Taking stock of the financial markets at the end of this year, the picture is far more encouraging than in the real economy. Practically all asset classes – with the exception of cash – notched up significantly positive returns. Up among the leaders were German equities; in the year to date the DAX recorded an increase of almost 30%. But a portfolio with European or US equities also raked in more than 10%. Emerging market stock indices also saw double-digit increases. Exceptional returns were were also seen on longer-term corporate bonds. For medium-grade bonds (BBB, 7-10 years) European indices in some cases notched up gains of more than 20%, for longer-term top-grade corporate bonds (AAA, 7-10 years) gains were around 10%.
Even the longer-term government bonds of the “safe havens” Germany and USA generated a return of 7% and 5% respectively, thanks to a further decline in the yield level. With a broad portfolio of longer-term EMU government bonds, including a sizeable chunk of Italian and Spanish bonds, actually managed to generate a return of well over 10%.
Such a uniformly positive correlation of investment returns across various asset classes as this year is seldom. As a result, we think that a similarly uniform annual performance in 2013 is hardly to be expected, even if – as we deem likely – a moderate, largely inflation-free global economic recovery sets in.
Next year the world economy is likely to grow by 2.7% after 2.3% this year. For the USA we are penciling in a GDP increase of around 2%. In most emerging markets such as, for instance, China and Brazil, the economy will regain momentum. The eurozone will probably gradually crawl its way out of recession. But average growth in 2013 will be only marginal.
Political risks still linger – not least the policy approach in countries with upcoming elections. This could trigger fluctuations on the financial markets, however we think it likely that the European debt crisis will no longer keep the markets on tenterhooks on the scale it has to date.
With the debt crisis gradually receding, flight into the “safe havens” of German and US government bonds is likely to ease, tending to push up yields in these markets. However, both the Fed and the ECB can be expected to stick with their ultra-loose policy stance, above all leaving key rates unchanged. With short-term rates close to zero, there is little room for a rise in yields on longer-term bonds. We expect yields on 10yr German and US government bonds to climb merely into a range of 2-2½%. Such an increase in yields would result in a slightly negative investment return.
With the expected economic pickup, equities remain attractive. In addition, as a result of the investment plight, i.e. the shortage of low-risk investments with a decent return, riskier assets such as equities almost inevitably move more into focus if one wants to generate a sustained return above the rate of inflation. However, looking at the stock market outlook for 2013, it should be borne in mind that most stock markets rose strongly at the end of 2012 and experience shows that the trend in shares is not a one-way street upwards. All in all, we expect to see moderate increases of 5 to 10% in most stock indices in the course of 2013. On stock markets in the emerging markets, where performance in recent years has been subdued when measured against the buoyant economic growth, we see a potential return of more than 10%. Stock markets are, however, particularly susceptible to shocks. Individual risks are not predictable. In particular, an eye should be kept on:
- Fiscal cliff in the USA
- Geopolitical tensions in the Near and Middle East as well as between Japan and China.
The risk premiums on European corporate bonds, and particularly on medium and low-grade paper, have fallen sharply in the course of 2012. In the USA they fell slightly. Against this backdrop, the potential for further declines is likely to be limited. Given the slight increase we are penciling in for German and US government bonds, corporate bond yields can be expected to drift sideways. The return on corporate bonds would be more or less in line with the coupon. The outlook for emerging market government bonds is similar. Risk premiums fell sharply in the course of 2012, curbing the prospects of further declines. However, we do not expect to see a broad rise in the yield level here either, but rather with a sideways movement.
At the end of 2012 broad-based commodity price indices such as the CRB Index are more or less at the same level as at the start of the year. The same goes for crude oil prices. In the course of 2013 the economic pickup we expect to see could trigger rising commodity prices. The high liquidity in the financial sector, spawned by expansionary monetary policy, would also suggest this. On the other hand, commodity market price levels are fairly high when one considers the current economic situation. We therefore expect only a moderate upward trend in commodity prices in 2013.
In general, given the turmoil of recent years and unstable and shifting interactions between the markets, the uncertainties attached to the financial market outlook are considerable. Our moderately optimistic outlook has both upside and downside risks. Black swans can blow things off course at any time.