What to Expect in 2012

The Year Ahead

2012 is upon us and for the most part it looks like the volatility that produced more triple digit up and a triple digit down days in a single year, 2011, will continue. Volatility along the lines that we have seen is the result of massive uncertainty in the minds of investors about the direction of just about everything.

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2011 could have been a mini breakout year. In the US, economic indicators looked to be turning higher but global growth from two major sources, Japan and Europe took a nosedive, derailing any hopes of a sustained global push.

Europe will remain the wild card for 2012. Right now the European Banks are making use of the European Central Bank Credit facility everyday to the tune of billions of dollars. It’s here that they are parking their cash. They’re not investing in Sovereign debt, not in loans to consumers and not as loans to other banks. Instead they would rather earn 0.25% on their money, knowing that it will be repaid.

Of course, this is what happened in the US and after the 2008 collapse and the reverberations of those actions are still being felt now, in 2012 as tight credit is the norm. The worst part of this is that Europe is still not in agreement on how to solve the crisis so a turndown there could last for many years to come. Ultimately, the Europeans will adopt the Federal Reserve/US Government model for battling recession and that is to put the nation/countries further in debt at a time when consumers and banks are de-leveraging. It postpones the inevitable. The play here would be to bet on a weaker Euro over time and if that results in a stronger dollar, then gold prices will also suffer.

The US Stock markets are becoming more reasonable each day in terms of valuation. Individual stocks are trading at lower price earnings ratios’ than in many years. They may trade lower before this is done. Low p/e’s mean very little if the earnings are not quality earnings. Quality earnings are those that come from growth, not cost cutting. Some sectors are growing but the type of growth is uneven at best and most companies are having difficulty projecting past a couple of quarters at best. Still, the least smelly of all the developed markets may indeed be the United States.

Emerging markets are really where the action and growth is taking place. Without a doubt they have turned the corner on internal growth. This means that they are actually seeing internal demand for goods and services. In the past, these markets were kept afloat by external demand from the West. The wealth effect that is the result of more than 30 years of fairly consistent growth in places like China and India has finally ignited a local boom in these markets. However, despite the great stories out of Asia and South America, these markets are still small and illiquid. This presents an opportunity since markets that are small and illiquid are subject to external shocks. For example, a correction in US Markets or European Markets would lead to a massive correction in emerging markets that is not correlated to the actual activity on the ground. Events like these are what you need to watch out for as opportunities to buy into these markets for longer term growth.

Finally, the big surprise in 2012 will likely be Russia. More about this next week.

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