Evercore Pan Asset

It’s that time when I have to come off the fence about next year. Not that I have been on it. Investment managers always have a view of what will happen next, whether they can formulate it in writing or not – it’s the portfolio they build which tells you what they think. Our necks are on the block, rather than firmly and coyly tucked in.
 
We said 2010 would produce modest real returns from main assets. We said a balanced portfolio was probably the best and most sensible bet. That worked out quite well. Next year looks tougher. The gap between the bulls and the bears is huge.

The bulls say 2011 will be another year of recovery. They expect the west to keep interest rates low, to carry on rebuilding the banks through capital injections and allowing more profits, whilst the emerging markets carry on emerging at pace.  Against the background of at least 4% worldwide growth they expect good advances by business profits, with gains to be had on commodities and stocks. If there are problems, they anticipate governments doing all in their power to prevent double dip or major crisis, with possible further money printing in the more difficult cases. They like the UK which has started tackling the deficit, and the US which hasn’t. They love the emerging market economies with their rapid growth.

The bears say the crises of 2010 were deferred but not resolved. The Euro area remains very stressed. There could be another flare up at any time. It could take the form of a country unable to manage borrowings at the very high rates the markets now demand of Greece, Portugal, and Ireland. Higher rates could spread to others. It could take the form of the need to rescue more banks on a larger scale. The Spanish banking system remains weak. It could just be the power of compound arithmetic, if the weaker countries fail to lift their growth rates which will be crucial to a successful fight out of debt. Some emerging market economies are in danger of overheating, whilst the strong climb in prices since quarter two of 2009 has taken prices much higher already.  The UK numbers for inflation, government borrowing and bank lending do not look great. The US is failing to tackle its underlying deficit problem.
 
So who is right? They both are in part. The art of next year will be calling the right balance between fear and greed, between hope and worry. We start from the proposition that risk assets are not as cheap as they were. We should not expect too much. We also see next year as a year of further interest rate rises around the world, with government long bond rates going up more. 

The biggest risks seem to us to lie in the European area. There could be a nasty conjunction of banking and sovereign debt problems. We could be some way off a full resolution of the Euro crisis. The Euro remains a single currency in search of a country to back it.    Whilst there are problems in the emerging market economies as well, they are the problems of growth and inflation, rather than the difficulties of broken banks and overextended sovereigns.   

So we recommend balanced portfolios again, but this time with a bit more cash, a bit less in bonds, and well away from the European tribulations.  We wish all our clients and readers a happy and prosperous new year.