China: Anthony Bolton, portfolio manager, China Special Situations Investment Trust
The next 12 months should be a defining moment for Chinese investment when investors realise the economy is not about to collapse and the tightening period is over. We have been through an extraordinarily volatile year but I believe that when the dust settles and things calm down, investors will focus on relative growth rates they can get in different parts of the world. I feel very strongly that this will result in money flowing out of developed markets that have sovereign debt problems and very mediocre prospects over the next few years into the faster growing emerging markets like China.
I am not saying that China is not immune to a slowdown in the developed markets. The country’s growth rate will slow down but it will still expand by about 7.5% to 8%, which will be very attractive compared to the rest of the world.
Inflation has been a key issue in 2011 but it has already started to come down. A slowdown in inflation has allowed the Chinese authorities to stop tightening monetary policy. This should be positive for the markets. The speed and format of further loosening will depend partially on how the domestic situation develops from here and whether the developed world returns to recession.
Some of the other issues that investors in China have been focusing on are bank bad debts and falling residential property prices. There are some real challenges regarding potential future bad debts but the government has the financial resources to address these. The outlook for residential property in 2012 is poor. I also am more concerned about the uncertainty due to the important political changes that are due over the next 18 months and whether they will lead to a change in policy direction.
In terms of portfolio strategy going forward, I continue to be positive on the consumption and services sectors and remain underweight in exporters, commodities, infrastructure companies, banks and property companies. Consumption and services are not immune to any slowdown in China but I believe these are the areas with the best longer term outlook where structural trends favour them. Even with a slowdown in GDP growth, I expect these areas to outperform the general economy. If I am wrong about the world outlook, and a new recession were to commence leading to China embarking on another stimulus programme, these areas would likely be direct beneficiaries.”
Japan: Nick Gartside, manager of the JPM Strategic Bond Fund
We still firmly believe that the ‘road map’ from Japan presents a fantastic environment for fixed income assets now, and acknowledge that Japan is already 10 years ahead of many Western economies.
US: Leah Modigliani, multi-asset class strategist, Neuberger Berman
While investors could be in for a bumpy ride, we are generally positive on the prospects for the US equity market and the eventual return of fundamentals-driven performance.
As we look ahead to 2012, the economy, as usual, will be central to the health of the stock market. Unfortunately, economic data have been less than conclusive in gauging a clear course for recovery.
Consumer and business spending, manufacturing activity and other metrics have fluctuated from month to month, leading to shifting expectations by turn from expansion to contraction and back again.
However, two constants remain: elevated unemployment – recently at nearly 9% – and weakness in the housing market, which has had little momentum after dramatic declines in volume and pricing. These factors, combined with worries about global macro developments, have in turn negatively impacted confidence and consumption.
Still, we think the US economy has enough momentum to avoid a double-dip recession in 2012, and grow at a positive, even if subpar, pace. Among the factors that could potentially support growth are the sizeable cash holdings of many companies that have been hesitant to deploy capital in an uncertain environment.
If confidence improves, the increased use of this cash could augment GDP – as could a positive change in spending by consumers, who have been relatively conservative in their spending over the past several years. Even if the US falls back into recession – which we see as the less likely scenario – we think it would probably be relatively shallow, due to what we consider to be a lack of excesses in the economy.
In the housing sector, for example, construction starts, residential sales and home prices all declined dramatically for several years, and appear to have little room to fall further from today’s depressed levels. Corporations, having cut costs during the depths of the economic crisis, are operating leanly, aided by healthy balance sheets and inexpensive financing.
We believe default rates on company debt are likely to come in below average next year. Indeed, given modest inflation numbers and fears about the economy, the Federal Reserve’s monetary policy is likely to remain accommodative.
This monetary stimulus may be particularly important given that US budgetary pressures and political gridlock suggest that meaningful fiscal stimulus is unlikely to be put into place in the coming year.
Europe: Mark Wall and Gilles Moec, Deutsche Bank fixed income researchers
We believe the resolution of the euro debt crisis will remain the principal theme in 2012. All other themes are likely to be derivatives of the crisis, from the depth of the recession to national and regional political risks. Risks will be manifold from the start of the year. We think a smooth return to the new normal is unlikely.
We deem euro break-up as highly unlikely. But there is a challenge. The crisis of confidence has gone deep. Resolution now requires fixing the flaws in the design of EMU, correcting the mistakes made in fighting the crisis, and EU willingness to finance itself through the ECB, either directly or indirectly.
We do not think that the latest offering of enhanced credit support can by itself fully deal with the sovereign debt redemption wall of 2012. True, three-year LTROs may help in countries, such as Spain, where the causality of market concerns goes from banks to the sovereign. But we do not think it can be a silver bullet where the causality comes from issues with public debt sustainability, such as Italy, to banks.
We present our forecasts for deficits and debt in 2012 and 2013. We project forward public debt levels under simplified,conservative assumptions. Public debt stabilisation within a few years is not an unreasonable expectation. Italian debt dynamics are not discouraging. In fact, they would be positively encouraging if the structural reforms are delivered.
Structural reforms may be key to rebuilding confidence in debt sustainability. We quantify the potential impact of significant but achievable structural reforms on GDP growth of the eurozone peripheral countries.
