 17% since then.

It’s enough to make the grumpiest ticker fiend don a party hat and dance. Come to think of it, that’s pretty much what the Wall Street crowd is doing at the moment. Several investor polls reveal the greatest optimism on stocks since the important top last April.

The problem with one-way-up markets is that they lull investors into thinking there are no problems. But problems are still there — they simply lurk in the background until some opportune event turns the bears loose.

Given the strength we’ve seen year to date, sheer momentum will probably carry the market higher, to perhaps the 1,380-to-1,420 zone on the S&P 500 index, by late April or early May. After that, though, I suspect investors will begin to focus on two issues that are currently being overlooked:

Europe’s Debt Crisis Is Still Simmering

Granted, massive liquidity injections by the European Central Bank have calmed fears of an imminent banking collapse. But one major rating agency, Standard & Poor’s, is already saying that 1) Greece’s proposed 70% haircut for private creditors isn’t deep enough to make the country’s debt burden sustainable; and 2) credit conditions are still deteriorating in Italy and France.

Furthermore, Portugal continues to send up financial distress flares, with 10-year Portuguese government bonds yielding a bright red 12%. (Moody’s, the other big ratings agency, on Feb. 13 downgraded Portugal even further, into junk territory.)

Once the Greek crisis fades from the front pages, other debt-strapped European countries are sure to trigger a fresh batch of alarming headlines.

Tax Rates on Dividends and Capital Gains Could Rise

In recent weeks, several polls have showed President Obama pulling comfortably ahead in his race for reelection. Surveys also hint that, if the vote were held today, both houses of Congress would be narrowly divided between the two parties.

This is a formula for continued gridlock — and gridlock in 2013 means the president will get his way on taxes. He has said repeatedly he won’t allow another extension of the Bush-era tax rates. All he has to do is cross his arms and the existing rates will automatically expire on Dec. 31, 2012.

While few investors are worrying about the implications of higher tax rates, I predict that light will dawn over Marblehead sometime within the next three or four months. A sharp, though temporary, market correction will result, led by high-dividend stocks (which have the most to lose from a change in tax policy).

Article printed from InvestorPlace Media,

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