A chilling end to the year after the big freeze returned with a vengeance last month and hit markets hard. That clipped what has been a solid year.
The AMP’s Chief Strategist, Dr Shane Oliver says “2007 provided a pretty volatile ride for investors with more modest and mixed returns than in recent years.
“2008 is likely to see weaker global economic growth, but lower global interest rates should help ensure reasonable, but constrained, investment returns overall.
“Returns are likely to be remain volatile, particularly in the first half. The key risk is a US recession.”
Here’s his look back at the year and outlook for 2008:
Outlook for major asset classes in 2008:
The high risk of a US recession, along with the fact that the share bull market is now into its fifth year, means the investment outlook is shrouded in a higher degree of uncertainty than has been the case for some time.
However, our assessment is that investment returns will be reasonable. Likely key macro themes are as follows:
1. Global growth will slow but should avoid a hard landing. The risk of a US recession is high at around 40%, but it should be avoided thanks to the corporate sector being in good shape, the Fed cutting interest rates and the trade sector being likely to contribute 1% to US growth. As such we see US growth slowing to around 1% to 2% over the next year.
This will likely drag down Europe and Japan which are already slowing, but growth in the emerging world is likely to remain relatively strong thanks to strong consumption and capital spending, easy monetary conditions and minimal exposure to sub-prime related problems.
Growth in China is likely to slow as monetary policy tightens – but remain robust at around 10%. During the second half of the year the global growth outlook should start to improve thanks to lower interest rates.
2. Inflation will fall as global growth slows leading to excess capacity and increased discounting pushing inflation down. Flat to lower oil prices will also help.
3. Slowing growth and receding inflation will see global interest rates fall. US interest rates are likely to fall to 3.5%. Slowing growth is also likely to force Europe to cut rates by mid year and Japan may even lower rates. China is likely to be the key exception.
4. The combination of lower interest rates and cash from surplus countries – Asia & oil rich countries – should ensure reasonable liquidity conditions for investment markets. However, credit market problems will likely remain a drag in the first half.
5. Commodity prices are likely to be soggy for the next six months or so thanks to soft global growth.
Renewed strength is unlikely until later in the year when the global growth outlook will improve.
6. Profit growth globally should remain positive, but is likely to slow to around 5% to 8% as growth slows. The conditions for a profit slump – ie, a serious recession or a wages breakout – are not in place.
7. The Australian economy is likely to remain solid. Growth is likely to slow to around 3.5% as higher interest rates and the strong $A constrain growth. But it should still be strong on the back of further tax cuts, continued strength in business investment and a gradual recovery in housing investment and a mild pick-up in mining and rural export volumes. Sub-par growth globally and the strong $A should lead to some moderation in inflation allowing the RBA to leave interest rates on hold. Australian profit growth is expected to be around 10% over the next year.
Looking at the major asset classes over the next year:
• Global shares should provide okay returns. The first half of the year is likely to see volatility remain high as investors continue swinging between worries about a US recession on the one hand and euphoria at the prospect of lower interest rates on the other. However, conditions should improve in the second half as shares are cheap in absolute terms and relative to bonds, profit growth will slow but is unlikely to slump and lower interest rates should help price to earnings multiples rise. Also, the profit outlook should improve later in the year.
Asian shares are likely to be out performers on relatively better growth prospects. US shares are likely to outperform European shares on easier monetary policy and the weak $US.
• The $A is likely to remain strong on the back of still high commodity prices and a rising interest rate differential in Australia’s favour. A spike to parity versus the $US is likely some time in the year.
• While the Australian share market is likely to be volatile in the first half of the year in response to US worries and Chinese tightening, the trend is likely to remain up. The ASX 200 share index is likely to rise to around 7300 by the end of 2008 thanks to combination of reasonable valuations, okay profit growth and solid fund inflows.
The normal signs of a major market top are still not present – valuations are not extreme, sentiment towards shares is not euphoric, capital raisings are modest relative to market capitalisation, M&A activity has faded before reaching extremes and the breadth of participation in share market gains remains reasonable. With profit growth likely to be around 10% capital growth should slow.
However, Australian shares should still outperform global shares thanks to a higher dividend yield, the Australian economy being in good shape, local banks having little sub-prime exposure and greater exposure to Asia. Sectors likely to do well inc
