Improving economic conditions during 2009’s second half will help boost equity prices higher, with stocks likely outperforming all other asset classes over the next 12 months, according to a release of Doll’s annual mid-year update and outlook for the economy and the financial markets.

Doll believes that stocks in the U.S. and most other markets are on track to post double-digit percentage gains this year, with U.S. stocks outperforming European stocks and emerging markets outpacing developed markets for all of 2009. Prospects for equities will depend largely on the pace and extent of global economic recovery, Doll noted.

Stocks Headed Sideways

In the weeks since the equity markets bottomed out on March 6, stocks have staged an impressive upward run, appreciating around 40%, Doll said. “The question is whether the rally represents the start of a longer-term return to improved market conditions, or more of a blip in a longer-term downtrend,” he said. “We believe the truth lies somewhere in the middle.”

Equities have entered a “sideways correction phase,” according to Doll. It is unlikely that they will retreat back to early-March levels, but a few modest declines are likely. “We will need to see some actual good news, rather than merely less bad news, before stocks can move higher,” he said.

Favored Sectors

Doll believes that the S&P 500 Index will reach 1,000 by year’s end, but also holds out the possibility of a near-term pullback before then that could take the index back down to the 800 to 850 mark (the index closed at 901 yesterday).

Over the long term, policy-induced reflation should win out over credit deflation, Doll said. “A great deal of investable cash remains on the sidelines,” he said. “For investors, 2009 and beyond is a time to be dollar-cost averaging out of safer assets such as cash and Treasurys and into higher-risk assets such as stocks, corporate bonds, and commodities.”

Doll’s favorite cyclical sector is energy, his favorite defensive sector is health care, and his favorite growth sector is technology. Altogether, Doll believes that by the end of the year, a basket of energy, health care, and information technology stocks will have outperformed utilities, financial, and materials stocks. “Financials have bottomed, but this sector will likely continue to lag as many financial companies experience balance sheet problems,” he said.

Doll affirmed that his January predictions for the year are on track (see “BlackRock’s Doll Predicts Good, But Not Great, 2009“). “At the year’s midway point, our predictions are in general looking pretty good,” he said. “The economy is improving, but still faces a number of risks. Volatility has remained high, but we expect to see double-digit percentage gains for stocks in most markets around the world as well as the US.”