Treasure Chest | Jan 21 2013
By Greg Peel
The year just passed was yet another post-GFC year, featuring considerable uncertainty and the spectre of slowing growth. Yet asset price volatility took a considerable dive. Indeed, 2012 had a feel of trader/investor weariness from chasing markets backward and forward in panic amidst a sense of having been down the same path too many times before. There has also been a wholesale withdrawal from risk assets since the GFC, which provides another explanation for low levels of specific volatility measurements such as the VIX.
The VIX basically reflects demand for equity put option protection, which is usually at its greatest in times of uncertainty. However, if equity holdings are at historical lows, it follows that demand for protection is redundant, and hence VIX readings have limited upside.
Yet as 2012 began to wind down, the tolerance for risk asset investment began to creep upward once more despite ongoing global uncertainty. At the end of the day, if we're looking for put option protection we actually have loads of the stuff – in the form of significant global central bank stimulus. The impact of such stimulus, notes the ANZ economics team, has been to keep interest rates lower for longer and boost risk appetite (if for no other reason than a search for yield).
With output gaps in major economies (capacity versus utilisation) still wide, and inflation pressures minimal as deleveraging continues, ANZ expects more of the same from central banks in 2013. This “central bank put” will ensure volatility remains low and risk sentiment will continue to be supported. However, overall returns across asset classes should ease in 2013, ANZ believes, following the late 2012 spurt.
The US is the best placed of the developed economies following a lengthy phase of financial repair, the economists suggest. However, we still have to get through the debt ceiling debate and an actual plan is needed for the ongoing fiscal cliff issues. If such issues can be resolved sufficiently in the first half, we should see solid economic expansion in the second half, says ANZ.
Reforms in the eurozone are beginning to pay off, but there still lies a long road ahead, with a lack of growth the biggest threat in ANZ's view. Spain is the most vulnerable, but across the zone an ongoing failure to generate growth may lead to further instability as unemployment continues to rise. The economists foresee further policy easing from the ECB.
The new government in Japan is set to pursue a policy of vigorous reflation through monetary easing and fiscal spending. While such a policy should have positive global implications, ANZ is among others who warn of rising yields on Japanese government bonds, which are extensively held by Japanese banks. Rising yields mean falling prices.
Strong capital inflows and solid Chinese demand should ensure ongoing resilience in Asia (ex-Japan), ANZ suggests. The risk here, however is that capital inflows, fuelled by developed economy monetary stimulus, could spark asset price bubbles across the region and a spillover into CPI inflation.
ANZ expects sovereign bond yields will remain low in 2013, but with limited scope for further falls (higher prices) given the extent of falls to date. Returns on sovereign bonds should thus remain modest. As sovereign bond yields contracted over 2012 and previously, investors have sought yield through riskier corporate and other non-government bond yields. Credit spreads had remained elevated post-GFC, but the rush into such investments more recently – driven by assessments that such credit spreads reflected excessive fear – has ensured spreads have now pretty much returned to more realistic levels, ANZ believes. Returns on such assets should thus decline in 2013, ANZ suggests.
The shift to greater risk tolerance should nevertheless ensure ongoing positive returns for equities, the economists believe, but at a steadier pace than that seen in 2012.
ANZ's economists, like many others, cannot go past ongoing global monetary easing as a positive for the gold price in 2013. Gold may also be supported by a possible Indian government intervention to restrict gold imports at the same time as Chinese renminbi and Indian rupee strength should lower the cost of imported gold, ceteris paribus, for the world's two biggest gold consumers.
An improving US housing sector is behind ANZ's positive 2013 view for copper, while the economists believe the 2012 rally in the lead price has been overextended. The end of Russian stockpile sales, and a push in the US to renew an ageing vehicle fleet, should see strong demand for palladium.
Crude oil in the form of benchmark Brent should be supported by the conflagration of increasing Chinese refinery capacity and dwindling North Sea and Middle East supply, ANZ believes. Shale oil production in the US will continue to maintain an oversupply of land-locked West Texas crude, thus ensuring an ongoing Brent/WTI price spread.
ANZ expects grain prices to show further strength in 2013 due to increased Chinese demand meeting a tightening of stockpiles in the first half of 2013. Soft commodities such as cotton and sugar are likely to see price falls, the economists believe, with cotton in particular facing significant Chinese stock overhang.
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