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Both the Dow Jones Industrials (DJINDICES: ^DJI ) and the S&P 500 (SNPINDEX: ^GSPC ) finished March at new all-time record highs. But with the first quarter of 2013 in the record books, the question investors need to ask is what will keep the bull market in stocks alive going forward.
Three key contributors have helped push the Dow to new highs, and they're poised to keep supporting the market. Let's take a closer look.
1. Interest rates will stay low.
Low interest rates have been the lifeblood of the bull market over the past four years. As much as lower rates have hurt savers, they have given corporations a chance to refinance debt and obtain more capital very inexpensively. Highly rated blue-chip stock Microsoft (NASDAQ: MSFT ) tapped the bond market last November, finding investors willing to allow it to borrow money for five years at a rate of less than 1%. Less creditworthy companies haven't gotten rates that low, but they've nevertheless been able to refinance existing debt at lower rates than they were paying before.
Low interest rates have already had the effect of cutting interest expense, helping profitability and boosting margins. Although yields have perked up a bit lately, concerns about the global economy should lead the Federal Reserve to keep monetary policy easy for a while yet. That will give companies some chances to extend their cheap borrowing and keep the earnings that have helped push their stock prices up.
2. Dividends will keep increasing.
More than anything these days, investors appreciate income. The consequence of low interest rates is that investors have increasingly looked to stocks to provide the income that bonds, bank CDs, and other traditional income investments haven't delivered lately.
So far this year, a number of Dow stocks have raised their dividends, and if past patterns hold true, then consumer giants Procter & Gamble (NYSE: PG ) and Johnson & Johnson (NYSE: JNJ ) should come through with dividend increases of their own in the next month or two. Similar increases have happened with thousands of stocks throughout the market over the past year, and all indications are for those gains to continue. If they do, then it will support the market's moves to new records.
3. Investors will chase performance.
Historically, most ordinary investors have bad timing with their investment decisions. Millions of investors got out of stocks only after the worst of the financial crisis had hit, suffering big losses but missing out on the subsequent rebound. Only now are they starting to come back into the market, seeing record highs as an all-clear sign that it's safe to buy stocks again.
Performance-related buying of stocks has been muted in recent years by strong performance of bond investments, which reaped the benefits of falling rates through capital gains on their value. But those gains came at the price of dramatically lower yields, squeezing income. Now, even the smallest move upward in bond yields has sent prices of bond funds downward, showing investors that even the safety that bonds offer still has potential to cause losses in their portfolios. That realization should only bolster the push that record highs will have on investors to get into the stock market.
Watch for the bull to continue -- for now
These three factors all point to continuing strength for the stock market in the months to come. Eventually, pressures on interest rates will probably be the first of these factors to turn unfavorable, and that could spur a more substantial correction. By following these three factors, you'll have an early warning system that could help you anticipate a market downturn before it happens.
For now, though, investors have jumped aggressively on every minor drop in share prices as a buying opportunity. As long as alternative investments offer such puny returns, they're not likely to look anywhere else.
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