While many investors would like to think that fundamentals determine stock prices, the unpleasant fact about the stocks is that momentum is a powerful force in the market that can carry stocks far above or below intrinsic value.
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Momentum is part of the reason the market has rallied so hard since the bottom in March 2009, and why so many investors see a puzzling disconnect between the level of stock prices and fundamentals.
The percentage of stocks in the S&P 500 trading above the 50-day moving average is at 80% through April 29, 2010, according to Bespoke Investment Group. This is down a little from the 93% reading a few weeks ago, but is still a strong momentum indicator. Consumer discretionary stands at a level of 90% of their stocks trading at 50-day highs, while health care is at the bottom with 52%.
Earnings season so far to date is also pumping up stock prices, as 63 of the 575 companies reporting earnings have raised guidance compared to only 12 lowering guidance.
Guidance On The Rise
iRobot Corporation (Nasdaq:IRBT) was one of these companies raising guidance on earnings and revenues, and expects 2010 revenues to be in a range of $375-85 million, compared to consensus estimates of $353.5 million. Expected earnings were also moved higher for 2009, to a range of $0.35-0.40 per share compared to consensus estimates of $0.23.
Baidu (Nasdaq:BIDU) also raised guidance when it reported first quarter of 2010 earnings report. The company now expects revenues for the second quarter of 2010 to be in a range of $268.1 million to $274 million, up from the current consensus of $240 million.
Wall Street strategists have also moved up year-end price targets for the S&P 500 over the last few weeks, providing another tailwind for the entire market.
UBS AG (NYSE:UBS) has the highest price target for the S&P 500, at 1350, with strategists at Deutsche Bank (NYSE:DB) and JP Morgan (NYSE:JPM) at 1300. The current level of the S&P 500 is at 1187. (L8)
Some of the lowest price targets are from strategists at Morgan Stanley (NYSE:MS) and Citigroup (NYSE:C), which are at 1200 and 1175, respectively. Even the most pessimistic forecast from Citigroup, if realized, implies a 5.4% yearly gain for the market.
The Bottom Line
It would be nice to think that logic and reason set the value of assets in the open market, but deep down the forces of momentum can quite easily over power fundamentals. Investors should remember that this momentum could cut both ways, and shift rather quickly against them. (Thinking about a career in investment banking? Check out Top Things To Know For An Investment Banking Interview.)
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