History will look back on 2009 as a year of quite remarkable financial recovery. From fragile markets staring at the abyss and weak sentiment in the first half of the year, driven by fears of further large banking and corporate collapses, global equity and debt markets have recorded a strong recovery in the second half. The steady manoeuvring by global financial leaders was aided by unprecedented fiscal stimulus programmes by governments and extraordinary low interest rates. These saw major industrialised economies crawl out of recession whilst many of the larger emerging markets continued their onward march.
But what are the prospects and themes for markets and economies in 2010? A number of key themes will likely have a significant impact on the progress of markets and economic growth this year. These range from commodities to sovereign risk to credit markets.
Although we saw some volatility in 2009 with downgrades at euro zone countries such as Greece and sharper risk adjustments at highly vulnerable sovereigns such as the Ukraine, this year may see other countries face credit downgrades. Surprisingly, it could well be currently AAA-rated countries such as the UK with their substantial levels of debt, which could experience a downgrade. Growing levels of debt for some countries, mainly due to financial support and fiscal stimulus, expose their potential for further problems if negative market events occur.
Some of the still highly indebted emerging markets, including those in Europe, may remain under pressure but others, which have had a challenging time over the last few years such as Russia may have passed the worse. Overall, the key will remain debt levels and management with the onus on improving growth, better terms of trade and higher tax collection to improve sovereign positions.
Interest rates and yields
For most economies, interest rates remain at or near historical lows following central bank easing over the last two years in order to support economies hit by the global financial crisis and inject liquidity. Some G20 countries have already embarked on increased rate cycle such as Australia but more will undoubtedly follow in 2010.
As international trade volumes and global industrial production rise, the economic cycle is turning and, with it, rates will begin to rise back to more normal levels following the dramatic and emergency-based monetary policy reductions over the last two years. For the US, which is likely to be the flagship bearer for rate rises in 2010, the increase will be marginal and certainly not until at least the second half of the year.
The challenge for all countries will be to make sure that any increase in rates does not choke emerging economic growth. The bond market traditionally does not like rate increases but the market is already pricing in rate movements.
However, investors will be wary of sovereign bonds due to higher uncertainty about interest rates and credit ratings and there could well be a sudden sell-off.
Total public debt as a percentage of GDP is expected to exceed 100 per cent in advanced economies in 2010 highlighting balance sheet risk as mentioned.
At the beginning of 2009, the sharp declines in commodity prices of the previous year seemed to be following the usual downward trend of commodity markets during and after a global downturn. In the end, however, prices rebounded quickly and staged a strong rally from the second quarter of 2009.
The commodity price rally at the early stage of the recovery in global industrial production contrasts with past experience. After previous global industrial downturns, prices typically continued to fall or rose at very modest rates. The IMF's commodity price index rose by over 40 per cent in the eight months since global industrial production reached a trough in February 2009. In contrast, after earlier downturns, it rose by only five per cent on average over the eight months after a trough.
Most commodities will enjoy a good year in 2010 with already strong demand rising further as global growth accelerates. The price of oil will remain robust throughout the year, reflecting a tight supply market and rebound in global oil demand.
Expectations of a continued global economic turnaround have already supported oil markets, and this will continue in 2010. As global economic growth makes further progress with the key US market returning to growth and continued strong demand from China, the oil price will begin to move towards $100 per barrel. With stronger prices expected going forward, this will provide a positive economic push for the Gulf region.
After touching recent record highs of above $1,150 per ounce, the gold price has come back as investors booked profits. For a number of reasons, the price of gold is likely to see sustained rises during 2010, gathering momentum in the second half of the year. The main driving factor behind the strength in gold will continue to come from investor demand.
Jewellery demand has been weak in 2009 following the global economic downturn and weaker consumer expenditure, but jewellery consumption is expected to improve in 2010 as the recovery broadens throughout the world.
Although there will be individual problems, emerging markets as a sector is expected to maintain a good performance in 2010.
Increasing global growth and world trade will boost emerging markets. In addition, those they are resource and commodity based will benefit from higher commodity prices. Many emerging markets will also aided by stronger domestic demand with consumers. However, that said, emerging market returns will be solid and certainly not spectacular. Many feel that a correction could occur and a catalyst could be any problems emerging in China.
Asset prices in China spiralled upwards during 2009, creating what some market observers believe is a bubble. The extent of growth of lending which has helped fuel asset price increases has seen Chinese banks embark on capital raising exercises.
A forced reduction in lending volumes could be the trigger to prick the bubble. China's economy is growing by around nine per cent but the expansion has even seen the Chinese Central Bank to warn that the country is among the emerging markets facing risks of property and commodity-market bubbles.
Any tightening of monetary policy in China may not only curtail economic expansion and asset price appreciation there, but it may have negative implications for other markets. However, for the time being, emerging markets are likely to maintain the upward trajectory.
The past two years have been very tough for the Gulf with corporates, banks and economies hit hard by the global financial crisis, in particular the squeeze in financing and liquidity, the sharp drop in the oil price, and the significant fall in asset values. High profile corporate defaults also added to the negative sentiment.
However, the bottom of the cycle is considered to have passed and the nadir reached. This year should see a recovery for the region with improved economic growth, more stable asset prices, and improved financial positions led by the expected high average price for oil.
- The writer is a US-based commentator on business issues. The views expressed are his own
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