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Investment Guide

Where The Money Is Going In 2014

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Tis the season to reconsider one’s investment portfolio for 2014. It is advisable to use a top-down approach by assessing the leading markets and then looking at emerging markets.

Most economists believe that there will be upside surprises, especially in the United States, but also in Germany and China. According to Nariman Behravesh, chief economist at IHS Global Insight, a global economic research firm, American consumers are feeling more upbeat.

“A lot of the unpleasant news is off the front page, like the government shutdown – and gasoline prices are down. The job situation is improving.” He provided a good holiday season that would build momentum going into 2014” he said. To back his theory, the Commerce Department reported that November retail sales rose by 0.7%, the biggest gain in five months. In conjunction with a revised stronger number for October, Americans had a strong start to the holiday shopping season. Some economists even upgraded their Q4 Gross Domestic Product (GDP) outlook based on the November retail sales number; Barclays raised its Q4 forecast to 2.2% from 2% and J.P. Morgan raised it to 2% from 1.5%. Consumer spending, or consumer sentiment, is the largest part of aggregate demand at the macroeconomic level. The attitudes of households towards the economy is a strong component of consumer spending. If consumers’ attitudes regarding the state of the economy is negative, they refrain from spending. Alternatively, if the state of the economy is good, people spend and invest with confidence, which makes consumer sentiment and spending a powerful predictor of the economy.

The next question is whether the Federal Reserve Bank (FRB) will taper? With the October government shutdown – where 800,000 FRB employees were told to stay at home because Congress failed to enact legislation appropriating funds for the 2014 fiscal year – a median of 40 responses in a Bloomberg News Survey of economists believe that the FRB will delay the first reduction in its bond purchases until March 2014. Because the government shutdown slowed Q4 growth and interrupted the flow of data, policymakers will pare the monthly pace of asset buying to $70 billion from $85 billion at their March 18-19 meeting. The US government has been trying to stimulate their economy through a bond-buying program known as quantitative easing (QE). This occurs when the Federal or any central bank creates money by buying bonds or other financial assets from banks. In turn, the banks then have more money available to lend. Higher loan growth makes it easier to finance projects in which people work, thereby helping the economy to grow.

The first program of QE saw the US government inject $600 billion into their economy. In total, the FRB bought more than $2 trillion treasury bonds and mortgage-backed securities, which is nearly 10 times the annual rate of bond purchases during the previous decade. In 2012, the stock of bonds on the FRB’s balance sheet rose more than 20%.

Quantitative easing was not intended to last forever. However, Ben Bernanke, former chairman of the Federal Reserve Bank, stated that the flow of purchases will depend on the incoming data and the assessment of how the labor market and inflation is evolving in the US. Therefore, tapering quantitative easing would mean that policymakers are regaining confidence in the US economy. Though bonds sold off sharply in the wake of Bernanke’s first mention of tapering and stocks exhibited higher volatility than previously, tapering will not be an immediate or dramatic event. It is likely to take place over an extended period of time so as to create minimal market disruption. The FRB may pull back slightly if the economy continues to strengthen. It can increase the program again if the economy slows or the financial markets are shaken by an unforeseen crisis. Because the tapering threat has been ongoing for so long, I believe that the markets have now either factored in or discounted that news. Therefore, the market will most likely react marginally upon an initial tapering.

Most economists do not expect interest rates to rise until 2015. The FRB’s policymakers will not raise rates from the current 0%-0.25% range until the unemployment rate falls below 6.5% – so long as inflation is contained. A recent Producer Price Index (PPI) report showed wholesale prices fell 0.1% in November, the third consecutive drop. The PPI is up just 0.7% on a year-on-year basis, while the core rate is up 1.3%. Bernanke would have preferred the rate of inflation to be around 2%, and is hoped that more “monetary accommodation” would push inflation up and the unemployment rate down.

I forecast a stronger dollar. Though it could hurt the US economy as it makes exports more expensive for foreign consumers, it also attracts investors, which is positive for the US economy. A stronger currency will also make it easier for the US to borrow and finance its debt, all other factors being equal.

In Europe, GDP expanded by 0.3% in the first three months of 2013, which signaled the end of the longest contraction in continental Europe in over 40 years. However, unemployment remained at 12.2% in September, which means the region’s faltering economic recovery has yet to be felt in the job market. The Commission said it expected the Eurozone’s GDP to grow by 1.1% in 2014.

“There are increasing signs that the European economy has reached a turning point,” said EU Economic and Monetary Affairs Commissioner Olli Rehn.

With the majority of economists forecasting a positive change in market sentiment in leading economies, due to progressive improvement in economic data, this is bound to build momentum in the emerging markets, which will export more into the US and Europe. Africa’s stock markets should gain upside momentum in 2014 as economies steadily improve.

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