After the floods in Australia, the earthquake in New Zealand and snowstorms in the USA, the spate of natural disasters culminated in an earthquake in Japan that unleashed a tsunami and caused an accident at the Fukushima nuclear power plant, which released radioactivity and radiation. However, these devastating natural catastrophes have had a minimum impact on the global economy because the labour market recovery has been so significant. It has translated into solid growth rates, especially in industrialised countries. Also when the US Federal Reserve opened the monetary flood gates and new fiscal policy stimuli were implemented, the mood of industry dramatically changed. On the other hand, dampening growth to achieve price stability without causing a hard landing in China is the greatest challenge the Chinese government faces. In EU countries, public attention mainly focuses on countries like Portugal, Spain and Greece; however, it is core Europe that determines strong growth. The Swiss economy is also performing well, despite the strong Swiss franc, which is partly due to the continuing strong growth in consumption and the booming construction sector.
Jan Amrit Poser, Head of Research and Chief Economist at Bank Sarasin
“The force of the upswing after the deepest recession in 80 years has surpassed all expectations. Nonetheless, it is becoming increasingly clear that the global economy needs to be put on a more consistent but lower growth trajectory after another year of exuberant growth. However, central banks in industrialised countries do not want to run the risk of exposing their economies to new shocks.”
Philipp E. Baertschi, Chief Strategist at Bank Sarasin
“Provided the acceleration in growth in the USA and Europe continues, arguments in favour of equity investments are likely to push the current risk factors into the background. We forecast significant upside potential for the equity markets in the coming months. Any corrections are likely to be brief and the uptrend on the equity markets should continue, at least until summer.”
Political unrest determines the outlook for the Gulf region
Paradoxically, the big Persian Gulf states stand to profit from the political unrest in North Africa. The continuing rise in oil prices will generate a spectacular amount of additional revenue for the Gulf states. On the other hand, the performance of the services industry, especially the financial sector and tourism, which the Gulf states have turned into a second mainstay in recent years, will differ greatly. Dubai is likely to emerge as the regional beneficiary of the crisis. Dubai suffered for a long time under the excesses of the boom years and the lack of financial transparency in many of its major property projects. The huge windfall from higher oil prices is boosting the medium term economic prospects of the United Arab Emirates.
Cooling economic growth in Southeast Asia
The powerful economic growth recorded in 2010 in the Southeast Asian economies is unlikely to continue in the next two quarters. We expect weaker growth until autumn 2011, similar to China. Inflation has increased significantly in many Southeast Asian economies due to the sharp rise in food and oil prices. This forces the central banks in the region to discontinue their low interest rate policy of 2009 and 2010. This has hit investments, which soared last year thanks to record-low interest rates and pent up demand from the credit crisis. Consumption has profited from the economy’s robust performance in recent years. However, sharply higher food prices and rising interest rates will cut consumers’ purchasing power. Regarding exports, weaker demand from China and Japan is likely to be partly cushioned by the stronger-than-expected upswing in the industrialised economies of the West.
Prospect of interest rate hikes
Aside from risk aversion, how central banks’ react to the unrest in the Arab world and the earthquake in Japan will play a very significant role for the bond markets in the next quarter. Consequently, central banks are likely to predict continuing high oil and food prices in a medium-term scenario. In industrialised countries, central banks will probably focus on inflation risks rather than growth risks. In the USA, inflation fears play a secondary role right now and in all likelihood, the US Federal Reserve will continue to focus on the labour market and refrain from raising interest rates just yet. The European Central Bank is expected to pursue a less expansive monetary policy. Due to the difficulties on the European periphery, key interest rates are expected to be raised only very gradually by one quarter of a percentage point in each quarter. Also, as the Swiss economy is so robust, nothing more stands in the way of the Swiss National Bank carrying out its first interest rate hike in June 2011.
Calming foreign exchange markets
The US dollar, the euro and pound sterling have dropped to record lows in recent weeks. But provided the US Federal Reserve adjusts its communication to reflect the improvement in economic conditions, the dollar is likely to recover. The depreciation of the euro in March was triggered by the heightened level of global risk aversion and not by the European debt crisis. European politicians have now decided to take concrete action in order to resolve this situation and, as a consequence, a fresh escalation of the debt crisis is much less likely. The developments surrounding the Chinese currency are also interesting: since the beginning of March, Chinese export companies can invoice or settle cross-border trade in the Chinese currency, the renminbi. Consequently, the significance of the renminbi in foreign trade looks set to increase in future. Broadly speaking, foreign exchange excesses are likely to normalise somewhat during the course of the year. In this environment, there will be less demand for safe haven currencies like the Swiss franc and the Japanese yen.
European equities have potential
The equity markets have responded to the recent emergence of risk factors with relative equanimity and have been in an uptrend since September 2010. A lasting stock market reversal – which is not expected – would only be justified if the rate of global expansion braked sharply (e.g. due to higher oil prices) and the leading indicators turned down. The long-term prospects for emerging market equities are basically very positive. Despite the inexpensive valuation, caution is recommended in the short term because the tighter monetary policy in China, as well as in India and Brazil, could have an adverse impact on growth momentum. European equities, which should profit from a subsidence of the European debt crisis, have the greatest potential. At the current stage of the economic cycle, cyclical equities are likely to stage a rapid recovery and outperform the market in the second quarter 2011. We favour the sectors of energy, materials and financials.
Emerging markets: Rising oil prices favour GCC over Indian equity market
While investor confidence has waned in recent months due to the fear that the political unrest in North Africa will spread to the Persian Gulf, the higher oil price provides a good backdrop for investments into the GCC region. Due to the stable political situation in the United Arab Emirates, Dubai is likely to gain favour with investors. The same applies to Qatar and Kuwait, where political tensions have not yet surfaced. Therefore we believe that the setback in markets provides a good entry opportunity for longer term investors. The Indian equity market on the other hand is likely to suffer under the threat of rising commodity prices. Inflation concerns are still high and the recent revival in the Indian markets may be short-lived. The Reserve Bank of India cannot avoid further interest rate hikes if it is to control inflation and – even more important – inflation expectations. The slowdown in India’s economic growth will continue in summer with a further tightening of monetary policy. Until then the Indian equity market may continue to underperform other emerging markets. Our top favoured emerging markets for 2011 remain China and Russia. The valuation of the Russian equity market is still inexpensive and higher oil prices are likely to lift earnings estimates significantly over coming months.
Commodities still in demand
Commodity prices continued their positive trend from the end of last year until the beginning of March and remain in demand thanks to the global economic development. A yield of 15% over the next 12 months is expected on the broad-based commodities indices. Also, base metals could not withstand the sell-off caused by the rising level of risk aversion on the financial markets. However, base metals are still highly dependent on economic growth in China. Lingering uncertainties create positive conditions for gold. Nonetheless, the longer-term outlook has slightly deteriorated after the European Central Bank hinted that it might raise interest rates. The prices of agricultural commodities are expected to increase over the longer term. Furthermore, oil prices could continue to rise on the back of the political unrest in the Middle East, the shutdown of several nuclear power plants in Japan and the closure of nuclear reactors in Germany.