12.20.2012
By Terry Flanagan

Investors Eye 2013 With Renewed Hope

With just a few trading days left of another largely uncertain and volatile year, investors are beginning to turn their gaze to 2013 in the hope of finding more than a few glimmers of optimism.

Markets have still yet to shake off the underlying problems stemming from the financial crisis brought on by the collapse of U.S. investment bank Lehman Brothers back in 2008 and potentially serious economic and political issues—such as the impending U.S. ‘fiscal cliff’, the eurozone crisis and the ratcheting up of tensions in the Middle East—continue to cloud the judgement of many investors.

And all this is happening as a wave of post-crisis regulatory initiatives, which are aimed at reducing risk and increasing transparency—but may actually set markets back yet further— could force even more much-needed liquidity to flee the markets.

But despite all the gloom, there could finally be some light at the end of the tunnel.

“Could 2013 be the first post-crisis year for markets?” said Tom Elliott, a global strategist with the global markets insights strategy team of investment bank JPMorgan’s asset management arm. “Some signs are very encouraging.

“Yields on peripheral eurozone debt have fallen sharply following September’s announcement of the Outright Monetary Transactions program by European Central Bank president Mario Draghi.

“After numerous extreme spikes over the last couple years, the S&P 500 volatility index (VIX) is now below its long-term average. Credit default swaps on European banks have declined to July 2011 levels. The latest, though not last, Greek aid tranche has been distributed [and] the risk of a chaotic break-up of the eurozone has clearly receded.”

Others see this recovery picking up steam in the second half of 2013.

“This time last year, the risks to global growth were to the downside as the European debt crisis, China hard landing fears and the U.S. fiscal cliff clouded the economic outlook,” said Michael Hartnett, chief investment strategist at investment bank BofA Merrill Lynch’s global research unit. “For 2013, we expect the resolution of fiscal policy issues, another year of accommodative central bank actions and improving corporate profits to skew the macro and market risks to the upside.”

However, there is a view that a sustained recovery may be some time off yet and a gradual upturn could be the best that we can hope for in 2013.

“Our big questions for 2013 are whether the wave of ultra-loose monetary policies and quantitative easing has crested and if private sector credit can stage a modest recovery,” said Ewen Cameron Watt, chief investment strategist at asset manager BlackRock’s investment institute.

“Trillions of dollars in monetary stimulus and record low interest rates have failed to spur much credit growth and economic activity so far. But what if this changes? Policy—fiscal, monetary and regulatory—drove markets in 2012 and will remain central to 2013 outcomes.”

And it is the U.S. fiscal cliff that continues to unnerve many investors going forward, where President Barack Obama and the Republican leadership continue to play a game of political dare as the deadline of December 31—where an automatic $500 billion fiscal contraction of tax increases and spending cuts will be set in motion unless a compromise is agreed—zooms into view. Although evidence suggests that investors are still not weighing heavily the potential impact of the fiscal cliff.

“Short-term market volatility has been eerily low compared with political uncertainty that is at levels hit during the depths of the financial crisis in 2008,” said Russ Koesterich, chief investment strategist at BlackRock. “[But] if financial markets are underwritten, albeit precariously, by central banks and governments, there is no need for asset prices to reflect any worries.”

But Barbara Novick, the vice-chair and head of government relations at BlackRock, added a note of caution. “We hope politicians will rediscover the lost art of compromise,” she said. “Businesses and voters have sent strong signals to Washington to work together. If politicians remain polarized, the fiscal cliff will turn into a fiscal cloud overhanging markets in 2013.”

And in terms of asset classes, fixed income, which has enjoyed much popularity as a ‘safe haven’ status since the financial crisis broke, could be the one to suffer in 2013 as investors look to edge back into equities.

“Markets need only a whiff of a Fed preparing to slow its quantitative easing programs because of improving employment to empty some of the vast store of investor money in cash and low-yielding fixed income assets, and put it into equities,” said Watt at BlackRock.

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