Market lessons from 2014. Forecasts for 2015
Schroders’ economists Keith Wade, Azad Zangana and Craig Botham (l-r) present bullet point lessons from 2014 and their baseline forecasts for 2015
Lessons from 2014
Having reviewed events and the performance of markets over the past year, we have found a few lessons worth considering for 2015:
• Geo-political risk is alive and well. Not only can geo-politics act as a major downside risk to individual markets, but it can quickly spread to hurt global sentiment towards risk assets. The year also reminded us that positives from geo-political risk also exist, after the gains seen in India after the election.
• Government bonds are not immune to the laws of demand and supply. While government bond yields often reflect general risk appetite, 2014 showed that like any other asset, when supply is restricted and demand is plentiful, the price will rise (and yields fall). Global liquidity has been an important factor, and may continue to be so this year.
• Europe still has plenty to do. Having started the year with lofty earnings expectations, a lack of growth and fears over deflation led to a significant underperformance of European equities. European equities still appear on the expensive side, so have markets learned their lesson?
• The Fragile 5 are still fragile. A lack of reforms left those reliant on overseas capital exposed in 2014. As the Fed tightens monetary policy in 2015, beware of this group. Once again, the majority of policymakers have shown they are not afraid to waste a good crisis. India was the exception in 2014 rather than the rule.
• Oil prices can fall without a crisis. Unlike 2008, the fall in oil prices has not been caused by fears of a global recession. Relatively small falls in demand and increases in supply have led to the dramatic fall in prices.
• Gravity has caught up with China. Investors have learnt that not only is slower growth possible in China, but the government may be powerless to do more than cushion the fall. A soft landing looks the most likely outcome.
Baseline forecasts for 2015
The following is a summary of our macro views as we start 2015:
• Global recovery to continue at sub par pace as the US upswing is offset by sluggish growth in the Eurozone and emerging markets. Lower energy prices are weighing on inflation, but will also boost growth in 2015.
• US recovery continues and unemployment is set to fall below the NAIRU in 2015 prompting Fed tightening. First rate rise expected in June 2015 with rates rising to 1.25% by year end. Policy rates to peak at 2.5% in 2016.
• UK recovery likely to moderate next year with general election and resumption of austerity. Interest rate normalisation to begin in 2015 with first rate rise in November.
• Eurozone recovery becomes more established as fiscal austerity and credit conditions ease whilst lower energy prices help consumption. ECB to monitor effects of recent easing, but we now expect sovereign QE in 2015 in response to deflation fears.
• In Japan, the consumption tax pushed the economy into recession in 2014 prompting further easing by the Bank of Japan and a snap general election. Weaker JPY to support the recovery, but Abenomics faces considerable challenge to balance recovery with fiscal consolidation.
• US leading Japan and Europe. De-synchronised cycle implies divergence in monetary policy with the Fed tightening ahead of ECB and BoJ, resulting in a firmer USD.
• Tighter US monetary policy and weaker JPY weigh on emerging economies. EM exporters to benefit from US cyclical upswing, but China growth downshifting as the housing market cools and the authorities seek to reign in the shadow banking sector. Generally, deflationary for world economy, especially commodity producers.
Risks are still skewed towards deflation, but are more balanced than in the past. Principal downside risks are Eurozone deflation and China hard landing. Some danger of inflation if capacity proves tighter than expected, whilst upside growth risk is a return of animal spirits and a G7 boom. Increased prospect of stronger growth/ lower inflation if oil prices continue to fall.
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