Timing the stock market is often a fool's errand. But here I go. Despite gains on Wednesday and Thursday, I do not believe the downturn that began on Aug. 3 has run its course yet. However, I think it will end within about a month, so it could be helpful to have a buy list ready.
Declines of 10% or more occur, on average, about once a year. I think we are in the middle of such a decline now. From the Aug. 2 high through Thursday's close, the S&P 500 Index has fallen about 4%. I think some further declines will occur, mainly for the following three reasons:
• Congress will be wrestling with the federal debt limit and the federal budget for the fiscal year that starts Oct. 1. Partisan divisions will be on display, and they won't be pretty.
• Interest rates on U.S. Treasuries have already risen, and they may rise further yet, partly as a result of the Federal Reserve's imminent decision to buy fewer bonds. For example, the rate on 10-year Treasury notes has climbed from 1.5% a year ago to 2.8% now.
• Political instability is brewing in the Middle East, mainly in Egypt and Syria. The U.S. and some of its allies may become involved in armed hostilities in Syria.
I do not anticipate that these problems will lead to a bear market -- that is, a 20% decline -- or even a 15% decline. So, if the S&P 500 falls back to around 1600, I expect to be buying some stocks. That would represent about a 10% decline from the Aug. 2 high of 1709, and it would put the index back to where it was in early May. At that point, I think many investors would be getting seriously worried.
The reason I would use that level as a buy point is that I believe we are still in an improving economy and a secular bull market. Unemployment is improving, manufacturing is strong and economic growth is decent at about 2.5%. Furthermore, the problems I mentioned above won't be fatal to the market.
I expect Congress to be disappointing, but not disastrous. Most politicians, after all, are pragmatists. I also expect interest rates to rise slowly. They are normalizing -- not shooting up to poisonous levels. As for the Middle East, I can't predict the outcome here. But the U.S. stock market has done fine during several periods of political and military turmoil there.
When you think it's buying time, here are seven stocks you might want to consider. Each has shown some earnings growth during the past five years, has a modest debt-to-equity ratio and sells for less than 15x earnings.
Agrium (AGU) makes fertilizer. Foot Locker (FL) retails athletic shoes and sports clothing. HollyFrontier (HFC) is a refiner. Kulicke & Soffa (KLIC) makes semiconductor equipment. Magellan Health Services (MGLN) provides mental-health services. Oil States International (OIS) offers goods and services to oil drillers. Western Digital (WDC) is a leading maker of computer disk drives. Currently, I own two of these stocks: Kulicke & Soffa and Western Digital.
John Dorfman is chairman of Thunderstorm Capital LLC, a money-management firm in Boston. He can be reached via email here.
