Looking back on 2012, investors could well be forgiven for being perplexed at the investment outcome for the year. Investment assets across the spectrum have performed well, in spite of a global economic slowdown and even recession. Elsa Buchanan talks to banks spread around the globe to access where and what investors need to be doing after the New Year.
"It has been like Groundhog Day," says Royal Bank of Canada (RBC) wealth management head of investments, British Isles, Tracy Maeter.
That was 2012, during which investors were overwhelmed with downside risks, low interest rates and inflation worries – not to mention political uncertainties in the Eurozone and the US.
"With our base case economic forecasts calling for a zero GDP growth in the Eurozone, sub trend growth in the US and UK and deceleration in emerging markets growth rates, this pattern is likely to continue through 2013," she explains.
But for some, more optimistic, analysts "2013 will be the Year of Transition".
This transition trend is favoured by Standard Chartered Bank’s chief investment strategist (CIS) Steve Brice. "We move from a very volatile, policy-driven backdrop to a more normal environment by 2014."
Analysts are looking to 2013 as a "marginally" better year, with growth expected to strengthen and more importantly, tail risks to recede, but they all generally agree that any recovery will be sluggish and fragile.
In 2012, analysts concur, there has been a disconnection between what advisers have been recommending and what investors have been doing.
Equities market were the right place to be in 2012, according to Brice, but "given the fear factor, people have generally been steering clear of equities."
Brice says investors have been very reluctant to enter the market, despite extremely low valuations, especially relative to government bonds.
Looking forward, analysts’ consensus is also that the likely picture for 2013 is receding tail risks which will encourage people to gradually add risk to their portfolios.
While RBC’s Maeter recommends that clients have an "all weather" portfolio that is well diversified across asset classes and stay with their strategic objectives throughout the investment cycle, HSBC Private Bank UK head of investment strategy Willem Sels advises a move to real asset investments for investors to see rewards:
"The recovery turnaround, coupled with some of the political uncertainties behind us, should encourage investors to take more interest in real, higher yielding assets such as equities."
He adds that safe haven bond markets — which have been propped up by the impact of the last round of quantitative easing (QE) on an unprecedented scale and are today expensive — could disappoint investors as perceptions on inflation and growth change in the coming months.
Bank of Singapore chief investment officer Hou Wey Fook adds that with tepid and somewhat uncertain global growth and low interest rates, investors will find it increasingly frustrating to hold on to cash and government bonds.
According to research by Bank of Singapore published in their investment strategy report 2013, investors are actually worse off in purchasing power terms when they hold cash and US 10-year Treasuries, with cash actually giving a real yield of -2%.
Even now, US treasury bonds are returning historically low yields, says Fook, "Add inflation into the equation, and you will see that holding cash or government bonds appears even more unattractive."
The Great Rotation
Although talks about the ‘Great Rotation’ have been doing the rounds – as investors collectively selling their bond holdings to buy equities – OCBC’s Fook says investors shouldn’t worry about a widespread panic selling of bonds just yet. "At least for next year," he notes.
Indeed, at the time of writing, the yield gap is sitting at 5.3%, showing equities are still trading at a large discount to bonds. Since 1970, the yield gap has only reached 6% three times (during December 1994, February 2009 and September 2011).
But despite what vigilantes call the ‘bursting of the fixed income bubble’, the risk of rotation out of fixed income into equities is not expected to make a dramatic entrance, says Fook.
He says there is still a lot of excess liquidity in the market, and as investors shift positions, cash will be directly deployed to buy new equities: investors will be unlikely to sell their bonds when they are receiving higher recurring coupons over cash.
Fook also adds that for a widespread selling of bonds to take place, inflation expectations have to increase significantly.
But with economic growth still below full strength, inflation expectations are still well-contained, currently set between 2.5% and 3% in the US, according to Bank of Singapore data.
Coutts’ UK chief investment officer Alan Higgins also agrees the bubble is not ready to burst, but says global central banks policies look set to follow the trend in 2013 and derail the bond market, gradually.
This might leave many fixed income investors exposed to the prospect of lower returns, and in some cases negative returns in the long run, he says.
"Broadly, the more upbeat investment landscape will see us adding risks to certain areas, such as equities…while at the same time trimming more defensive holdings such as gold and bonds," he adds.
Emerging markets are starting to grow, freeing up after the stasis in developed markets.
