Capital Market Outlook 2008/2009: The World in Transition – Part 3, The Inflation Threat
Inflation and oil price a threat but global economy in 2008 and 2009 robust despite adversities – Real rates of return on government bonds unattractive – Equity valuations low on historical comparison – Hedge funds a stabilizing element
Inflation concerns are increasingly taking hold of the international capital markets but fears of a repetition of the 1970s, when industrialised countries endured double-digit rates of inflation, are unfounded Deutsche Bank financial market experts said today.
Speaking in Frankfurt following the quarterly meeting of the Deutsche Bank Private Asset Management Global Investment Committee, Klaus Martini highlighted the cost pressures driving inflation – including higher energy and food prices, rising wages in emerging markets and the weak US dollar which is driving up US import prices. In the Eurozone headline inflation is now above 3 percent, and in the USA it has even reached over 4 percent. In emerging markets inflation is being driven above all by rising food prices.
But Martini, Global Chief Investment Officer for Private Clients at Deutsche Bank said the situation was different to the 1970s when the global economy was gripped by inflation. He said: “The opening up of economies in the wake of the globalization process is an important factor helping to contain inflation. World exports currently represent 25 percent of global gross domestic product and have almost tripled since the 1970s“.
Oil price: The big imponderable
In recent months oil has breached the 130 US dollar per barrel mark, and thus been a main driver of global inflationary pressure. “The oil price will continue to be the big imponderable for the world economy,“ Martini commented. “Declining reserves in the OPEC states, and low levels of investment and political problems in a number of oil-producing countries could tighten the supply situation still further, countering any efforts to improve energy efficiency and further develop alternative energy sources. Overall, we expect that production will not be able to keep pace with growing demand, especially from Asia. So the oil price is likely to remain high and continue rising in the long term.”
World economy: Robust despite adversities
The world economy still looks astonishingly robust in 2008 despite the financial market crisis and rising oil prices. Dr. Helmut Kaiser, Global Chief Investment Strategist for Private Clients at Deutsche Bank, said: “We don’t expect a recession in the USA, but we don’t expect a quick recovery either. In the Eurozone we are likely to see a cooling-off of the economy in 2008 and 2009. Emerging markets should be able to decouple further from the US economy and consolidate their growth at a high level.” After the world economy grew by almost 5 percent both in 2006 and in 2007, Deutsche Bank expects growth rates of about 3.5 percent in 2008 and in 2009. For Germany the experts predict a marked falloff in growth in the further course of the year after a strong first quarter.
Bond market: Selective opportunities in corporate bonds
The long-term trend of lower real rates of return on US and Euro government bonds has continued. They therefore remain unattractive compared to other asset classes. On the other hand, spreads on corporate bonds have become attractive again for the first time in years and bonds of good credit quality can present interesting investment opportunities.
Equity market favourably valued and margins at record levels
“At the moment, factors such as rising oil prices, monetary tightening and the uncertain economic outlook are weighing on the market”, Martini stressed. “Today, the price-earnings (PER) multiples of the leading indices are below their long-term averages. Equities have not been as favourably valued since the early 1990s. But the crucial factors will be how earnings estimates develop after further downward revisions during the first months of this year, and whether margins can be held at the record levels of recent years.“
Alternative investments remain attractive
In Deutsche Bank’s view, the uncertain economic outlook augurs in favour of a significant allocation to alternative investments – especially hedge funds – within portfolios. “Hedge funds have held up well in the financial crisis. On average they have performed much more stably than the equity market since mid-2007“, Martini underlined. Some strategies such as systematic macro funds (CTAs) have even achieved double-digit returns since last summer.
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