The Curious Investor: Who expects to see Dow run to 20,000?

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A worker at the CBOE S&P 500 options pit yells and celebrates at the closing of U.S. markets Thursday, August 4, 2011, in Chicago. The S&P 500 Index closed -60.27 (-4.78%), and the Dow Jones Industrial Average closed -512.76 (-4.31%). | John J. Kim~Sun-Times

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Updated: January 22, 2012 1:48PM

Around these precincts, portfolio manager Christopher Channer will forever be known as the “Dow 10,000” man. Channer, proprietor of Channer Investment Management in Inverness, correctly called in the pages of the Chicago Sun-Times when the Dow Jones industrial average would first cross 10,000.

It first hit that level in 1999, exactly when Channer said it would during an interview published nine years earlier. At the time of the article, the Dow was nearly 2,800, so his prediction struck some as kooky.

But to him, it came down to assumptions about earnings growth and how the market trades on those earnings. There is no magic dust or computer program to see the future.

“I could probably go up and down the street and draw a crowd by talking about Dow 20,000. But there’s no mystery about it,” he said. “I’m just particularly aware from experience that you can do a couple of mathematical calculations” and arrive at an informed guess.

So, since the subject has been broached, when does Dow 20,000 get here? Channer figures it will take about five years.

He reasons that the Dow probably will trade at an average price-earnings ratio of 15.4 over that period, a conservative estimate for something that swings like a pendulum. Then he calculates a 30 percent increase over that period for the earnings of the Dow’s 30 stocks. The Dow members are estimated to generate $1,000 in earnings this year. A 30 percent increase takes it to $1,300. Multiply that by 15.4 and you are at Dow 20,000.

Can those blue chips meet that growth pace? Channer said that even for stocks’ “lost decade” following 2000, corporate profits grew substantially. In a note to clients, he said IBM (IBM), a Dow stock, made $4 per share 10 years ago, vs. a projected $14 a share this year.

Express Scripts (ESRX), a pharmacy benefits manager, went from 40 cents a share to an estimated $3 a share over the same period, Channer said. He also highlighted Illinois Tools Works (ITW), up to a projected $4.40 a share from $1.68 in 2002.

Channer is a steadfast apostle of established companies that are growing steadily but trading cheaply. It’s his way of exploiting the greed-or-fear pattern that can rule everyday trading.

More people need help in looking beyond market cycles, Channer said. It puzzles him that today’s homebuyers understand they are getting a good deal from depressed prices, whereas stock investors are seldom so positive in bear markets.

As for his Dow 10,000 prediction, the joke is that the Dow seemed to have “crossed” that psychological point about 10,000 more times during the sideways trading of the “lost decade.”

“The Dow got to 10,000 probably quicker than it should have,” Channer said. “But I was younger then and maybe a bit too enthusiastic.”

OF BONDS AND BULLS: Many market observers have grown old waiting for the bond market to lose its bounce. The thesis of the bond bears is always the same: Inflation is overdue and is certain to puncture bond prices. Will that finally happen this year?

It could if U.S. economic growth improves and Europe works out its financial trouble. A prudent response would be to dial back on investments in Treasuries, as the yield on the 10-year note is less than inflation.

Some experts say better values can be found in corporate bonds, even those that are lower rated. And some contend that municipal bonds, a top-performing sector in 2011, will have another great run this year.

Remember that unsettling prediction a year ago by analyst Meredith Whitney that municipal defaults will be rampant? As Harvey Rowen, chief investment officer at Starmont Asset Management told MarketWatch.com, “We want to thank Meredith Whitney for a rise in California bonds in 2011. The selloff last year drove prices down and then no one defaulted.”

Newsletter publisher Mark Hulbert, also writing at MarketWatch, said top-rated munis are better deals than Treasuries. He suggested buying munis and shorting Treasuries of comparable maturities, a strategy that can be followed using exchange-traded funds.

CME BLOTTER: The disciplinary hearings at Chicago exchange owner CME Group (CME) periodically show how traders can get creative with electronic markets.

In a ruling posted Friday, CME fined Charles Martell, a non-member trader working for a firm, $80,000 and banned him from its markets for 18 months. His offense, the exchange said, was in rapidly entering buy and sell orders for Nasdaq 100 futures to confound other firms’ algorithmic trading strategies and benefit himself.

CLOSING QUOTE: “There is some significant traction in the labor market. There is beginning to be some consistency and some acceleration in the U.S. economic numbers. Once we get through the first quarter, you should get a big spike in Treasury yields.” — Richard Gilhooly, interest-rate strategist, TD Securities, as told to Bloomberg News