"Global trade is picking up," says Merrill Lynch Wealth Management Chief Investment Officer for Europe, the Middle East and Africa (EMEA) Johannes Jooste, referring to growth in emerging markets.
Research by consultancy PwC estimates Indonesia’s GDP growth will hit 6.2% in 2013 compared to 5.9% in 2012, along with South Africa set to be at 3.3% next year compared to 2.3% in 2012.
Johannes Jooste says that Brazil, Mexico, Colombia and India could be favoured because of their political systems that attract legitimacy with leaders that are "credible", while RBC wealth management head of portfolio strategy, British Isles, Georges King says investors should rethink or refocus on expected fast growing countries such as Mexico.
Although Brazil still had positive view for its GDP growth in H1 2013, it will not exceed 5% in 2013 and keep set at 4.2% from 1.7% in 2012, says Merrill Lynch’s Jooste.
And with an overvaluation of the Real and its commodity exporting economy tied to global economic conditions, analysts wonder if Brazil’s internal economy — that generally demonstrates robust growth regardless of global economic conditions — will be able to sustain its growth.
Analysts say that although foreign bonds tend to be more of a short term investment, 18 months in some cases, they should still be of interest in 2013.
"After two substandard years we expect emerging markets to make a comeback," comments Coutts’ Alan Higgins. As investors look beyond the current uncertainty and volatility to focus on a somewhat more optimistic outlook for 2013, eyes are turning to Asia-Pacific (APAC) for rewarding strategies, with compelling valuation levels and stable economic indicators.
And this seems to reflect on analysts’ advised strategies for early 2013: keep clear of Latin America and concentrate on Southeast Asia.
A disciple of this theory, RBC’s Maeter, is confident that the shift of wealth to the East and rate of wealth creation in the APAC region will push investors to consider "a suitable level of exposure to tap into this growth story".
HSBC is drifting towards China, where William Sels says the economy is "starting to improve", Merrill Lynch is adding India to its list and Coutts suggests Japan deserves a look.
Coutts’ CIO Higgins explained he saw Japan as a potential developing investment theme of 2013 and beyond, and although the country is in the middle of a structural downturn, he says Japanese equities "can deliver some outsized returns when excitement about reform builds."
And with the Liberal Democratic Party (LDP) winning Japan’s snap election, leader Shinz? Abe is likely to be the new Prime Minister.
The man has already made clear his intentions to push the Bank of Japan toward more aggressive QE and weaken the yen.
Higgins adds that past periods of yen weakness have led to good absolute returns for Japanese equities (under LDP Prime Minister Junichiro Koisumi in 2001-2006, a 20% drop in the yen was followed by a 70% recovery in the equity market).
China’s pick up
The view on China is less clear. Investors doubts continue to linger for a while, as Steve Brice explains.
"For China we doubt we will see any major shift in short term policies from an economic management perspective, and with its economy recovering gradually, we expect the authorities to adopt a watch and wait approach to economic stimulus."
According to WealthInsight analyst Christopher Rocks, China’s economic recovery gained ground in November as industrial output and retail sales growth hit eight-month highs, while current fiscal and monetary policy continues to support economic activity.
How Xi Jinping, Gthe new leader of China’s Communist Party and expected next head of state (March 2013), will act in power remains unclear, says Rocks.
"There are concerns that the Chinese growth model is running out of steam and that tough decisions will need to be taken in order to maintain the high levels of growth China has seen for the past three decades," he adds.
Thus far there are no tangible signs that Jinping will tackle the difficult economic reforms that economists say are needed to promote growth and rebalance the economy towards a more domestic focus.
Though Rocks warns that increased unrest could loom if corruption remains unchecked, China’s growth rates are projected to pick up from 7.7% in 2012 to 8.1% in 2013 according to Bank of America Merrill Lynch Global Research.
Merrill Lynch Wealth Management’s Jooste adds that China’s increasing number of young people driving a rebalance from investment and exports towards a consumer class economy, and a newly elected leadership under Xi Jinping is enough for investors to consider China as a future allocation centre.
And with India’s anticipated GDP growth rate to be set at 6.9% in 2013, compared to 5.6% in 2012 after a problematic year for investors in the country, it comes as no surprise that investors are looking East.
According to WealthInsight data, China was home to 48.8% of the total number of high net worth individuals (HNWI) in the APAC region, while India boasted 9.6% of the wealthiest Asian individuals, topping Hong Kong, South Korea, Singapore or Taiwan (with 7.0%, 6.0%, 5.7% and 4.5% respectively).
