Fears of falling off the cliff are gone as the bull market reaches new heights. The question now is how high can stocks go.
In a classic example of how fast investors' mood can turn from intense fear to enthusiasm, the Standard & Poor's 500 rocketed 4.6% last week to 1466.47. That number is significant because it pushes the broad market index to its highest level since the end of 2007, just before the financial crisis sent stocks into a historic tailspin.
"We're seeing the stock market powering ahead," says Scott Anderson, chief economist at the Bank of the West.
But some investors are wondering if this first major victory for stocks is perhaps setting the stage for some equally impressive signals of stock's upward trajectory, including:
• Strength in small caps. Investors have been fixated on the large dividend paying stocks for years, says Karl Mills of Jurika, Mills and Keifer. Shares of smaller companies, though, are the quiet heroes and are already breaking all-time new highs. Both the Russell 2000 and Wilshire Small-Cap Index pushed further into all-time high terrritory Friday. The Wilshire Mid-Cap Index also set a new high.
• Widening number of companies already hitting all-time highs. While the S&P 500 itself is still 6% from its all-time high hit October 2007, some members are already at or near their high-water marks. There are 22 stocks in the S&P 500 that are at their all-time highs or less than 1% away.
• Easing pessimism. Investors have been hating stocks and hiding in bonds, says Doug Sandler of Riverfront Investment Group. But now that the fiscal cliff of automatic tax increases and spending cuts has been avoided, stocks aren't as scary, he says. The falling level of fear in the market is shown in the decrease of the CBOE Volatility Index, which is down 23% this year and 20% below levels from a year ago. Just knowing what their tax rates will be in 2013 has gone a long way in restoring investor confidence, says Michael Farr of Farr Miller & Washington.
That's not to say there aren't weak spots. Despite the rally in the S&P 500, the Dow Jones industrial average is still 1.3% from its bull-market high and the Nasdaq is twice as far away from its 2012 high. A sudden spike in interest rates could be a big problem, too, as the nation needs to service its mounting level of debt, Farr says. Already, the yield on the benchmark 10-year Treasury note is up to 1.92% from 1.60% a month ago.
Meanwhile, with the government's hand-wringing out of the way for now, another big question will be the upcoming fourth-quarter earnings season, Mills says. So far, analysts are predicting ho-hum 3.3% growth during the quarter, says S&P Capital IQ.
Yet valuations on stocks still reasonable at 14.8 times reported earnings and the government standing by to stimulate the economy, so there is reason for optimism. "The odds are clearly on investors' side," Sandler says.