Stock Correction Coming?

The higher stocks go, the more investors fear a correction is coming.

That helps to explains why all the recent stock market positives -- the Dow Jones industrials' record run, the longest stretch without a large price correction in decades, the Federal Reserve holding interest rates steady -- are being considered as much a curse as a blessing.

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No one is saying the market is destined for a free-fall anytime soon, but there are legitimate concerns that the rally may be due for a pause.

You don't need to look far on Wall Street for cautionary commentary about the bull run that began in July. Few expected that surge to happen in the first place, and at many times in recent months, there have been forecasts that the market will start showing some fatigue.

Instead, the Dow went up seven straight months through January, the longest winning streak since 1995, and that thrust the blue chip index into record territory, which it continues to beat with gains already seen this month.

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The Standard & Poor's 500 index, now at a six-year high, had its first eight-month run in a decade in January. Should that continue in February, it would be the first time since 1983 that it has had nine months of gains.

The Dow industrials average hasn't seen a 2 percent correction in more than 130 sessions, the longest run since 1954, and it has gone 53 months without a 10 percent correction for only the second time in history, according to Ned Davis Research. There has been not been a 2 percent drop in the S&P 500 in more than 930 sessions, the longest stretch ever without that kind of pullback, according to Birinyi Associates.

Much of this climb has been built on better-than-expected economic growth, which has all but wiped out any concerns of a looming recession. Inflationary pressures also remain relatively tame, containing investors' worries that high oil prices would significantly boost the cost of other goods and services.

That economic picture spurred Federal Reserve policymakers last August to halt a series of 17 quarter-point increases since June 2004 that pushed the overnight bank loan rate to 5.25 percent -- and then to remain on hold since then.

At the same time, earnings growth has been strong, with companies in the S&P 500 tallying 13 consecutive quarters of double-digit profit gains. The quarterly results now being reported might add to that run -- and break a record by doing so -- with a growth rate of 10.4 percent, according to Thomson Financial.

A buyout boom also has fueled the stock market as investors have held shares that they believe could potentially sell to private-equity firms. All that dealmaking, along with the surge in stock buybacks, also has reduced the number of shares in play, therefore boosting demand for equities.

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For the current rally to continue, a lot depends on what investors believe the future will hold.

The market is pricing in virtually no chance of the Fed cutting interest rates between now and September. Should that actually happen, it would rank as the eighth-longest stretch of Fed inaction.

That's good news because the average historical gains during the 12 longest Fed pauses dating back to 1960 have seen an average return of nearly 12 percent in the S&P 500, according to Birinyi Associates.

The Fed's steady stance also means that companies won't get the benefit of lower borrowing costs anytime soon, however. That could hurt earnings, which already have a more murky outlook going forward.

Wall Street analysts surveyed by Thomson Financial are now forecasting profit gains of around 5.1 percent in the first two quarters of this year, and more than double the usual number of companies in the S&P 500 have issued negative earnings guidance, according to the financial data provider.

Still, some market-watchers say the wall of worry building in the stock market may be overdone.

Researchers at Birinyi Associates note that the S&P 500 is trading less than 2.5 percent above its 50-day moving average. Historically, anything less than 5 percent above the 50-day moving average is considered neutral -- indicating that the market has not been overbought.

S&P's chief technical strategist Mark Arbeter warns that historic winning steaks are often followed by losses -- but that doesn't mean things always turn out so bad.

During the end of the eight-month 1996 advance, the S&P 500 fell 4.58 percent first month, then rallied 1.88 percent the next month and gained another 5.4 percent the month after that. During the nine-month run from 1982 into 1983, the market fell 1.23 percent in the first month, then rose 3.5 percent the second month before it dropped 3.3 percent in the third month, Arbeter said.

In addition, during two of the four other instances since 1970 that the S&P 500 has had at least eight consecutive monthly gains, the increases started just as the market was at a four-year cycle low, making it a good time to buy from a long-term perspective, Arbeter said.

That means the pullback that is likely to come may not be a wrecking ball.

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