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Predicted Dow leap still stands

| Tuesday, March 25, 2014, 12:01 a.m.

One year ago, in this column and on CNBC television, I predicted that the Dow Jones Industrial Average will hit 25,000 in 2017.

Some people, including a couple of my own clients, thought it was an outrageous prediction. In my judgment, it isn't. I reaffirm it today, even though the stock market so far this year is a soggy swamp.

The Dow was near 14,500 when I made the forecast. It stands at about 16,300 now, after a 26.5 percent increase last year.

That was an unusually good year, to be sure. But people are still so traumatized by the economic crisis of 2007-2009 that they forget what a good market looks like.

In the past 25 years, the Dow has jumped 25 percent or more in a single year six times. It happened in 1989, 1995, 1996, 1999, 2003 and, most recently, 2013.

To reach my 25,000 target, the index needs to rise about 12 percent a year for four years, including this year. That would be better than average performance but doable.

I stand by my prediction, even though I wouldn't be surprised to see a 15 percent downdraft in the stock market sometime this year. It's been almost four years since the last such decline, in spring and summer of 2011.

Catalysts

The catalyst for such a decline could be Ukraine, Iran, Putin's Russia, the Fed taking a harder stance with the money supply, corporate profit disappointments, or any of a dozen other ill events — particularly ones that aren't expected, and therefore aren't on the list I just gave.

That's just the nature of markets. If profits were dependable, the stock market wouldn't be as rewarding as it is — the high return on stocks compared to bonds and bank instruments exists because investors need to be rewarded for taking risks.

The risks are real, but intelligent investors can usually ride out the downdrafts. In fact, it usually pays to do so.

Obstacles overcome

Consider this list:

• The Arab oil embargo

• The assassination of President Kennedy

• The resignation of President Nixon

• The impeachment of President Clinton

• The nuclear fallout issue in the 1950s

• The Cold War

• The Cuban Missile Crisis

• The AIDS crisis

• The Kent State shootings

• The Vietnam War

• The riots in Watts and Detroit

Those are but a few of the traumatic events of the past five decades. Throw in several recessions and several bear markets. Despite all this, the stock market has returned about 10 percent a year, including reinvested dividends.

I hope this recitation convinces some people that it is folly to wait until “the coast is clear” before investing. The coast is never clear. Investing in stocks is, nevertheless, usually rewarding over time.

Why 25,000

While a stiff downturn could occur this year or next, I think there are reasons to expect above-average returns the next four years.

Stocks are playing catch-up after a long period, from March 2000 through March 2009, when they produced worse-than-usual returns. The economy is playing catch-up, recovering from the financial crisis and recession of 2007-09.

Pent-up demand is driving a recovery in both the housing industry and the auto industry. These have been good sectors in which to invest during 2012-13, and I suspect they will remain good for a few years.

Among my holdings (personally and for clients) in those industries are NVR Inc. (NVR), a homebuilder; FlexSteel Industries Inc. (FLXS), a furniture maker; Carlisle Cos. (CSL), a small conglomerate that makes roofing materials; Magna International Inc. (MGA) and Lear Corp. (LEA), which make auto parts; and Cooper Tire & Rubber Co. (CTB).

Unemployment has declined, and employers in surveys indicate plans to step up hiring. As more people go back to work, aggregate demand will increase.

What to buy

One conventional asset-allocation formula is 55 percent stocks, 35 percent bonds and 10 percent cash. Of course, there are other asset classes: real estate, commodities, antiques, art works, precious metals, jewels and collectibles from comic books to sports memorabilia. Most people, however, stick to the traditional categories.

I think this is a time to go light on bonds, because interest rates are likely to rise in 2014-16, reducing the market value of previously issued bonds.

In the stock market, I would look for stocks selling for 15 times earnings or less, with debt less than stockholders' equity and with good profitability.

That could include shares in such large, well-known companies as Apple Inc. (AAPL), Brunswick Corp. (BC), China Mobile Ltd. (CHL), Coach Inc. (COH), ITT Corp (ITT), Eli Lilly & Co. (LLY), Mattel Inc. (MAT) and Microsoft Corp. (MSFT). I own Microsoft for some clients.

John Dorfman is chairman of Thunderstorm Capital in Boston and a syndicated columnist. He can be reached at jdorfman@thunderstormcapital.com.

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