Moving Forward to the New Normal
ECHO FROM THE ALPS | 1/2014
January 2014 Investment Update & Outlook
By Daniel Zurbrügg, CFA, Alpine Atlantic Global Asset Management AG
First of all, we would like to wish all our readers a very happy New Year and all the best for a happy and healthy 2014. The year 2013 is behind us and for financial markets it was certainly better than many had expected. At the same time last year, the outlook for the global economy and for financial markets was highly uncertain. Systemic concerns, the sovereign debt problems in many countries, caused a lot of volatility in global financial markets. While the sovereign debt issues as well as other problems have not gone away, the outlook for the global economy, and with it the outlook for financial markets, has improved in the course of the last twelve months. The strong performance of global equity prices, especially in the second half of 2013, caught many people by surprise but in our view this can be substantiated by the improving economic outlook and the continued expansionary policies by central banks around the world.
There has been a lot of speculation in recent months about “tapering” by the Fed; meaning when and by how much the central bank in the U.S. is going to raise rates in an attempt to normalize monetary policy. The initial result of this discussion was a rather strong increase of longterm interest rates in the U.S., however, the talk about higher interest rates certainly did not prevent stock prices from moving higher. In fact, U.S. equity prices even climbed to new all time highs toward the end of the year. In our view, the current policy of many central banks in the world defines the “new normal” and going forward we can’t see any change to the rather generous support by the central banks. The United States, Europe as well as Japan are all in the same situation in the sense that growth is low, debt is high and inflation is not a concern. Actually, it seems that central banks are much more worried by deflation these days. In the old days, central banks’ main priority was to achieve price stability. In the meantime most central banks have stated that they will have certain inflation targets going forward, this is indeed a very significant change that might also have far reaching consequences on global financial markets.
Financial markets in 2013 saw a strong advance in equity prices. This was especially evident in the U.S. but in fact equities performed well in most major markets. In sharp contrast to equity prices, precious metals saw a steep drop in prices, with gold and silver falling by around 30 percent. After a long winning streak, precious metals saw their second negative year in a row.
That is surprising, especially considering the “new normal” in terms of central bank policies and the longer-term implications that this might have on inflation. Short-term, the steep drop of prices can be explained by a rotation from precious metals to stocks with fast moving “speculative” money leading the way in switching to equities. In our view, one of the most important developments took place in currency markets where the U.S. Dollar gained ground versus most major currencies, except the Euro. 2013 presented a very unique situation for currency markets. With the sovereign debt crisis in Europe and the announcement of the Bank of Japan’s QE program, the incentive for investors to hold Euros and Yen was very low for most of 2013. This created a situation in which a lot of capital was parked in U.S. Dollars short-term, therefore pushing up the value of the Dollar as well as giving extra support to U.S. equities and bond markets. The rather strong underperformance by emerging markets also confirms this development. We believe this situation is going to reverse in 2014.
For 2014 we remain very positive for equities, especially in the first half of the year and we expect international markets to outperform U.S. equities. We see a lot of good opportunities in European and Asian markets. With more capital flowing to international markets, we expect the U.S. Dollar to remain flat or even slightly weaker in the coming months. In 2013 a couple of special factors were supporting the greenback but this is over now. The biggest risk for the Dollar in our view is that we get a better than expected revival of global growth in 2014, which would cause more capital to flow away from the U.S. Dollar. In such a case we could even see some more significant downside potential. We continue to be less positive for bond markets. Despite the fact that we are not yet seeing any sharp upward moves in yields but given where yields stand now, they can only move up from here. The risk/ reward profile for bonds is not appealing, we only see opportunities in some global bonds, where the currency component could deliver some additional returns. The hardest call in our view is on how gold and silver prices will develop in 2014. After two years of sharp price corrections, we feel that we are not too far away from a very solid price floor. We wouldn’t rule out seeing lower prices again in coming weeks but we do not anticipate a sharp correction and therefore see prices in a relatively narrow range for the time being. We continue to recommend a certain allocation to precious metals for long-term strategic reasons; in our case this is around 10-15% of portfolios right now.
We hope you enjoy reading our investment update and again we wish you all a very happy and prosperous New Year. Download it here.
With the very best regards from Switzerland,