Welcome to 2011 – Looking Ahead

Happy New Year and welcome to 2011. With 2010 behind us, it’s time to indulge in the usual questionable practice of predicting what may occur during the year ahead. Given the nature of economics, finance and politics, the end result of any such exercise is likely to be of minimal value, but let’s not let that deter us.

So a few bold, if improbable, and certainly wildly inaccurate predictions for 2011 are:

The US

Being bullish on the US economy has claimed its fair share of victims over the past 48 months, but it is hard to resist the call of the ‘it’s so bad it couldn’t possibly get any worse’ camp. And so, it’s easy to foresee a strong year of economic growth in the US, with some falls (finally) in the unemployment rate and a recovery in the USD.

In the immortal words of D:Ream, things can only get better. The Fed’s dedication to quantitative easing should eventually start to gain traction, although interest rates will remain close to zero for all of 2011. The recovery will be largely export-led, on the back of a weak USD. However, early signs of a strengthening economy will prompt a reversal of the USD’s decline against most other currencies during 2011, regardless of the Fed’s view on interest rates. While house prices may fall slightly, it’s probably that we will witness the bottoming of the US housing market over the next 12 months, largely due to a pickup in employment, rising wages and increased consumer and business confidence.


Not where you want to be in 2011. A strengthening USD and over-inflated prices for most commodities means that 2011 will be a bad year for commodities bulls. Those likely to suffer the most include iron ore, coal (floods in Queensland notwithstanding), gold, silver and copper. Foreign investors in USD-denominated commodities should be considering an exit strategy. The only possible saviour for commodities would be China, which brings us to…


2011 is the Chinese Year of the Rabbit. Although rabbits are lucky in Chinese mythology, the Year of the Rabbit is also a year…

…in which you can catch your breath and calm your nerves. It is a time for negotiation. Don’t try to force issues, because if you do you will ultimately fail.

Perhaps a message for Chinese policymakers? Regardless, expect to see Chinese growth slow considerably during 2011 as inflation wreaks havoc across the Chinese economy. If you can believe the official statistics, it’s apparently possible to grow GDP at 8% per annum with inflation less than 4%. No it isn’t. There is a disconnect between soaring commodity prices and relatively benign inflation in the world’s most populous nation. Although you wouldn’t necessarily expect a very close correlation, consider the following:

– China’s inflation rate for the 11 months to November 2010 was 3.2% (although December’s figures was 5.8% annualised)
– during 2010 copper increased 29%, nickel 30%, Australian thermal coal 30%, iron ore 80% and tin 70%
– annual food inflation to October 2010 was 10.10%

Once you throw the rapid increase in property prices into the mix, primarily on the back of easy credit to the many LGFV’s, it seems clear that China’s economy is overheating. Raising credit provision limits helps around the edges, but interest rate increases will have to come soon (Chinese interest rates increased on only two occasions during 2010). A slowdown in economic growth will impact commodities directly, with the secondary victims being resource-rich nations such as Canada and Australia.


No easy quick solutions for Europe unfortunately. Expect Portugal and Spain to fall to the bond-market vigilantes, with Italy looking wobbly. The EU will be forced to significantly increase the size of the stability fund and draft some very quick legislation regarding an eventual fiscal integration. The other option, of course, is that Germany simply forces the perennial defaulters out of the euro, though this is unlikely. As we have discussed before, Europe really only has three options open to it, for a reminder see here


Bonds have had their day in the sun and the end of the rally is nigh. While interest rates will remain relatively low, improved signs of economic growth in the US will spark a bond market rout. Favour equities over bonds.


As mentioned, the USD will perform well, while the euro will remain weak on the back of continued concerns over the long-term future of the euro. Commodity-rich nations such as Australia, South Africa and Canada can expect falls of around 15 to 20 % in the value of their currency relative to the USD. China may well allow the yuan to revalue upwards again, though not by much (again).


After a relatively soft year for equities in 2010, 2011 should see further gains in most markets. The third-year after a market crash is usually the most important, as a generalisation. Year one is a sharp recovery, year two is generally flat/stable, while year three builds upon gains made in the first year. Regional and country-specific factors will play a role though: the Dow should perform well, EU indices will be mostly down while emerging markets while again lead gains. Resource heavy indices such as Australia and Canada and others will be weak.

Naturally most of the above will probably be hopelessly incorrect, but that’s what you get for trying to predict the future.

In-house Analyst


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