SO 2010 is over and the leading strategists have published their views on the outlook for financial markets in 2011.
With few exceptions, their prognosis is good. For the world as a whole, most see another year of solid growth with a better balance between the Emerging and Developed economies. This view rests on two pillars: firstly the American recovery is anticipated to strengthen as a resurgence of capital expenditure translates into rising employment. Secondly, a so called “soft landing” is expected in the cyclically inflation-troubled BRIC (Brazil, Russia, India and China) economies – the key drivers of growth in the developing world.
Most strategists also see the systemic risks that have loomed over 2010 as much diminished. Specifically, Europe is muddling towards at least a temporary solution to the sovereign debt crisis, while the other key point of friction, the Yuan/Dollar rate, is expected to receive some lubrication after the 12th Five Year Plan is approved by China at the National Peoples Congress in March.
With this rosy preamble, the stage is set for another year of corporate profit growth in all key regions – even if margin pressures (driven by commodity costs and the new capacity additions as the cycle matures) mean that the increase will be much more modest than the past year.
Against a backdrop where risky assets continue to be priced very cheaply relative to “risk free” assets, this picture is logically one where globally exposed “blue chip” equities should once again have a good year. The outlook for bonds is more divergent. Some strategists see sharp falls in sovereign bond prices (rises in yields) as the recovery takes hold and inflationary fears become more widespread. The more sanguine view is that there are no real worries here, since in the West (where any risk lies) excess capacity and deleveraging will combine with direct intervention to support prices.
We do not have any real quibbles with the broad picture outlined above (we are possibly on the more positive side of the bond view). However at this time of the year, even if we do not wish to challenge the consensus, we enjoy speculating as to the potential “surprises” the upcoming year could bring.
At the top of my list of developments that would be a surprise to most markets watchers, but which have at least an outside chance of occurring, is the possibility that Europe is the best performing region in 2011. This could happen for a number of reasons, but one catalyst would be the “surprise” that there is a cathartic restructuring of peripheral eurozone debt that it is welcomed.
Second on the list of “most surprising possibilities” would be that commodity stocks underperform financial stocks, particularly those in developed markets. This would occur if the monetary authorities in emerging economies were a little “heavy on the brakes”, or else because the recovery in the West is stronger than forecast.
Other “outside bets” include a Dollar resurgence and – the perennial favourite – Japan outperforming emerging markets. Both of these deserve a mention as much for their contrarian value as for a strong underpinning rationale.
None of the above are our forecasts, but thinking about them helps to temper any inclinations to follow the herd too closely. The greenest grass often lies elsewhere.