It’s the time of year when everyone comes out with their forecasts for 2011 – and we’ve got plenty of them for you in the current issue of MoneyWeek magazine. For now, let’s look at five of the big issues that investors will have to cope with next year.
1. What lies ahead for the euro – superstate or slow collapse?
The biggest financial story of the year was the troubles in the eurozone. And they haven’t been solved – far from it. Greece and Ireland are still bust, and Portugal and Spain look to be next on the menu. So what’s changed since the start of the year?
Investors are less worried than they were that the European crisis will prove to be systemic. Many think that even Spain can be bailed out without having much impact on the rest of the world. Europe will ‘muddle through.’
I don’t know. Europe epitomises a growing threat for investors – political risk. Much of the investment landscape is currently being shaped by what politicians and central bankers do or threaten to do. From capital controls in Asian countries, to money printing in the US, markets are very vulnerable to badly worded sound-bites and poorly thought-out policies.
The euro might make it. Germans might not like the idea of paying Greek pensions, but they like the euro as a currency. And if German chancellor Angela Merkel can spin the creation of any further fiscal transfer mechanisms as being a step towards a united Europe led by a strong Germany, then I suspect she’ll be able to sell that idea. Whether the rest of Europe will be quite so keen is another matter.
Whatever happens, there’s likely to be a hell of a rocky ride ahead for Europe and for the euro. If you feel like taking a punt on that in 2011, then you can learn more about using spread-betting to trade the currency. Plus, our Roundtable experts give their views on what will happen to Europe.
2. When will UK interest rates rise?
This is the question that’s probably at the front of your mind right now. Inflation in the UK has been well above target for the whole of 2010, and it doesn’t look like it’ll get much better in 2011. And the underlying cause is starting to become irrelevant.
It doesn’t matter if inflation is a result of the weak pound, higher taxes, or soaring commodity prices, or other ‘temporary’ factors like that. If employees start to believe that higher prices are here to stay, then they’ll look to pass those costs on to their employers. The rise in the price of a season ticket alone is enough to wipe out a big chunk of any pay rise your average commuter might receive this year for example.
Now, the Bank really isn’t keen to hike rates. Higher rates could hammer the already weak housing market, which would have a knock-on effect on the banking sector. But consumers’ expectations for inflation have already shot up. And the big worry for the Bank is that wage demands will follow.
So what can they do? What every central banker, from Europe to the US does – ‘jawbone’. Inflation expectations can be talked down, simply by talking interest rate expectations up. If people start to believe that the Bank will act to prevent inflation from getting out of hand, then the Bank might be able to buy itself more time, simply by talking tough.
We’re already seeing this in action. Paul Fisher, a member of the rate-setting Monetary Policy Committee, has explicitly warned that the Bank is keen to get rates back to a more ‘normal’ level of around 5% as quickly as possible. Of course, he didn’t give any timetable. And he also warned that the UK could potentially see another quarter of economic decline in 2011. But expect to see more of this ‘hawkish’ tone next year.
A riskier strategy would be to go for an early, but small rate hike, to say 0.75%. This probably wouldn’t have much practical impact, but it would startle everyone out of their “low rates forever” mentality. However, I suspect the Bank is likely to opt for the ‘talking cure’ for inflation first.
3. Can the Coalition survive?
One of the big events of last year was of course the general election, which saw an end to 13 years of Labour government. The turmoil of that period seems very distant now. But the fact is that the coalition government has exceeded all expectations.
There was a point earlier in the year where a sterling collapse and perhaps even a gilts strike (where there are no buyers for government debt) seemed genuine possibilities. Yet between them, David Cameron, Nick Clegg and George Osborne managed to hold things together, while at the same time trying to push through a significant – if not as brutal as hyped – programme of spending cuts.
But next year’s going to be tough politically. We’ve seen protests over the student tuition fees. We’re seeing a steady rise in industrial action. Many of the LibDems (and a few Tories) clearly feel very divided. And Labour is doing pretty well in the polls. If Ed Miliband can hold all his own squabbling little factions together for long enough to land some real blows on the coalition, we could see proper political turmoil making a comeback next year.
Why does that matter? Well, a less obvious, but potentially more worrying problem is that the government debt situation simply isn’t improving. November’s borrowing figures were far worse than anyone had expected. The markets have given Britain the benefit of the doubt for most of this year. But too many nasty surprises on that score, and we might be back to worrying about gilt strikes and sterling collapses.
And the danger is that the wider the schisms in the coalition, the more likely a collapse of confidence becomes. If things got so bad that an early election was threatened, that could land Britain back at square one.
4. How do investors protect themselves against the unexpected?
One thing that BP taught every tipster in the MoneyWeek office this year was the brutal truth of the old saying: “Never catch a falling knife.” I think almost all of us had a shot at calling the bottom (except Merryn, who’s too sensible for that). I stuck my oar in at around the £3.50 mark – not too far off the eventual bottom, but that was pure luck, and you’d have been far better off sticking the money into one of the rare earth metals stocks we were plugging at around the same time. After all, at that point, BP was a punt – and if you’re going to punt, then you might as well gamble on something that could be a 10-bagger, not an ailing ex-blue chip.
But is there a deeper lesson from all this? High-yielding blue chips are a popular choice for investors right now – and understandably so. In uncertain times, they offer an income and a reasonable level of safety.
But BP was just like that – a safe, high-yielding blue chip – until the Deepwater Horizon disaster. And despite all the books now being rushed out to accuse the company of having a weak safety culture, few investors avoided the stock on the basis that such a catastrophe would happen. Some – including us – were a little wary of BP, but mainly because we were concerned about the sustainability of the oil price, which in the end was the wrong thing to worry about.
So how do you avoid being stung by a BP? I think James Ferguson says it best in the Roundtable in the current issue: “That’s why you always have 16 such stocks, rather than one.” In other words, diversify. As a strategy, it’s simple and it makes sense. And in fact, it pretty much sums up what Stephen Bland does in his Dividend Letter newsletter.
If you want to get your retirement strategy sorted out once and for all this year, then you could do a lot worse than find out more about the Dividend Letter. It’s practical, it can readily form part of your core investment strategy, and unlike many more complicated trading techniques, you’ll actually stick to it.
5. Will the gold ‘bubble’ pop?
Gold’s performance hammered most major stock markets last year. Anyone who bought £1,000 (I’m deliberately using sterling as that’s what most of you will have used) of gold at the beginning of January, would now be sitting on around £1,320-worth. None of the Brics saw that sort of increase, nor the developed markets.
Yet there’s still a great deal of scepticism around gold. It’s not a contrarian bet these day. But nor is it surrounded by the sort of mania you’d expect given its fantastic track record over the last few years. There’s life in the gold bull yet – corrections along the way notwithstanding. Will it see its peak this year? Some of our Roundtable experts think so – but I hate to think what would have to happen to drive gold to a ‘parabolic’ peak.