U.S. equities are the cheapest major asset class and the benchmark Standard & Poor's 500 stock index will rise 20 percent in 2011, veteran money manager Martin Sass said on Tuesday.

I remain very positive about the market. Our target is 1,470 through year-end 2011, Sass, the founder of M.D. Sass, said at the Reuters 2011 Investment Outlook Summit.

We think investor skepticism has kept people rather conservative in their expectations for the economy and we think overly so. So we think there will be positive surprises in terms of earnings growth, which is what happened this year and we think will happen again next year for the overall market, Sass said.

Sass's firm manages approximate $7.5 billion across equity and fixed income asset classes. The total equity portfolio at the firm is up 14.2 percent year-to-date versus 10.2 percent on the S&P 500 <.SPX>.

The growth in equities will come even if U.S. economic growth is sluggish, Sass contends. That is because corporations are sitting on piles of cash and will start spending it on plants, equipment or mergers and acquisitions. They are also using the money to buy back shares.

People are obviously looking at slow growth in GDP ... and they say slow growth, subpar recovery, ugly for equities. What I look at as the more important driver for equities is corporate profits and cash flow and balance sheet strength. So when you look at the corporate profit recovery, we are in a v-shaped recovery. We are not in a sluggish recovery, he said.

On U.S. equities, where the S&P 500 forward price to earnings ratio is around 13.3 percent, Sass believes they are the cheapest major asset class out there.

A year ago, Sass forecast the S&P 500 closing 2010 at 1,250. On Tuesday the index was up 0.45 percent at 1,228.59.

SECTOR STRENGTH

Sass remains bullish on many of the areas he identified last year.

Energy services, in particular oil drilling companies, remain a top pick for Sass, as are generic drug makers and gambling machine manufactures.

Among his top picks in energy are Halliburton , Devon Energy Corp , Cameron International Corp and Baker Hughes Inc .

China's demand is soaring. The emerging countries alone over the next five years will account for about 90 percent of the increase in demand for energy. Regulation is less onerous overseas, Sass said.

He called Devon Energy extremely undervalued at its current price. It was trading at $74.02 on Tuesday.

Generic drug makers remains another area of growth, he said, citing the patent cliff many companies face. One blockbuster drug, Pfizer's Lipitor cholesterol fighter, comes off patent in November of next year.

Watson Pharmaceuticals Inc. , McKesson Corp and Mylan will benefit from the patent expiration.

Sass, however, is steering clear of the banking sector for the time being, and said he has sold shares in the sector.

We're concerned about issues in the banking industry...liabilities they face may exceed expectations, he said.

One pick though that remains and has been increased is insurer MetLife Inc .

AVOID

Investors who poured cash into government bonds seeking a safe haven are going to find their portfolios are shrinking as a result of higher bond yields.

Sass said he expects benchmark 10-year U.S. Treasury yields to rise to 4 percent by the end of next year, saying: The bull market in bonds is over, in U.S. Treasuries especially.

The 10-year yield rose to 3.07 percent in midday trade on Tuesday. In October it hit a low yield of 2.38 percent.

In addition, he expects the price of oil to rise to $100 a barrel by the end of next year.

Crude oil was off 72 cents at $88.66.

(Reporting by Daniel Bases; Editing by Leslie Adler and Andrew Hay)

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