Chartered Standard’s Brice and Coutts’ Higgins are advising investors to look at China, Korea and Thailand because of Korea’s cheap valuations, its strong technology sector and exposure to China’s growth story, and smaller countries like the Philippines, Malaysia, and Indonesia in Southeast Asia where higher growth is estimated to come through firmer domestic demand.
With more stimulatory policies being pursued by both the Thai government and Central bank, the country seems more attractive than ever (see Time for Thailand? on facing page).
Looking West, HSBC’s Willem Sels says that although global economic recovery remains too slow to get excited about, "for investors there maybe good news out of Europe and China."
Indeed, Europe’s less negative growth outlook "should mean that it no longer acts as a drag on the global economy," and with a reduction of Eurozone breakup risk, the region’s slightly improved numbers should support markets.
Wels adds, "That marginal improvement…should lead those stocks to outperform the global index, especially in light of still attractive valuations."
RBC wealth management’s George King agrees: "Europe’s trouble doesn’t mean Europe is not investable," adding RBC was not looking at the Eurozone as "a systemic risk" anymore.
He says that when the EU is defined as an entity called the ‘Eurozone corp’ (the Eurozone corporation), the region is weak but on a more macro scale, some EU companies are considered big enough to flow over the difficulties and "are still making growth".
HSBC advises to focus on the US equity market as a key overweight in 2012, saying "we believe that focus should be broadened to include European markets but we continue to like the US market."
While Higgins is confident the US fiscal cliff will "have less of an impact than pessimists believe … despite near-term concerns, our views remain that negotiations will untimely be resolved," Steve Brice confirmed Standard Chartered’s main concern was the fiscal cliff.
"We believe this could go down to the wire and risk short term market weakness," he says, but doubts investors will be talking about either the fiscal cliff or debt ceiling past the first quarter of 2013. (See US country research p12-13).
Banks are clear that the investment climate is starting to pick up with risk-on being a common theme. Convincing clients not to repeat the inertia of 2012, could be a bigger challenge than managing investments in 2013.
Time for Thailand?
Thailand has been one of the surprise countries to be singled out for focus by investment strategists in 2013.
In a country where it is customary for its people to change their name to improve their fortune, the number of ultra high net worth individuals (UHNWI) has reached 527 in 2011, according to research by WealthInsight.
Almost 90% of its UHNWIs were based in Bangkok, or 455 in 2011 compared to 314 in 2007, representing a 45% increase in UHNW for the city between 2007 and 2011.
Standard Chartered chief investment strategist Steve Brice says the country is going to be a main driver of growth and the leading indicators are starting to pick-up while liquidity conditions are easing.
"We like Thailand, given the more stimulatory policies being pursued by both the government and the central bank," says Brice.
Coutts is also encouraged by a rebalancing of emerging market growth toward Southeast Asia and Thailand, which has "recently contributed a greater share of emerging market growth," says CIO Alan Higgins.
Analysts say that as long as its government stabilises its public spending budget, without rising its budget deficit (which was equal to 1.5% of the country’s GDP in 2011, according to Trading Economics),Thailand’s growth expected through firmer domestic demand, and increasing numbers of HNWI and UHNW in the Kingdom, could well become a new asset allocation centre in 2013 and beyond.
But despite increasing wealth numbers, the EIC, the Economic and Business Research division of the Bank of Thailand (BoT), revised its 2013 GDP growth projection downward to 4.6% from 5% in October 2012.
The BoT said risk factors lying in the global economy could have some negative impacts on Thai domestic investment in 2013, while domestic demand would be driven by the "strength of private consumption, and public spending that would pick up paces in the second half of 2013."
In spite of the BoT’s projections, Thailand’s Fiscal Policy Office estimated the Kingdom’s economic growth next year to be set at 5.2, with a baseline forecast of 5.5%, assuming public investment projects would move forward as planned.
The country’s government, led since 2011 by Prime Minister Yingluck Shinawatra, responded to global economic downturn by implementing Keynesian economic stimulus packages.
Coined Thai Khem Khaeng ("Strong Thailand"), the set of expansionary fiscal policies comprise a short-term ‘SP1’ (with packages including an unconditional THB2,000 ($65.31) cheque handout, an unconditional THB500-a-month ($16.32) allowance for the elderly and professional training for the unemployed) and a medium term stimulus called ‘SP2’ (including investments in the infrastructures of various sectors through construction and procurement).