Happy forecasting 2018: you couldn’t ask for better conditions to make money

Markets have been pricing in a Goldilocks scenario: an economy that is not so hot that it causes inflation but not so cold it causes a recession; where there’s slow central banks and therefore high valuations and low implied volatility; and one that is providing full employment and economic stability

PUBLISHED : Wednesday, 27 December, 2017, 9:25am
UPDATED : Wednesday, 27 December, 2017, 10:34pm

I’m sure you have heard enough dismal 2018 forecasts for one end-of-year already. Mine are a lot more accurate. There will be a football World Cup, Donald Trump will send a tweet, and Friday 13 will occur twice, in April and July.

Contrasting that groundbreaking piece of forecasting is the inaccuracy of most economic and financial forecasts. However looking forward to 2018 we have a veritable Goldilocks economic environment: booming economic growth, low inflation, low interest rates (rising from a very low base), muted salary rises, robots have never been so cheap, nor productivity (if measured properly) so high.

You couldn’t ask for better conditions for companies to make money!

On top of this, President Trump has given the US and therefore the world economy a huge Christmas present in the form of his tax bill, which has dumped US$1.5 trillion into the economy.

In perspective, the US Federal Reserve injected US$4 trillion to pull the US economy out of the deepest recession in nearly a century. Trump has poured fuel on the flames of a booming economy – he will most probably be faced with the inevitable crash before his first term ends. Explain that legacy to the “millenniums” whose economic futures have been crushed.

It takes time for markets to lose confidence. The biggest economic risk this year is likely to come from proxy scraps between the superpowers such as (another) Korean War, which would be very damaging for China too

But such bad times will almost certainly not happen in 2018. It takes time for markets to lose confidence. The biggest economic risk this year is likely to come from proxy scraps between the superpowers such as (another) Korean War, which would be very damaging for China too.

Anything less, unless it happens to be the Saudi monarchy boiling over, is unlikely to impact the global economy

Goldilocks markets make it too tempting not to make some forecasts, if only to laugh at them in 12 months time, so here goes:

Equities are likely to have a rocket behind them. I would expect a big first quarter then a pull back, or big January then a pull back, or a more sober rise until June. The more severe the rise, the bigger the pullback. Of course, equities are overvalued and expensive but Trump’s liquidity injection gives the markets plenty of energy. Regardless of how the rise occurs, I would expect that by year-end the world equity index to be a double-digit percentage higher.

We are due for a Trump Slump in bonds and this is probably the year. Bonds will worry over higher inflation and interest rates. (Note to readers: I have said this for the last five years; a stopped clock is right twice a day). I expect this year that the yield curve, a plot of interest rates at the different maturities, will start to turn negative and begin to look like a “J”.

This stage of the economic cycle means pressure on the US dollar. It is heavily overbought anyway and it should trend southwards against the Euro and emerging markets currencies, but I would not expect it to crash with such a strong US economy. One currency is as isolated as a limping wildebeest surrounded by hungry lions. Brexit has turned sterling into red meat for when the traders want to play.

Commodities are possibly the most exciting sector of all for 2018, especially coal, iron, copper, aluminium, zinc. Let’s hear it for Australia!

At this stage of the cycle, gold will lose its lustre, and oil will rise maybe another $10. Private equity should be a winner, as such companies are perfectly placed to show good corporate earnings - and investors will have loose pockets.

Bringing up the rear is bitcoin. It is neither a currency, nor an asset, nor a commodity; it is like a virtual derivative. Bitcoin did not have its best year in 2017 (up only 1,700 times); in 2013, it was up 3,900 times. Tut, tut. In 2014 bitcoin ended 40 per cent down. I can see history repeating itself in 2018.

Observant readers will note that some of these moves have already started, others are yet to come. A lot of these trends are normal for this stage of the cycle. This is to be expected in any economic forecast. Spotting the end of the cycle will be more difficult.

Investors must always believe forecasts to be wrong, or right for the wrong reasons, or wrong for the right reasons - but they are worth doing because we still need a road map. Invest for the case that best fits your views but prepare for something different. The most important lesson is that it should be in the nature of any investor to expect the unexpected.

Richard Harris is a veteran investment manager, banker, writer and broadcaster and financial expert witness.