Eurozone: Skating on thin ice in 2014 – Russell Investments
Growth rates need to meet expectations to validate market gains of 2013, Russell Investments’ 2014 outlook highlighted.
As investors look ahead to 2014 amid continued concern of low returns, Jeff Hussey, Russell’s global chief investment officer, said: “While the prospect of lower returns does not make us pessimistic we do see a challenge for investors when it comes to achieving a desired rate of return at a level of risk they can survive.”
Russell’s strategists highlight signs of economic healing in European and Japan, along with improved growth outlook for the US. This should keep equity markets moving slightly higher, with some fits and starts over significant policy changes in Japan and still a less than perfectly unified Europe, which will create occasional tension.
Whilst the team expects global equities to outperform cash and fixed income throughout 2014, a large portion of equity market gains made over 2013 could dissipate if growth disappoints and investors worry that monetary policy has reached its limits. Potential negatives include an outbreak of another crisis in Europe, or US policy makers’ failure to reach an agreement on fiscal policy. More generally, there is still the risk that growth in the developed economies fails to take hold, with businesses and household remaining cautious. Another risk for global equity markets could be a speculative overdrive, if confidence in the economic outlook takes hold and markets overshoot, as has happened in the past.
Andrew Pease, Russell’s global head of Investment Strategy, said: “We may be headed towards a low-return world, but this is not a ‘set and forget it’ year. In this climate, we feel top-down active management becomes more important because market over- and undershoots could provide opportunities for astute investors.”
Eurozone: Skating on thin ice
• Less austerity will provide a tailwind for growth
• The ECB will provide support where and when it can
• Valuations are still attractive relative to other regions
• Trade is turning into a formidable growth engine
As deflationary forces gather strength, some of the biggest concerns for the European market include; the weak condition of banks, their toxic connection to governments, and the negative impact on growth from a lack of credit.
However, reflationary policies in the form of less austerity and continued support from the European Central Bank (ECB) will play an important role.
Eurozone growth of between 0.5% and 1.0% is expected, alongside a gradual and modest recovery in demand, combined with less austerity and continued strength in trade across the region.
Russell’s EMEA investment strategist, Wouter Sturkenboom, commented: “2014 will be a year to remain invested given relatively attractive valuations, but not to just buy and hold. Weak banks are throttling an already weak recovery, and divergence between markets is elevating socio-political risk, as such investors should keep a close eye on developments and adjust allocations accordingly.”
However, Russell’s team highlights the ECB or European politicians will not allow a new banking crisis to emerge, following the upcoming ECB Asset Quality Review and bank stress tests. With respect to divergence, there is a growing concern of a divide between France and Germany, if France is unable to compete with Germany within the eurozone, it could turn against the EU.
US market outlook: Emphasis on validation over appreciation
• US economic growth of 2.9%
• Jobs gains that average 230,000 per month
• Modest inflation of just 1.9%
• US Federal Reserve (Fed) tapering to begin in the first half, but no rise in the Fed funds rate until late 2015
• US 10-year treasury yield at 3.2% by year end
• Modestly positive price appreciation for US equities of around 5% during 2014, depending on actual corporate performance.
In the US much of the current high value in equities stems from anticipation of better economic growth next year. In 2013, stock performance reflected the anticipation of positive growth for the following year, so continued gains are contingent on those expectations being validated.
Asia-Pacific: Strong internal growth dynamics in China and Japan
• Credible economic reform processes in both China and Japan
• Emerging Asia well-placed to leverage global recovery
• Australia’s “safe haven” status is fading
• Equity markets and hard-currency EM debt attractive
• Acceptable levels of economic, market and political risk
The Asia-Pacific region is well-positioned to leverage a global recovery, particularly, any uplift in global trade. Russell Investments notes both China and Japan are pursuing credible economic reform processes that, while not without risks, are running as expected.
Andrew Pease, Russell’s global head of Investment Strategy, added: “We do not see material risk to the 2014 GDP growth expectations of 7% to 8% in China, and in the case of Japan, expectations for growth of 1.6% look undemanding in light of the strong momentum in the Japanese economy.”
The risks to the Asian growth story in 2014 are “low” – in contrast to Europe’s “moderate” risk rating. However, key watch points include Japan’s bond market and policy actions tied to tax reform as well as potential challenges to the Chinese credit markets from rising rates and questions over loan quality.
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