Perhaps the greatest surprise in this environment has been the resilience of the US stock market, which rallied from a September low to close the year at almost the same point at which it started. However, the world index fell nearly 8% over the year, with only one country producing positive returns (Ireland!) and only the US, UK and New Zealand outperformed the world index.
Ireland – a success story
At a sector level there were few that posted positive returns, the exceptions being healthcare, which posted a 10% return, and oil & gas at 2%. In the UK the story was similar, with consumer goods and telecoms also posting positive returns of 9% and 4%, respectively.
Looking ahead, I still think that equities are good value on a variety of different measures, including cyclically adjusted ones. Relative to other assets, particularly government bonds, they remain my favoured asset class.
Also, certain economic factors, particularly in the US, look to have bottomed out and could lead to greater levels of confidence and higher prices. The interest rate and inflationary environment remains positive and although Europe will doubtless dominate the short-term moves, much of the focus will remain on external, not fundamental, factors.
There is an opportunity to invest at levels consistent with strong positive returns on a medium to long-term basis, but expect volatility to continue, characterised by the risk-on/risk-off moves seen in 2011.
In the past year defensives have outperformed cyclicals and quality has outperformed value. In 2012, quality will continue to do better than value and that cyclicals will do better than defensives. Having global diversification will also be key to mitigating risks. We could see a strong rebound in Europe and emerging markets if politicians can come up with a viable European solution and we avoid a recession.
Bad news priced in
Forecasts for global growth are mixed. Many commentators are still looking for a double dip when others, like me, are more positive. In my view we will avoid recession and in that environment equities can start to recover the lost ground from last year. They are currently discounting significant amounts of bad news, so any positive growth will allow quality companies to perform.
If 2011 taught us anything it must be that no one can control the macro environment. Trying to predict economic outcomes, when we simply don’t understand what impact the current strategies deployed by central banks and politicians will have, is pointless and we resign ourselves to making the same mistakes if we ignore history.
JK Galbraith commented: “There are two types of forecasters: those who don’t know, and those who know they don’t know”. I have always been in the latter camp, so I’ll continue to try to avoid making specific predictions and focus on looking for investment opportunities in quality companies that will perform throughout the economic cycle.
