Asset returns in 2012 will be positive but most likely modest. The first half of the year will remain tricky and will be similar to H2 2011, as equity markets are set to remain range bound and volatile. The two major debates surrounding the state of the global economy and the fate of the eurozone will continue to dominate. For the second half of the year, there are reasons for optimism and I expect a more positive environment.
While not a vintage year in return terms, 2011 certainly will be remembered for its various geopolitical shocks and macroeconomic events. The first half was noteworthy for the Japanese earthquake and the Arab Spring uprisings, and the second half was dominated by the eurozone debt crisis and by fears of an economic double dip in the global economy.
For 2012 my expectation is that asset returns will be positive but most likely modest. The first half of the year will remain tricky and will be similar to H2 2011, as equity markets are set to remain range bound and volatile. The two major debates surrounding the state of the global economy and the fate of the eurozone will continue to dominate. For the second half of the year, there are reasons for optimism and I expect a more positive environment where equity markets rise to higher levels, supported by positive fundamentals from valuation and earnings. Fixed income markets should experience a trickier year and core sovereign bond markets are set to produce negative returns.
In making these forecasts, my three core assumptions remain:
- The global economy will survive the mid-cycle slowdown of recent quarters and we will NOT see a double dip recession.
- A “disaster scenario” for the eurozone will be avoided.
- China will avoid a hard landing in its economy. I expect growth to continue to slow but from very high levels of 10% to around 8%.
Difficult first half of year
The early months of this year will be difficult for equities.
The eurozone crisis is far from over and we are very likely to see a further bout of turbulence as a result, with Spain and Italy’s very heavy financing schedules in the first quarter being a possible catalyst. Eurozone economic data should weaken as a result.
But there are potential problems elsewhere as well. The markets will remain anxious about a “hard landing” for the Chinese economy, while banks globally will continue to de-leverage hence dampening activity, and earnings expectations will need to be revised downwards in line with slower growth figures.
Second half to be more positive environment.
As we proceed through the year a number of the risks events mentioned above will diminish. Neither economic nor earnings growth will suddenly “stop”, and the economic cycle will continue. The key support of markets remains in place, i.e. the strength of company balance sheets. Companies remain healthy and generally have very strong cash balances to deploy into merger and acquisition activity, dividend increases, or share buybacks.
Central banks will remain market friendly and I expect that emerging market central banks will loosen monetary policy, as inflation ‘rolls over’, giving central banks much more scope to ease. And in the eurozone, the recent funding facility for banks announced by the ECB is a very positive development.
Importantly, as we enter 2012, commentators are predominantly cautious and investor positioning globally appears to be neutral at best. This is actually a positive indicator for investors, indicating that many investors are already underweight their neutral benchmarks and therefore have limited scope for further selling, so there is plenty of scope for contrarian investors to be quite optimistic on this basis.
At Kleinwort Benson Investors, we continue to analyse all these fundamentals and to manage your portfolios accordingly. The market environment we envisage will require continued active portfolio management taking into account reward and associated risk.
At regional level, after a challenging 2011, emerging market equities provide a very attractive opportunity. At stock selection level, we will continue to emphasise companies with strong fundamentals, i.e. balance sheet, cash flow and management. Investing in companies with higher than average and growing dividends was a winning strategy in 2011 and I expect this to continue. Company management will continue to provide strong leadership through their actions - leadership that seems to be lacking in the political arena.