Behind the Sharp Sell-Off, Some See Signs of a Robust Recovery

Bearish analysts are roaring following the sharp, high-volume sell-off last week, even in the face of some strong economic data. Some see a long-awaited reckoning for the market on the horizon, and chatter is increasing that January's bruising may be a sign of what's to come for the rest of the year. But investors should look past the growling bears and focus on concrete developments like soaring corporate profits and a strengthening dollar instead.Cutting through the noise is especially difficult given the past week's media circus, which saw Treasury Secretary Tim Geithner spar with Congress over bank bailouts, the Federal Reserve make a decision on interest rates, President Obama deliver a State of the Union address and Apple launch a new product.

But while bears point to stocks' slide as the market's true verdict on the frenzied week, a closer look at the evidence suggests that a stronger-than-expected economic recovery may be brewing behind the scenes. And the prospect of an accompanying rise in interest rates -- not the certainty of a double-dip recession -- may be weighing down the market instead.

A More Bullish Interpretation

Friday's tumultuous equities' action may be particularly instructive. Shares initially surged following the release of a much-better-than-expected fourth-quarter GDP growth rate of 5.7%. But the view that this impressive GDP number may have been a one-time blip driven by an inventory correction seemed to gather steam as the market sold off later in the day.

Still, a more bullish interpretation may be in order given developments elsewhere. The unexpectedly strong GDP expansion could lead the Federal Reserve to raise interest rates sooner than had been anticipated. While the end of easy money -- a major crutch for the stock market -- is hardly around the corner, it's no longer out of the question, either. The continued rally in the dollar -- which may have weighed down stocks as well -- could be a signal that investors are anticipating a tightening of the money supply sooner than they previously had.

Indeed, in an otherwise humdrum Fed meeting that left key interest rates unchanged, the most noteworthy development may have been the expression of dissent by Kansas City Fed President Thomas Hoenig, who voted against keeping rates at historic lows. Hoenig "believed that economic and financial conditions had changed sufficiently that the expectation of exceptionally low levels of the federal funds rate for an extended period was no longer warranted."

Strong Job Growth Soon Is a Real Possibility

And Hoenig may not be the only outlier in the Fed for long if the strong rebound in jobs that some high-profile Wall Street stalwarts are now predicting comes to fruition. Last week, analysts at JPMorgan Chase called for a stronger-than-anticipated rebound in employment starting in February. The analysts pointed to a gain in momentum for a closely watched job index that has been predictive of hiring following previous recessions.

And despite lackluster jobs data so far, and continued anxiety that this recovery -- like the ones following last two recessions -- will be jobless for a prolonged time period, some prominent investors like Bill Miller at Legg Mason are looking for strong growth instead.

"The improvement in jobs numbers through last week is more consistent with the robust employment growth we saw coming out of the 1982 recession, rather than the more tepid job growth experienced following the 1990 and 2001 recessions, which are the blueprints for the current consensus," Miller recently wrote.

Continued strong temp hiring -- which has previously foreshadowed full-time job gains -- may be another signal that labor market conditions are about to improve.

And with profits soaring, big companies may be well-positioned to hire. Of the 220 companies in the S&P 500 that have reported earnings so far, 78% have beat analysts' estimates.

Given the strong economic indicators, Wall Street's perverse logic -- in which good data weigh down stock prices because they raise the prospect of the Fed eventually draining liquidity -- may be at play again. That could explain last week's sell-off and set the pace for the rest of the year.
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