In my 29 years in the investment business, I’ve harbored the notion that the lofty institution I love, the Stock Market, is at times perceived as if it were a single word: Stockmarket. Here’s what I mean by that:

When the Stock Market morphs into the Stockmarket, it’s a time when macroeconomic issues, such as economic cycles, credit conditions, and interest rates, matter most -- usually for the worse in performance. In contrast, when it’s simply the good old Stock Market, fundamentals such as earnings (which we think ultimately drive stock prices) are what count -- usually for the better.

To be sure, thus far in 2010 we’ve seen both the Stock Market and the Stockmarket.

From January through April, the Stock Market prevailed. As companies ended 2009 with record levels of free cash flow and the global economy continued to advance steadily, first-quarter earnings per share of the S&P 500 Index companies were up a whopping 57% from a year ago. As a result, by the end of April the S&P 500 Index had gained more than 7% for the year-to-date.

Then the Stock Market, alas, became the Stockmarket. In May investors began to obsess about several macroeconomic issues: the sovereign debt crisis in Europe; China’s efforts to rein in its steamroller of an economy; and the United States’ stubbornly high unemployment, drooping consumer confidence, and weak housing market. All of these issues, it was feared, might lead to a double-dip recession in the U.S. The notion of the Stockmarket was further reinforced by the awful TV pictures of oil gushing out of the Deepwater Horizon well in the Gulf of Mexico and anxieties in the public and private sectors about the adverse consequences of massive federal health-care and financial reforms. With fundamentals taking a back seat to macroeconomic worries, the S&P 500 Index dropped about 16% from its near-term peak on April 23 to its low on July 2.

So will we encounter the Stock Market or the Stockmarket going forward?

Currently the earnings season -- companies reporting second-quarter earnings -- is in full swing. And the earnings news has on balance been encouraging, to put it mildly. About 300 of the S&P 500 companies have released their earnings to date, and about 77% of them have beaten Wall Street analysts’ estimates, according to Thomson Reuters. That’s the highest percentage of positive earnings surprises since Thomson Reuters began compiling the data 16 years ago. Earnings per share have risen an average of 35% year-over-year, compared with a rate of 27% that was expected by analysts just a few months ago. And companies aren’t just reporting better profits, but three out of four of them are also beating revenue targets as well.

In response, the S&P 500 has rallied 8% from its July 2 low to July 29. So dare we hope that the Stock Market is surfacing again? Well, maybe and maybe not. Our sense is that many investors believe that once the earnings season is over, once all the impressive earnings are announced, the Stockmarket will come to the fore. In other words, investors will grimly resume their preoccupation with macroeconomic matters like Europe’s government debts, China’s slowing economy, and what Federal Reserve Chairman Ben Bernanke recently described as the "unusually uncertain" U.S. economic outlook.

For our part, we think the Stock Market may win out and command center stage for an extended period. As we see it, the perception of macroeconomic conditions is worse than the reality of those conditions. If perception changes for the better, it may help concentrate investors’ minds wonderfully on the favorable fundamentals for the rest of the year. Of course accentuating the positive is always difficult when investor sentiment is largely negative, when investors find it difficult to keep their heads when all about them are losing theirs. Forbes magazine characterized current investor sentiment as "battered investor syndrome" -- a form "of slow psychological torture that can eat away at your confidence and your portfolio. . . . It makes you want to just sell stocks and curl up in a fetal position."

But before you curl up in a fetal position, we would like to point out three things:

First, Europe is commendably addressing its sovereign-debt problems head on. For instance, the European Central Bank is buying securities from banks, a stabilization fund amounting to 440 billion euros has been established for the International Monetary Fund to use as bail-out money, and a "stress test" of 91 banks in 20 European countries revealed that they had the means to absorb hundreds of billions of dollars in potential losses. In the meantime, Germany, Europe’s economic dynamo, increased its gross domestic product more strongly than expected in the second quarter, to more than 1.5%, according to the magazine Der Spiegel. What’s more, industrial orders are pouring into Germany, and unemployment there is projected to fall below 2.8 million by fall, the lowest level since 1991. Also, well-subscribed bond auctions have been held in Spain, Portugal, and Italy, and the euro is strengthening.

In our judgment, those who equate Europe’s debt problems with the financial crisis of 2008 fail to recognize a crucial difference between the two. When Lehman Brothers failed in September 2008, it was a complete surprise, a trauma that helped trigger a near-collapse of the global financial system. The European credit crisis, on the other hand, has scarcely been surprising; it’s been the most talked-about, most analyzed, and most widely anticipated financial development of the past 12 months. In light of the constructive steps that have been taken and continue to be taken, we think it’s unlikely that Europe’s debt problems will deteriorate into Financial Crisis 2.0.

Second, the Chinese economy, the world’s third biggest, is still going strong. China’s gross domestic product has slowed from an 11.9% annualized rate in the first quarter to a "mere" 10.3% in the second quarter, The New York Times reported. To us, that’s robust growth by any measure -- growth that’s still plenty strong enough to help prevent the global economy from lapsing into a double-dip recession.

In essence, China is tempering its torrid rate of economic growth in an effort to ward off inflation and cool off an overheated property market. Most economists view that slowdown as necessary. Over the past three decades China has successfully managed its economy, and we think China should continue to do so. We agree with a Standard Chartered Bank analyst who observed that investors "have a kind of Jekyll-and-Hyde attitude toward China. Either it is booming and saving the world, or it is collapsing and taking the world with it." We think the Chinese economy should avoid gravitating between those two extremes and account for one-third of global economic growth this year.

