Volatility will still accompany us for the next few months. The recovery will be modest but visible. But there is an air of re-rating. And it's not so strange to think that European equities are playing the revenge. After a 2012 overall better than expected but difficult to interpret, 2013 presents the conditions to be positive. The metaphor most used by analysts to describe 2013 is the tug of war between the positive aspects and the risks. Who will be able to throw the handkerchief in their own half? Let's see what the forecasts for 2013 are from the experts and the advice on how to move.
RUSSEL INVESTMENTS, INVESTORS TOWARDS RISKY ASSETS
Volatility will remain high throughout the year but the scenario is moderately positive thanks to some signs of a global recovery, mainly driven by the growth of the American and Chinese economies. This is Russell Investments' view for 2013. Volatility will instead be supported by the tug of war between deflationary austerity and inflationary monetary policies within the Eurozone. The recovery will be modest but still visible.
In this scenario, with real interest rates in negative territory, investors are looking for a real return on their investments. In light of the dynamics of the American recovery, with the prolonged impacts of the Great Recession and Federal Reserve interventions, Russell predicts that the effect on investors will be to push them away from traditional safe havens and towards riskier assets. “Given that only positive real returns build wealth, investors are forced to grapple with the question of how to obtain them in a context of lack of returns. This daunting task pushes savers towards riskier assets and therefore we continue to advise our clients to proceed with precise objectives and with a clear strategy”, says Pete Gunning, global chief investment officer of Russell Investments. “For investors, this means paying attention to every detail of portfolio management. We believe that geographical diversification will have to be pursued on a constant basis, given that the economic center of gravity will be variable.
As traditional investments remain flat, alternatives may be considered more than in the past. Similarly, volatility, while it can bring stressful conditions to markets, can be a source of opportunity for dynamically managed multi-asset portfolios."
These are the main forecasts for the year:
– US economic growth of 2,1% in 2013, which will rise to 2,5-2,75% in the second half of the year.
– US core inflation at 1,9% for the medium term.
– 10-year US Treasury yield at 2,15% by the end of 2013.
– Current indicators don't suggest a crash since tax cliffbut rather to slow fiscal tightening.
– Cyclical recovery of the Chinese economy with an increase in GDP of around 8% in 2013.
– The situation in the Eurozone will remain unchanged, grappling with the ongoing tug-of-war between austerity and growth.
In this context, for Russell, the US stock market could close 2013 with single-digit growth, albeit high. GDP and a slight drop in the equity risk premium given that catastrophic scenarios are less likely”. The forecast for the Russell 2013® Index is at a target of 1000 at the end of 830, which represents an increase of 2013% from 5,8 points at the close on December 784,5, 7.
FIDELITY, DIVIDEND SHARES STILL INTERESTING
In practice, 2012 proved to be a positive year for the markets, but for investors, 2012 was also particularly difficult to interpret. In fact, there have been numerous moments of uncertainty, accompanied by high volatility that has not spared any asset class. For Fidelity, 2013 will see a significant and synchronized expansion of the central bank balance sheet. “In the era of quantitative easing what, until a few years ago, was considered unconventional has now become common practice - says Dominic Rossi, CIO Equities of Fidelity Worldwide Investment - Yields on government bonds will probably remain low, i.e. negative net of inflation, encouraging investors to seek positive returns by focusing on assets with the ability to generate income”.
However, for Fidelity there are three risk factors to consider:
1. Without a favorable settlement of the tax cliff the United States would go into recession, dragging the global economy with it.
2. The crisis in Europe, which although it has taken a positive direction thanks also to the intervention of the ECB, could undergo further waves of instability if the political conflict in the peripheral countries were to radicalise.
3. The evolution of the geopolitical situation in the Middle East, with particular regard to Iran.
"In this context, while not free from factors of uncertainty - notes Rossi - a revaluation of the shareholding is by no means to be excluded, above all if some of the still unresolved issues were to approach a favorable outcome". Typically, Fidelity notes, a rally in stocks can be driven by earnings growth or multiple expansion. The optimism in this sense therefore comes mainly from share valuations, contained compared to historical data.
“In recent years, the equity sector has in fact undergone significant outflows – continues Rossi – so much so that the presence of institutional investors is currently at its lowest level in the last 30 years; equities have not been very popular lately and therefore there is ample room for a trend reversal”. In addition, volatility has decreased, although not yet overcome. “Since 2008 – explains Rossi – the volatility measured by the VIX index has often jumped beyond the threshold of 20% and it is encouraging that since July 2012 the VIX has instead dropped. For 2013 there are concrete possibilities for a revaluation of the shares. If, as expected, government bond yields remain low and below inflation, investors seeking positive real yields will continue to favor asset more profitable with the ability to generate income”.
In such a context, for Fidelity, shares that distribute dividends undoubtedly represent an interesting opportunity in terms of total return. Regionally, emerging markets have higher growth rates and higher-yielding currencies that can attract significant capital inflows. The issue of currency appreciation will grow in importance in emerging countries, given that the central banks of developed economies are implementing a synchronized expansion of their monetary policy.
In particular, according to Fidelity, the Chinese economy is well positioned to rebound in 2013: inflation is under control and the exchange leadership it has now concluded, opening the door to a more accommodating policy. The market expects growth rates of 6-8% and Chinese equities should benefit as economic and political uncertainties have dissipated.
