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Can the Market Recover Before the Economy Does?

The short-mid term outlook for the U.S. economy is dismal with even the most optimistic analysts not forecasting a return of economic growth, as measured by positive Gross Domestic Product (“GDP”) data, until the 3rd quarter of 2009. Yet this does not necessarily mean that the stock market will not begin to mount a recovery during the first two quarters of 2009. In fact, some may even suggest that a tentative rally has already begun as evidenced by the 17.88% return of the S&P 500 Index over the course of the past month for the period 11/20/08 – 12/22/08.

While I do not believe that the days of short-term volatility are behind us and attempting to “call a bottom” is an exercise in futility, there are signs of optimism for the equity markets. Additionally, if you subscribe to the notion, as I do, that the stock market is a leading indicator of the economy, then the market should recover before the economy does. Following this line of thinking, if one waits for the economy to improve, a significant portion of the market recovery may have already occurred.

Many investors still need growth in their portfolios and want to get their portfolios back on track in this regard. Other investors have parked cash in money market funds or cash equivalent investments until they feel comfortable with the direction of the economy and stock market (although these two areas are not perfectly correlated as previously discussed). Both groups of investors should be careful not to become overzealous and abandon the principles of asset allocation and diversification in their quests for growth in any potential upcoming market recovery. I would even suggest that having the appropriate blend of asset classes, with appropriate being defined as in-line with an investor’s goals, investment timeframes and level of risk tolerance, in their portfolio that is re-balanced on a periodic basis is as important as ever.