Hamish McRae: Year-end economic forecasts should bring cause for festive cheer

It is the season for predictions.

Every December sees a flurry of forecasts about what might happen in the coming year — forecasts about the world economy, equities and bonds, oil prices, commodities and so on.

There are the various official forecasts from governments and international organisations such as the OECD, World Bank and IMF.

And there are the hundreds of private sector ones from banks, consultancies and the like.

You may think this is too much information, and for those of us who have a go at this exercise, too big a chance to make an ass of yourself.

But clearly there is a market for them, even if it is only to set a benchmark against which people can test their own ideas.

So what are they saying?

As a general proposition, the economic predictions are reasonably upbeat, but the market ones are rather more circumspect.

The best way to get a handle on the economics is to look at data collected by Consensus Forecasts, which polls more than 250 forecasting enterprises. We won’t get the December results until later this week but for November they were pretty solid.

Growth overall next year would be 2.9%, up from this year’s 2.6%, with the US at 2.6%, Japan 1.3%, Germany 1.8%, France 1.5% and the UK 2.4%. This is the mean and there are outliers: here Goldman Sachs expects 3% growth while Economic Perspectives only 1.7%.

However, no-one is forecasting recession for any of the major economies: the lowest growth figures are for Japan, where three forecasters think growth will be only 0.8% next year.

Forecasts for inflation are for a return to more normal times, with consumer prices expected to rise from near zero this year in the US, UK and eurozone to 1.7%, 1.3% and 1.1% respectively.

Further forward, inflation over the next 10 years is forecasted to average 2.2% in the US, 2% in the UK and 1.7% in Germany.

If that is right, investors in the US and UK would just about break even if they bought 10-year bonds now but would lose more than 1% a year with German ones.

This highlights the illogicality of anyone buying bonds at current yields, particularly eurozone or Japanese ones. Worst of all are Swiss and Swedish bonds, both of which have a prospective negative real yield of 1.2%.

Why buy something that, if you believe the consensus, you will lose money on? Better to remain liquid, even if cash earns next to nothing, and wait for another opportunity.

The only rational explanations would be that there is some regulatory or legal requirement to hold bonds, if you don’t believe the consensus on inflation, or if you think something dreadful may happen and bonds will then be a safe haven.

Maybe it is this illogicality that is unsettling fund managers and their advisers.

Equity values are stretched. Bond prospects are dreadful. Interest rates will climb, initially in the US, eventually everywhere — the only debate being about the timing and speed of the uplift. So what are they thinking?

It is harder to get a handle on market predictions than on economic ones. The various investment banks have targets for indices, favoured “buy” recommendations, and a few big negative warnings.

But these views are too disparate to be boiled down to single items or numbers. So instead here is a sketch of two commentaries that seem to me to catch the uncertain mood.

Goldman’s view is shaped by the expectation the US economy will starting hitting full capacity sooner than others expect and that will mean monetary policy tightens faster than expected.

If that is right the dollar will do well (up 20% overall by the end of 2017), while the 10-year US bond yield will rise to 3% by then end of 2016.

Sterling will perform strongly against the euro, an interesting backdrop to the forthcoming referendum on the EU. The euro and bonds in general are a big “sell”.

Goldman is cautious about US equities, thinks oil will fall in the short-run but recover and the outlook for commodities is not that bad.

UBS has a broadly similar view.

Investments that will do well include most equity markets, but with Europe and Japan overweight and the UK underweight.

UBS, like Goldman, is generally bearish on bonds. The biggest difference is that it thinks the dollar’s climb has pretty much run its course, and though it may rise a bit further against the euro, by the end of the year the euro will be climbing back.

UBS has also done a separate long-term study — looking towards 2050 and into things that will shape our lives in the long-term, such as the declining influence of Europe in a multi-polar world.