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5 reasons investors should remain bullish on stocks

Jobs push stock market

Presidential politics have grabbed the news headlines all summer and dominated TV, radio and Internet commentary. But most stock market investors have paid little attention to the current craziness. And rightly so.

The months of July, August and September are usually rocked by what market pros call volatility -- sharp swings in the major stock barometers, especially the Dow Jones industrial average and S&P 500-stock index. Yet the increase in volatility this summer has been about average so far: There was a spike in June around the U.K.'s Brexit vote, "but since then volatility has quickly subsided, leaving July less volatile than normal even in the face of the Republican and Democratic national conventions," notes Michael Wilson, chief investment officer at Morgan Stanley Wealth Management.

Many investors had anticipated a lot of volatility because of the high-anxiety campaigning by Hilary Clinton and Donald Trump. That hasn't happened. "In spite of the carnival tone of presidential politics, the market has paid little heed," says George Brooks, editor of "Investor's First Read" newsletter. And so, he adds, market corrections have become "mere potholes in a relentless bull market more recently driven by panicky search for some kind of return on capital."

Volatility is expected to pick up this month, suggesting to some analysts that the equity markets will again become vulnerable to a significant correction. Morgan Stanley's Wilson believes investors shouldn't worry much about such prognostications.

"First of all, equity markets are always volatile," he argues in his August report to clients. "[On average] the S&P 500 experiences close to 15 percent volatility on an annual basis, i.e., it has a 15 percent range throughout the course of a typical year." And besides, he adds, volatility often creates more opportunities than headaches for long-term investors.

The market's highly positive reaction to the pleasantly surprising news last Friday that 255,000 jobs were created in July -- the S&P 500 and Nasdaq composite closed at new highs last Friday, while the Dow ended nearly at a record high -- demonstrates why investors should be optimistic about the market. Wilson cites the following five reasons why investors should be bullish.

1. The economy is strengthening. Global growth is on the upswing, with worldwide nominal GDP growth up year over year. The severe recession experienced in 2008-2009 bottomed in last year's third quarter, Wilson writes, "and growth has been recovering ever since." Morgan Stanley's Global Trade Leading Indicator suggests that the recovery will continue, which is supportive for global equities "and why stocks have done exceptionally well since February," he argues.

2. Corporate profits are improving. "If there is one thing that have driven stocks more than any other, it's earnings," Wilson says. Recent upward revisions in earnings estimates are a positive for the market, with the breadth of revisions a "leading indicator of earnings growth." Wilson cites earnings troughs that suggest turnarounds for major sectors like energy, materials and industrials -- and that should bode well for their equity prices.

3. Valuations are attractive. When the market's price-earnings multiples are adjusted for today's record-low interest rates and borrowing costs, "stocks not only look reasonable but they look downright cheap," Wilson says. The market's "fair-value metric," as he calls it, shows that the S&P 500 "appears to be 20 percent to 25 percent undervalued."

4. Market sentiment is favorable. Wilson notes that even after a raging seven-year bull market in U.S. Stocks, investors remain skittish. That's a bullish signal, especially considering the "exceptionally negative money flows out of equity fund in the past few years." Wilson notes that the flow of money out of U.S. equity mutual funds and exchange-traded funds in the post 18 months "exceeded the cumulative outflows between 2008 and 2012, the wake of the financial crisis." To say that this is the most unloved bull market ever, he says, "would not be a stretch ... and this is not how bull markets usually end."

5. The market itself has strong underlying health. One variable that Morgan Stanley tracks closely is called breadth -- a measure of the market's underlying health based on the number of advancing stocks versus the decliners. The S&P 500 cumulative advance-decline breadth over the past few years has been flat, but this year, it has broken to all-time highs. "This is an important development that supports our conviction in the new highs generated by the S&P 500," Wilson says, adding that today's strong breadth suggests that "prices can continue to move higher much like we experienced in 2013."

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