Despite all the cliff drama in the past week that sent stocks spiraling downward, all three major U.S. stock indices ended the year higher — which might come as a surprise to many investors
U.S. stocks rallied Monday in the last hours of trading for 2012, as it appeared Washington lawmakers had reached a deal to prevent a combination of automatic spending cuts and tax increases known as the fiscal cliff.
Despite the recent political drama that sent stocks spiraling downward, all three major U.S. stock indices ended the year higher — which might come as a surprise to many investors
"If you just read the headlines and took people's pulse, you would think the market was down 5 to 10 percent," said Andy Brooks, head of U.S equity trading at Baltimore-based T. Rowe Price. "It's the most unloved good market I have seen in a long time."
The widely watched Dow Jones industrial average, made up of 30 stocks, rose 7.3 percent for the year to close at 13,104. The tech-heavy Nasdaq composite index gained 15.9 percent to end the year at 3,019. And the S&P 500 Index, a broader measure of performance of the largest companies, increased 13.4 percent, winding up at 1,426.
A year ago, only the Dow ended the year up.
Certainly, 2012 had plenty of bad news beyond the fiscal cliff to shake investors' confidence and keep them on the sidelines.
There was the plodding U.S. economy, accompanied by stubbornly high unemployment. The recession in the Eurozone and the slowdown in China. The much-hyped but highly disappointing initial public offering by social network giant Facebook. An interest-rate fixing scandal involving some of the world's biggest banks. And the contentious presidential election.
"It didn't feel like a great year," said Wayne Lin, portfolio manager with Legg Mason Global Asset Allocation in New York, "It's not like it was driven by euphoria. This is the little market that could. It kept chugging along."
Added Chuck Carlson, CEO of Horizon Investment Services in Indiana, "It goes to show you that there is always a lot of noise out there, but at the end of the day, the things that drive stocks higher are corporate profits, interest rates and inflation."
Corporate profits for the most part continued to beat expectations, and Carlson predicts that 2012 may be an all-time high for earnings. Interest rates remained extremely low, which tends to make stocks more appealing than other investments, Carlson said.
"Inflation has remained fairly benign, particularly wage inflation, which is most detrimental to stocks," he said.
The year also has been good for Maryland stocks. The Bloomberg Maryland Index, which gauges the performance of more than 60 area companies, was up about 21 percent for the year, led by W. R. Grace and Under Armour.
"Maryland is very fortunate," said John Boo, a senior portfolio manager with Chapin Davis, a Baltimore investment firm.
The state has a highly educated workforce and the highest median income in the country. And Maryland benefits from its close proximity to Washington, he said.
"We're not Silicon Valley, but there is a lot of government spending and positive fallout from that," Boo said.
Yet many investors missed out on these gains. Still scarred by the market crash in late 2008, risk-averse investors continued to flee stocks and rush into bonds.
According to the latest figures from the Investment Company Institute, net outflows from stock mutual funds reached nearly $122.5 billion in the first 11 months of the year, while net inflows into bond funds totaled $296.3 billion. ICI preliminary figures for December show this trend out of stocks and into bonds persisted.
"It's just been a series of things that caught the attention of … clients and had them take pause and wind down some of their holdings," said Steve Quirk, senior vice president of trading for TD Ameritrade in Chicago.
Investors were optimistic enough as 2012 began. By February, the Dow closed above 13,000, the first time since May 2008, leading to predictions that the index could break the record of 14,164 set in 2007.
Many investors also were eager for the long-awaited initial public offering in May of Facebook. Critics claimed the initial price of $38 a share was too steep. Technical glitches plagued early trading the first day. And dozens of investors later sued Facebook, accusing it of disclosing unfavorable financial information in advance to certain analysts, but not to the public. Facebook maintains the lawsuits lack merit.
Instead of reigniting small investors' interest in stocks, the Facebook debacle cast doubt on the functioning of the market and lowered investor confidence, Carlson said.
The steep sell-off in U.S. stocks in May can't be blamed on Facebook, but on Europe. Concern grew that Spain or Italy might go the way of Greece, which has yet to right its fiscal house despite a massive bailout.
"There was a lot of fear that the Eurozone would break up," said Jeff Raupp, a senior investment manager at Brinker Capital in Pennsylvania.
And there was fear that Europe's troubles would spill over to the United States and further weaken the economy here, said Gary Thayer, chief macro strategist for Wells Fargo Advisors in St. Louis.
Over the summer, investor jitters subsided, helped by the European Central Bank's promise to do all that it can to defend the euro, Thayer said.
The Eurozone slipped back into a recession by the fall. Even so, the European stock index was up nearly 14 percent for the year, with Germany's market up 29 percent.
U.S. stocks traditionally post a better-than-average return during a presidential election year, but equities experienced a sharp drop in early November after President Barack Obama won re-election.
The sell-off would have occurred no matter who was elected, said Howard Silverblatt, senior index analyst with S&P Dow Jones Indices. Once the election was over, it became clear that the dreaded fiscal cliff could no longer be ignored, he said.
Throughout most of the post-election period, investors assumed that politicians in Washington would not throw the country over the fiscal cliff and ultimately back into a recession, experts said. But in the past week, it appeared that lawmakers would do just that.
"Everybody was very nervous over the weekend. We had that big sell-off on Friday," Thayer said. "A lot of people worried that Congress couldn't make a deal or wouldn't make a deal."
With signs that a deal is achievable, Thayer predicted the stock market will have another positive year in 2013, possibly rising by nearly 9 percent. He expects modest economic growth here, but points to other positives, such as consumers and businesses having less debt and foreign economies improving this year.
Others are less optimistic.
Silverblatt said that even if the worst of the fiscal cliff crisis has been avoided, the economy will still feel the impact of tax increases and spending cuts this year.
"Bottom line, we will have a difficult year ahead," Silverblatt said.
The Bloomberg Maryland Index, a price-weighted benchmark that the performance of 66 companies in the region, rose about 21 percent in 2012.
•W.R. Grace & Co.
•Under Armour Inc.
•Coventry Health Care Inc.
•McCormick & Co. Inc.
•Jos. A. Bank Clothiers Inc.
•Micros Systems Inc.
•Choice Hotels International Inc.