As the new year starts, ringing out the old, ringing in the…old?

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The New Year offers a chance to reflect on the past year and to think about expectations for the coming one. 2014, broadly speaking, was on balance a better year for the global economy than had been expected – but with a lot of regional variability. Annualised US GDP growth in the third quarter of 2014 was 5%, in a year when there had been fears of a recession as the winter weather bit. The S&P 500 failed to repeat its 29.6% return for 2013, surprising no one, but it did manage an 11.39% return for 2014, surprising many. In consequence, credit assets generally did well, though less uniformly than in previous years, particularly high-yield. Nevertheless, this was reflected in the performance of the Barclays US Aggregate Bond Index, which returned 5.97% on a total return basis to US dollar investors.

2014: NOT A BANNER YEAR FOR DIVERSIFIED BOND INVESTORS

The rest of the world dragged down these averages, and for diversified fixed-income investors it was not a banner year: in unhedged US dollar terms, the Barclays Global Aggregate returned just 0.59%. For euro-based investors, Germany’s stock index DAX delivered a return of 2.65%. Italy’s MIB barely avoided a loss, France’s CAC-40 was not so fortunate. Europe, as we know, teetered on the edge of a technical recession: technical not in a term of art to describe two consecutive quarters of economic contraction, but rather because for many people, the continent had been mired in a state of no growth since shortly after the financial crisis began in 2008 and differences between then and now were not meaningful.

JAPAN HAD A DISMAL TIME

In Japan, it became apparent that policymakers were going to have to double down on the policy reform, with the annualised quarter-on-quarter GDP growth coming in at -7.3% for the second quarter and -1.6% for the third. While some of this was due to front-running to avoid the increase in the consumption tax, and the numbers are also seasonally-adjusted and so subject to statistical artefacts, there are few ways to dress this data up as anything other than dismal. Prime Minister Shinzō Abe called a snap election to renew the Liberal Democratic Party’s mandate for structural reform.

EMERGING MARKETS STRUGGLED

Emerging markets were a mixed bag, but with growth disappointments in China and Brazil, structural issues in Venezuela, another Argentinian debt default, to say nothing of Russia’s annexation of Crimea and invasion of eastern Ukraine, with direct effects on the latter’s economy and indirect effects on Russia’s through a tightening sanctions regime.

For fixed income, it was a year best forgotten: all the main indices were negative.

usd/eur exchange rate

IN ANY CASE: MORE PRESSURE ON THE EURO

BOND YIELDS TESTED LOWS

All that was before the two other defining macroeconomic events of the year. The first was the relentless fall in bond yields. US 10-year yields fell from 3.03% at the beginning of the year to 2.17% at year-end – after a low of 2.06% earlier in the month. This was despite the removal of quantitative easing, significant headline growth, the increasingly unqualified observations by many that the US is “booming” and the extremely high likelihood that the Federal Reserve will begin hiking rates, perhaps as soon as the end of the second quarter. Germany’s equivalent yields currently stand at around 0.5%; numbers associated until very recently with Japan. Italy and Spain joined France in setting records as they had never been able to borrow more cheaply, putting debt sustainability worries in a certain context.

OIL FALL: WAS IT A US-DRIVEN GLUT OR A PRECURSOR OF SLOWER GROWTH?

The other event was – and is – the fall in the price of oil. It would not be accurate to say that the trend was a surprise: the effect on the global oil price of North America becoming a net exporter owing to the shale revolution had been widely telegraphed. However, the speed and magnitude of the move was a surprise to most and is likely to be good news for developed economies’ growth, a dampener on inflation, and a source of unmitigated misery for oil exporters. One big concern is the extent to which this reflects a sum of unspoken fears about the slowing global economy, though this would be to ignore that oil reached an all-time high of USD 147.27 per barrel almost exactly two months before Lehman Brothers declared bankruptcy – indeed, some suggest the price of oil caused or intensified the crash – so the predictive value may be a little suspect.

2015: RINGING OUT THE OLD, RINGING IN THE…OLD?

But 2015 is already shaping up to be a re-run of past themes and it does look like markets will be driven by events in Europe. Owing to a failure to secure a majority in presidential elections, a general election has been called in Greece for January 25. At the time of writing, it looks likely that the man cast as the firebrand of Greece’s 2012 elections, Alexis Tsipras, will lead the Syriza party to government. Associated with rejection of the restructuring efforts led by the “Troika” of the EU, the ECB and the IMF, this raises fears of a default and a Greek exit.

GREECE: A MITIGATED RESTRUCTURING OR…

The risk is likely both greater than in 2012, and yet lesser. It is greater in that all parties have had time to ponder the consequences and the likelihood of contagion seems much more remote. But it also seems lesser in that Mr. Tsipras has met most of the principal actors and the tone seems to be, to quote Margaret Thatcher on meeting Mikhail Gorbachev, “we can do business together.”

…A MANAGEABLE EXIT?

Markets are currently focusing on an article in German newsweekly Der Spiegel which reported that the German government believes that the eurozone would now be able to cope with a Greek exit if that proved to be necessary: as a way to disseminate points of view, it is no doubt a useful one, but its predictive power in the crisis of 2011/2012 was limited.

IN ANY CASE: MORE PRESSURE ON THE EURO

Together with the increasingly inevitable sovereign quantitative easing, this uncertainty continues to weigh on the euro. 2014’s big trade looks like being 2015’s big trade too.

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Out now: Ready for take-off
The Investment Outlook for 2015 by BNP Paribas Investment Partners

The Investment Outlook for 2015 by BNP Paribas Investment Partnersincludes our analysis of the factors expected to drive markets and economies, our expectations for bonds and equities and interviews on asset classes – fixed-income, emerging equities and global equities – that we believe could work well in 2015.

The contents of Ready for take-off:
• Our answers to the challenges
• Economic growth in 2015: above or below trend?
• Markets face an unusual year
• Fixed income: fishing in all pools
• Emerging equities: a positive outlook
• Global equities: look for opportunities within the mega-trends

The Outlook is available in English, French, Dutch, Italian and Spanish.

The Investment Outlook for 2015

The Investment Outlook for 2015

For printed copies, contact the Publications Centre at publicationcentre@bnpparibas-ip.com (supplies are limited).

Ready for take-off, the Investment Outlook for 2015 by BNP Paribas Investment Partners

 

 

Alex Johnson

Head of Absolute Return Multi-Sector Fixed Income at FFTW

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