2013: The year of investing cautiously?

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Despite growth predictions of between 2.5% and 3.5% for the global economy in 2013, investors will remain cautious, according to CMC Markets in its annual global outlook.

Michael McCarthy, CMC Market’s Chief Market Strategist said 2013 will see investors remain cautious and focussed on investment basics.  “Dividend yields will be top of investors’ minds and with interest rates close to zero we expect to see a continued shift in investor thinking away from capital protection and safe havens towards real returns.  This is essentially a re-balancing of the risk to reward equation.”

McCarthy also said that dividend yields on stocks are, in many cases, substantially above bond rates; a situation that often indicates share price increases. “While each market is different, this usually means utilities, telcos, infrastructure, property trusts and in some cases, financial stocks. Most importantly, investors need reasonable comfort that the revenue streams supporting dividend yields are sustainable.”

CMC Markets noted that another important aspect of the brighter growth prospects for the world is that investors may move towards “growth” stocks over the next two quarters – primarily materials and industrial sectors.  

“The implications for indices are clear – those offering superior dividend yields, compared to local interest rates, are likely to receive support over the first two quarters. As the global economy grows, the possible shift in investor focus could see outperformance by indices dominated by materials stocks – notably Canada and Australia.”

According to CMC Markets declining global risks could see significant Price to Earnings ratios (P/E) expansion.  McCarthy expects that canny traders looking to benefit from investor activity may examine markets with lower P/E’s as possible targets for global investors.

“Hong Kong and Singapore both enjoy lower P/E’s and higher dividend yields, making them potentially more attractive to global investors. While Australia has a higher dividend yield, the higher P/E may deter. Importantly, indices such as the Germany 30 and US SPX 500, while trading at or near GFC highs, are not stretched on P/E’s measures, suggesting further upside is very possible.”

CMC Markets believes that the greatest driver of share market rises in 2012 was the activities of central banks – notably the US Federal Reserve, The European Central Bank, the Bank of Japan, the Bank of England and the Swiss National Bank. The enormous liquidity injections from these banks, combined with government fiscal stimulus and low interest rate regimes, saw individuals and fund managers searching for a suitable home for their investments according to CMC Markets.

McCarthy commented, “The risks of this unprecedented globally co-ordinated stimulus is that the inflation genie will escape its bottle, wreaking havoc  on national economies as cost and asset prices spiral out of control. For this reason, the relevant central banks are keenly watching for the right time to stop stimulating, and then start withdrawing stimulus funds.  The withdrawal of stimulus funds is possibly the greatest threat to the health of global share markets.”

As growth improves, and unemployment falls, markets face a conundrum – an improving economy should mean stimulus withdrawal.  “Central banks will do their utmost to ensure their actions don’t de-rail recovery but markets may well run ahead of Central Bank action. Markets price the future, not the present, and will anticipate withdrawal well before the fact,” said McCarthy.

CMC Markets expects the outlook to have two major implications for traders. Firstly, the possible shape of market moves, regardless of country,  could resemble a sine curve – higher as growth improves, lower as markets anticipate withdrawal, and higher again as an orderly withdrawal soothes market fears.  

Secondly, as in 2012, traders may choose to deal with these non-trending conditions by employing “relative value” trading, buying one index and selling another at the same time. The trader sees profits or losses due to the change in the relationship between the two (or more) indices, while enjoying some protection against sudden shifts in global market sentiment by staying both “long” and “short” in different indices.