Stocks Soar, but Many Analysts Ask Why

The unemployment rate remains locked in a range that recalls the economic doldrums of the early 1980s. Housing is stuck in a ditch, with foreclosures rising. And consumers are still reluctant to part with the little cash they do have.

Yet the stock markets are partying like it's 2003, when hiring was brisk, real estate was booming, wallets were fat -- and the major stock indexes started a four-year rally that would double their value and push them to new heights just before the financial crisis hit.

Judging from stock prices alone, one would think the economy was poised for a roaring comeback. But the federal government plans to unplug the economic life-support programs that stimulated production, kept interest rates low and placed a thick cushion under the real estate market.

Some analysts see ample reason for caution in equities, with many economists, including those at the Federal Reserve, forecasting tepid growth in the near term.

"The market is as overvalued now as it was undervalued a year ago," said David A. Rosenberg, chief economist and strategist for Gluskin Sheff, an investment firm. "There's a very high degree of complacency."

The incongruity of it all can be seen clearly in an analysis of price-to-earnings ratios, a gauge of how expensive stocks are relative to their performance.

Ratios in the Standard & Poor's 500-stock index are hovering about 13 percent above the average since 2005; a year ago, they were about 40 percent below the average. That suggests that investors are betting on robust earnings through the end of the year, a view that many economists do not embrace.

"The stock market has priced in a bit more than what we've got so far," said Jeffrey A. Hirsch, editor of The Stock Trader's Almanac. "We're due for a pause."

Recent rallies have been narrow, with a modest number of stocks reaching 52-week highs even when the broader market surged. There is a sense in some corners that stock prices will decline: investors are betting more on stocks' falling now than they have since July.

Mr. Hirsch, citing historical patterns, predicts a 20 to 30 percent dip in the markets before they can climb again. The Dow Jones industrial average is more than 60 percent above its lows a year ago, flirting with 11,000 for the first time since the onset of the financial crisis, though it remains more than 3,000 off its prerecession peak.

The S.& P. 500 is up nearly 75 percent from a year ago, and the Nasdaq is up nearly 90 percent.

The first part of this year had glittering reports on fourth-quarter earnings and mildly upbeat news on economic indicators like retail sales and orders for durable goods.

In response, the broad-based S.& P. 500 has climbed 4.6 percent this year. Autos, consumer electronics, regional banks and home builders -- all losers in 2009 -- have led the way. Banking stocks, which drove much of last year's rally, continue to surge, with many regional banks up more than 40 percent.

Even during some of the stock markets' better weeks, jitters have seemed to lurk just beneath the surface. The Dow rode a rare eight-day winning streak this month, but trading was light and day-to-day gains were small, casting doubt on the significance of the uptick.

During much of the financial crisis, traders clung to bond funds for safety. But as the appetite for risk has returned, investors have begun snapping up stocks: over the last several weeks, new cash has poured into American equity funds at a brisk pace, and mutual funds have shown particular strength.

Many market participants expect the momentum to continue, with stocks ending the year 10 to 20 percent higher. While few expect strong economic growth this year, investors believe that the recovery is intact and that earnings will continue to grow.

"A lot of people believe the government will just keep pumping money into this," said Doug Roberts, chief investment strategist for Channel Capital Research.

There are signs that some of investors' optimism may be excessive.

Interest rates, kept at historical lows by the Fed during the financial crisis, are starting to rise because of the flight from bonds and concern over rising debt, particularly that of the United States.

Standard mortgage rates hovered near 5 percent last week after auctions of seven-year Treasury notes were met with weak demand, sending yields higher. A sustained rise in interest rates would crimp growth by making borrowing more expensive for consumers, businesses and governments. It could also attract some investors away from equities and into bonds.

Another concern is the nation's intractable unemployment rate, which has hampered consumer spending and worsened a foreclosure crisis in the housing market. Employers are still not adding jobs, though the rate of job losses has declined in recent months, raising hopes that a turning point is at hand.

Consumer confidence has improved modestly from its low a year ago, but spending is still weak.

Some clarity may come to the market on Friday, when the government releases its monthly snapshot of the labor market. Forecasters expect the data to show 200,000 new jobs, with the unemployment rate holding steady at 9.7 percent.

When first-quarter earnings results begin trickling in next month, investors will be looking for signs that companies have put cost-cutting behind them and strengthened revenue.

"We've managed to at least temporarily suspend the financial crisis," Mr. Roberts said. "The question now is, 'You've gotten past the first act; what's the encore?'"