As far as developed markets are concerned, dividends in the order of 3-4% are to be expected in Europe (with the exception of the financial sector where the distribution of dividends has in many cases been suspended). “The financial statements are solid – comments Rossi – the sustained cash flows, while i payment ratio are reduced and, therefore, there is room for an increase. Combining dividends with estimated growth the total return can reach the attractive level of 7-8%, which should encourage further fund inflows equity income". Finally, the United States could represent an interesting investment in the event of a favorable resolution of the tax cliff. The residential real estate market is recovering and consumer confidence is also improving, notes Fidelity. But not only. “In the energy market, the United States could become the largest producer of oil and gas thanks to shale reserves (shale) – says Rossi – not to mention that the significant drop in production prices can only benefit many other sectors, from the chemical industry to engineering”. Here, stocks in the healthcare, technology and consumer goods sectors remain interesting.
ING, EUROPEAN SHARES BETTER THAN THE USA
The risk of witnessing market shocks has not disappeared, but 2013 also has positive potential for Ing. However, much will depend on trust. “The upside potential – says Ing – is clearly visible but investors may not benefit from it due to the low level of confidence”. In particular, given that earnings growth will be weak, equity market performance will be driven by valuations. Dividends, however, assures Ing, are not at risk. Furthermore, emerging markets are improving and a hard landing of China is not expected. The country will remain at constant levels, with growth of 7,6% on 2012 and 7,8% on 2013. For 2014, however, a slowdown to 6,5% is expected. Looking at emerging markets as a whole, overall GDP growth is estimated to be 6%, up from 5,4% this year. World GDP is expected to increase in real terms by 3,3%, compared to the estimate of 3% for the end of 2012. A slight reduction is expected for the United States, from 2,2% at the end of 2012 to 2% of 2013. For the Eurozone it will go from -0,5% this year to +0,3%, while estimates for the United Kingdom see the end of 2012 at +0,1% and 2013 at +1,3% .
“The forecasts for 2013 seem like a tug of war between the positive dynamics, linked to accommodative monetary policy measures, and the frictions triggered by fiscal policies and deleveraging in the private sector – explains Valentijn van Nieuwenhuijzen, Head of Strategy at ING Investment Management – the markets are still very volatile and the imbalances make the economy very sensitive to shocks. But let's remember that the possibility of shocks has always been a characteristic of the markets and therefore investors must take advantage of the cyclical phases". But investor confidence is low and therefore for Ing many of them may not take advantage of the upside potential that we believe is very evident. And in the US? “The data on the residential market is improving, as is the construction sector – says van Nieuwenhuijzen – However, we are recording confusing situations, such as those on the job market or on the decline in business investments. Given that the trend of purchases of durable goods is much more difficult to reverse than the decision to hire a new workforce, the current situation could be read as a real cut in expenses or as a very rational expansion”.
In any case, the estimates of bottom-up analysts for Ing are excessive. They predict double-digit earnings growth. In contrast, ING's top-down estimates point to earnings growth of less than 5% in the US and close to zero in the Eurozone.
“For 2013 we see a slowdown in earnings, but fortunately companies' balance sheets are in good health. This element, combined with the context of low interest rates, could lead to an increase in investments, especially in M&A activity and in spending on durable goods (capex), provided however that there is a return to a climate of greater confidence - says Patrick Moonen, Senior Equity Strategist at ING Investment Management – We also expect an increase in buy-backs and higher dividends. Specifically, for the next two years, we see dividend growth of around 3,5% in Europe and 6% in the USA”. For Ing, the risk premium will remain high, especially in Europe, even if the differential with respect to the United States does not reflect the different risk dynamics in the two areas: for this reason, European equities are preferable to those from overseas, while emerging markets are regaining interest (especially Brazil, Russia and Turkey). At the sector level, ING is positioning itself towards an asset allocation more oriented towards cyclical sectors due to the improvement in economic data, in the profits of companies in these sectors, in relative terms, and also because valuations are more attractive compared to defensive ones . For 2013, the performance of equities is expected to be close to double digits.
SCHRODERS, RE-RATING IN EUROPE AND RECOVERY OF M&A
While central banks have helped reduce sovereign risk in Europe, investors are still fearful and the equity risk premium remains close to all-time highs. But, Schroders points out, while many areas of fixed income appear to be in bubble territory, expectations for European equities are already very low. “For example – explains Schroders – the 2013 forecasts on profits in Europe are 40% below the 2007 peaks, while in the USA profit expectations are 10% ahead of the 2007 peaks. While the risk of a split in the Eurozone is less , we should start to see the risk premium come down, which offers a significant re-rating opportunity in 2013 and beyond.”
Ratings are key. And today they are close to historic lows. The Graham & Dodd price-to-earnings (P/E) ratio (c 13x) is close to a 30-year low. If an investor had bought Europe at a p/e ratio of 13 or below at any point in the past 30 years, the expected return over the next 12 months would have averaged 20%. However, Schroders points out, this does not mean that returns will be 20% in the next 12 months because European equities have already started to re-rate from last summer's lows but that at current entry levels the expected returns are interesting. Even in comparison with the other markets, Europe trades at a significant discount: at a p/e of 12,8 compared to 23,8 for the usa and 20,4 for Asia Pacific excluding Japan. "Historically, Europe has traded at a discount to the US for a variety of reasons - explains Schroders - and although we do not think that the gap will close completely, we expect convergence, although we expect relatively low economic growth".
For Schroders there is no shortage of companies to invest in: among the best companies in the world that offer good growth prospects but which trade at depressed valuations compared to global competitors only because they are domiciled in Europe. This is why 2013 should also be the year of recovery of Mh&A activity. Schroders notes expectations were for more buoyant M&A activity as early as 2012, given strong corporate balance sheets and cash on hand, S&P 500 companies sit on $1,2 trillion in cash – we've seen signs of a recovery such as UPS's offer on TNT which saw the former pay a 50% premium on the share price. But risk aversion has stalled many of these potential deals. Now with the normalization of the situation in Europe, also thanks to the intervention of the ECB, 2013 should bring more deals.
