Reasons to be bullish as growth picks up
“Improving economic momentum and the prospect of further central bank monetary support should benefit equity markets,” says Luca Paolini, chief strategist at Pictet Asset Management.
“We continue to overweight equities, with Japan now our favoured market. We have moved Europe back to neutral in the wake of Russia’s financial turmoil.
“Developed economies are showing a broad-based recovery and emerging economies have improved for a second consecutive month, a phenomenon we have not seen since early 2013.
“Economic momentum continues to be strong in the US, where the decline in oil prices is boosting retail spending. We expect that the US Federal Reserve will raise interest rates in the third quarter of 2015.
“In the euro zone, whilst we see some stabilisation in economic momentum, we see many risks: disinflationary pressures from declining oil price, Greece’s political uncertainty and the impact of financial turmoil in Russia. We expect the ECB to start buying sovereign bonds during the first quarter to stop inflation from falling further and boost growth.
“Growth in Japan, meanwhile, is picking up; consumer spending is holding up particularly well. Prime Minister Shinzo Abe’s election victory has removed political uncertainty, which is positive for financial markets.
“Economic momentum is generally positive in emerging markets, thanks to weak currencies, a decline in oil prices and a pick-up in external demand.
“Chinese economic momentum remains weak, but should recover next year thanks mainly to accommodative central bank policies and an improving property market.
“The picture is less favourable in other emerging markets, and is particularly bleak in Russia and energy-related economies. The prospect of a credit crunch in Russia in 2015 is a risk as international sanctions are restricting Russian companies’ access to global capital markets. We would not say that the risk of a 1998-style default in Russia is high, however as the country has become a significant net creditor to the world.
“In terms of our regional allocations, the case for investing in Japanese stocks has become even more compelling following Abe’s decisive win. Valuations also look attractive, particularly in light of the recent improvement in corporate earnings.
“Shifting Europe back to neutral from overweight reflects our belief that the region is the most exposed to the crisis brewing in Russia which has been hit by a double whammy of falling oil prices and Western sanctions. If the rouble’s collapse plunges Russia deeper into recession, the ripple effects will be felt in the euro zone, its largest trading partner.
“Although this risk overshadows European equity markets for now, the asset class could at some point draw support from a further loosening of the monetary reins at ECB; a weaker euro and lower energy costs may also support corporate earnings over the medium term.
“The risk that Russia’s economic woes spread to emerging markets is more limited, even though many are grappling with similar problems. We remain neutral emerging market stocks.
“US equities are very expensive and therefore we retain our underweight stance.
“In terms of our sector exposure, we maintain a cyclical tilt but prefer sectors that stand to benefit from a pick-up in consumption rather than capital spending.
“In fixed income, meanwhile, the government bond rally following Russia’s failed attempts to stem a rout in the rouble has pushed debt yields to record lows in many developed markets. Hence, we remain underweight. We also remain underweight investment-grade bonds
“We continue to favour both local and USD denominated emerging market debt. Valuations for local currency emerging market bonds are increasingly attractive – currencies in particular.”