Third, although the U.S. economy is in fact slowing, employment is starting to improve, housing appears to be bottoming, capital spending and inventories continue to revert to normal levels, and consumer spending is growing at about a 3% annualized pace. As such, we consider the recent signs of economic sluggishness nothing out of the ordinary. For one thing, there are always mixed economic signals, even during the most booming of boom times. For another thing, signs of sluggishness have been prevalent at the same phase of past economic recoveries.

For instance, The Wall Street Journal noted that after rebounding from a recession in late 2001 and early 2002, the economy had a 12-month stretch in which it grew at a paltry 1.5% annual rate, sparking fears of a double-dip recession. And in late 1991, growth slackened after a recovery had started. In contrast, in the past 12 months, the economy has gotten off to a faster start than in 2002. And the consensus of economists surveyed by the Journal is that the economy will grow 3% annualized in the second half of the year -- a rate not exactly spectacular, but hardly catastrophic, either. And we project that the global economy should grow by at least a 4% annualized rate in the second half, led by emerging nations such as China, India, Indonesia, Taiwan, and Brazil.

So net-net, the backdrop for stocks is not altogether bright, but we think it is brightening. In general, the issuers of stocks are in fine shape financially. For instance, U.S. companies had $1.8 trillion in cash and other liquid assets at the end of the first quarter, up 26% from the previous year, according to the Federal Reserve. They are starting to put that cash to work: they are acquiring other firms (worldwide, $1.2 trillion of deals were announced in the first half of 2010), they are buying back their shares, and they are raising their dividends. As noted, their earnings continue to exceed expectations. And last but not least, their shares trade at a price/earnings multiple of about 12 times next year’s earnings, a level about 30% lower than the historical norm.

So exactly how will the Stock Market manage to transcend the pessimism that seems to be the U.S. attitude du jour?

In early July The New York Times, in an opinion piece entitled The Pessimism Bubble, noted these aspects of a rather sour national mindset: "The Pew Research Center found that less than half of Americans expect their children will enjoy a higher standard of living than their own. Economists are throwing around phrases like ‘lost decade’ and ‘double-dip recession,’ and drawing analogies to the Great Depression. And those aren’t even the real doomsayers. On Sunday, the Times profiled the market forecaster Robert Prechter, who’s convinced that the stock market is headed for a sell-off that will send the Dow Jones average below not 10,000, but 1,000."

However, the Times went on to make this critical point: if America is indeed in the throes of a pessimism bubble, that bubble will inevitably burst. When things get dark enough, people start believing the dawn will never come. But it does. And the more all of us cultivate a balanced perspective about the economic and investment dark and dawn, the better the chances that the current pessimism bubble will pop.

What a balanced perspective tells us about stocks, for instance, is that investors may be passing up an exceptional buying opportunity when they shun a stock like Intel. On May 15, Intel Chief Executive Officer Paul Otellini said that the company would double its earnings per share over the next five years, which we think could inspire a doubling of Intel’s stock price. In the meantime, investors are being paid a dividend of 3.2 % per year as they wait for Intel shares to appreciate. We think the prospects are similarly auspicious for other major U.S. corporations like IBM, Caterpillar, Cisco Systems, Hewlett-Packard, EMC, Amazon.com, and JPMorgan Chase.

So we say: stock investors of the world, unite; you have nothing to lose but your pessimism. The economic future, while challenging, shouldn’t be nearly as dire as you may fear. We believe that in 2010 stocks and the fundamentals have the potential to reconnect as the Stock Market, not the Stockmarket. While heightened pessimism can depress growth as companies put off investment and hiring, the effect historically has been only temporary, according to extensive studies by Stanford University’s Department of Economics, among others. In the past employment has bounced back as pessimism waned and subsequently fueled increased corporate investment. If that happens again in 2010, and if all the drab current macroeconomic issues are seen for what they truly are, as temporary, not permanent, problems; if earnings continue to rise at double-digit rates, as we expect; and if the global economy continues to expand, investors may overcome their pessimism and stocks in turn may overcome their first correction of this bull market. (For balance’s sake, we think it’s important to note that, as of July 29, stocks are still up 63% in this bull market.)

In short, we think stocks in aggregate could move into positive territory again and possibly generate a double-digit gain in the remainder of 2010. That would be more like the Stock Market I’ve come to know and love.

Sincerely,

Bob Turner
Chairman and Chief Investment Officer
Turner Investment Partners

Past performance is not a guarantee of future results.

The views expressed represent the opinions of Turner Investment Partners and are not intended as a forecast, a guarantee of future results, investment recommendations, or an offer to buy or sell any securities.

Turner Investment Partners, founded in 1990 and based in Berwyn, Pennsylvania, is an investment firm that manages more than $16 billion in stocks in separately managed accounts and mutual funds for institutions and individuals, as of June 30, 2010.

As of June 30, 2010, Turner held in client accounts 3.1 million shares of Intel, 68,030 shares of IBM, 2.5 million shares of Caterpillar, 14.6 million shares of Cisco Systems, 3,020 shares of Hewlett-Packard, 185,510 shares of EMC, 1.1 million shares of Amazon.com, and 1.4 million shares of JPMorgan Chase.