Credit constraints and fiscal tightening could dampen bright investment outlook for 2010, bankers say

Written by Ray Clancy

Thursday, 14 January 2010 09:42

Investors can look forward to brightening global economic prospects in 2010 but the path to recovery will be jagged, according to analysts.

There will be scope for the occasional quarter of economic contraction and the pace of growth is unlikely to match that of the pre-crisis boom years with consumer de-leveraging, credit constraints and fiscal tightening expected to dampen momentum, the 2010 Investment Outlook report from private bank Coutts.

Growth should also ease slightly from the second half of 2010 as policy stimulus is replaced by private sector demand, the report says. ‘The large amount of spare capacity means that deflation remains more of a risk over the next couple of years in the major developed economies. Central banks are only likely to start increasing interest rates in the second half of 2010 at the earliest, though it will probably be sooner for emerging markets,’ it adds.

It predicts that risk assets should outperform government bonds as an environment of moderate growth, subdued inflation and low interest rates is positive until markets start to worry about rate rises in the US or China.

However, returns in 2010 are expected to fall short of gains made in 2009. ‘Lack of scope for further re-rating suggests equity advances will be harder won and more limited, with the onus on fundamentals, including earnings, to drive returns. The saw-toothed nature of the economic recovery should also fuel volatility in equity markets,’ the report continues.

‘Emerging markets, particularly Asia, remains our preferred regional equity market and the world’s top growth engine. Latin America also warrants attention because of its commodity exposure, but Eastern Europe appears unattractive as it continues to restructure,’ it adds.

Analysts reckon that yields from Government bonds are unlikely to rise significantly in the near term given large output gaps. But global recovery, the end of quantitative easing and large fiscal deficits should exert upward pressure.
Index-linked bonds should outperform conventionals, but the margin should be less than in 2009 given that the hefty illiquidity discount present at the start of the year has been largely arbitraged away, they add.

Commodity prices should benefit from the resource-intensive nature of a global recovery driven by emerging markets. ‘This is particularly true of energy and to a lesser extent, industrial metals,’ it points out.

UK commercial property should deliver positive returns in 2010, with yields comparing very favourably with those of government bonds. ‘However, returns may be below those of the boom era because of the lack of credit to fuel a bubble. If a property bubble does emerge over the coming years, it is more likely to be in emerging markets with pegged or managed exchange rates,’ the report also says.

It concludes that investors can take heart from this brighter outlook, with a revival in risk appetite allowing equity markets to recover from the multi-year lows plumbed in March.