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Aviva Investors: Fasten Your Seatbelts – Further Market Turbulence Is Inevitable

Stewart Robertson, Senior Economist at Aviva Investors, updates his outlook on the global economy as policy tightening looms.

  • Prefers equities in Japan and the euro zone but cautious on emerging markets
  • US treasuries vulnerable if US rates rise as the Fed indicates
  • Neutral on equities and bonds, with regional selection necessary
  • The outlook for global real estate remains robust

Risks to US forecasts are now to the upside

“With the US having strengthened over the past quarter, the risks to our forecast appear skewed towards the upside, which until recently the opposite had appeared to be the case. Employment gains, greater household wealth stemming from rising equity and house prices, less drag from fiscal policy and reduced political concerns are all contributing to the recovery. With this, we also expect the US dollar to continue its multi-year upswing, as current monetary policies are all supportive of continued dollar strength. With the risks to growth now to the upside, and inflation likely to be pushed higher by services prices, it seems likely the Fed will start to raise rates in the second quarter of 2015.”

ECB must implement QE to stop recession

“Further negative readings for Eurozone GDP growth are quite plausible before the end of the year and in early 2015. Although the ECB is insisting its recent initiatives will help ensure both that growth resumes and that deflationary worries disappear, we doubt both. Outright QE is necessary and will eventually come. In our view, a sustained recovery is unlikely until QE is started and Eurozone nations take much greater steps towards fiscal and political union. Another crisis of identity or existence for the Euro should not be entirely ruled out, even if it is a very low probability event.”

UK has a bright outlook but exposed to European developments

“Along with the US, the UK has the brightest outlook among the developed nations with most indicators arguing for a continuation of robust growth and low inflation. The first interest rate rise is not likely until next spring, when slow and gradual rates are expected with the terminal rate dictated by how the economy responds to the first monetary tightening for eight years. The UK is far more exposed than the US is to Europe as its most important trading partner, so weakness there will be felt here.”

Chinese slowdown set to continue; confidence in Abenomics has been dented

“Chinese economic data has continued to disappoint, and has implied that monetary policy will have to be eased if the government is to hit its economic growth target of ‘about 7.5 per cent’. The property sector looks sluggish despite the government easing ‘home purchase restrictions’, but with Beijing hoping to see the economy wean itself off this sector, a continued slowdown is likely. In Japan, further stimulus may yet be required following the marginal shrinking of the economy in the first six months of 2014. Leading indicators are slightly less bleak for enhancing growth and we retain the view that Abenomics will eventually work, but our conviction has been dented a little recent outcomes.”

Investment preferences

“The impending US rate hiking cycle has dampened our enthusiasm for equities, and credit has to overcome the headwind of rising US bond yields. As a result, we are neutral on both asset classes and prefer a regional selection. We especially like equities in Japan and the Eurozone given supportive monetary policy, but are underweight ‘emerging’ equity markets given the likelihood higher US rates boost the dollar, which has been historically negative for this asset class. Within ‘emerging’ equities we prefer the markets of countries with strong manufacturing bases, relative to those of major commodity exporting nations, with China looking cheap under this backdrop. Commodity price falls have been significant and seem unlikely to reverse course any time soon.”

Strong real estate outlook but investors at risk of overpaying for prime assets in core markets

“The outlook for global real estate remains robust, as occupier market fundamentals continue to improve with most prime markets seeing continued rental growth and lower vacancy rates. Property continues to offer good value relative to other asset classes and is attracting more equity; meanwhile debt is becoming both more readily available and cheaper in most markets. As a cautionary note however, investors are at risk of overpaying for prime assets in core markets.”

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