You’d Better Sit Down for This: Thomas Lee Sees Stocks Soaring in 2012

By Steven Russolillo

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J.P Morgan permabull Thomas Lee is at it again, issuing a note this morning offering eight reasons to be “contrarian” in 2012. And by contrarian, of course he means uber-bullish. What else would you expect?

Lee has a well-documented history of offering extremely bullish calls. He did have one bearish take a few years back. Of course that came during the grand market bottom in March 2009. Ouch.

Most recently he slashed his 2011 S&P 500 price target in late November from 1475 to 1350, saying it would be a challenge for stocks to surge so quickly into year end. The S&P 500 has rallied 9% since he cut his view. His initial forecast for 2011 was 1425, which he raised to 1475 in the spring. Barring a miraculous turnaround, the S&P won’t come close to either of those targets, and is still a far cry from his lowered target, too.

“2011 is a year most investors would like to forget,” Lee said. Despite the Japan earthquake, Arab spring, Europe’s debt crisis and the U.S.’s credit downgrade, “surprisingly U.S. equity markets are flat for the year,” Lee said.

He attributes this year’s market action to the economy’s resilience, strong corporate earnings and “severe” undervaluation of stocks.

Without further ado, here are Lee’s eight reasons to be optimistic next year:

1. J.P. Morgan Fixed Income Strategists are constructive for 2012 on High Grade, High Yield, MBS, ABS, and CMBS. Given equities are the junior piece of the capital structure, this is positive for equities.
2. Consensus is cautious about 2012.
3. The J.P. Morgan base case is for the Euro crisis to abate by 2H12 with Europe potentially exiting recession by mid-year. Historically, equities have bottomed 6- 9 months ahead of a return to growth.
4. EBIT margins should expand 100-150bps in 2012, bolstering net profit margins by 60-90bps to 10%, setting a new high for profit margins and driving 2012E/2013E EPS of $105/$110.
5. Corporates are likely to ramp up total cash return by as much as $250bn in 2012. For the past five years, corporates have represented 97% of the incremental inflows into equities.
6. U.S. housing should see a further advance in its recovery in 2012, driven by expanding household formation rates. Vacancies are at five-year lows and other factors are also supportive.
7. The 2012 U.S. election cycle should be positive for equities. Stocks have historically done well when an incumbent has had low approval ratings going into an election year (positive returns in seven of eight years).
8. China entering selective easing cycle sets the stage for a Cyclical upturn in EPS.

Lee puts a 1430 price target on the S&P 500 for the end of 2012. That represents about a 16% gain from recent levels. He also has the beaten-down financials as his top pick for 2012.

Bold call: Financials are the S&P 500’s worst-performing sector this year, down 20%.