Our 2018 Forecasts

Thu, 2017/12/21 - 9:04am | Your editor
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The pace of debt accumulation and faster inflation will cause the People's Bank of China (the Chinese central bank), to act more aggressively, tempering economic growth in 2018.

And if we are to believe The Economist Intelligence Unit, the same thing will trigger more interest rate rises by the US CB, the Federal Reserve.

Meanwhile Britain is again scaring off investors. It is the world's least loved market (even for its own citizens.) Fund managers told BofA Merrill Lynch that they are reluctant to investing in the UK.l Yet Forbes magazine, while now a bare relic of its past glory, has just called Britain the best country in the world for doing business, beating 152 other countries. Its shares gained a respectable 10%R or so in 2017 but not as much as the US and European rival bourses.

Next year is the key one for the terms of Brexit (British exit from the European Community) and anyone's guess is unlikely to come true given the pressures on the minority May government. There are risks of collapse in the City of London (the financial center) and business overall. But so far these same risks, which have existed since the polling in June 2016, have not derailed the UK economy. So no forecasts here.

Having dumped UK stocks over the Brexit vote and the low poll for the Conservatives, the newest reason for exiting Brexit market Britain is the prediction by lefty Labour Party leader Jeremy Corbyn that there will be another election in 2018 and he will win. That will end the UK push for lower taxes and regulations, which has boosted the London stock exchange. The International Monetary Fund (IMF) lowered its 2018 British growth forecast to 1.5%, warning of pressure on public finances, austerity, and tax rises if the negotiations to exit the EU go wrong.

My favorite foreign market, Canada, also faces uncertainties, what with oil prices, renegotiating Nafta, and its own tax reform. I am worried but not taking profits yet. And some sectors like banking and consumer durables are more attractive north of 64'40 than south of it.

How about The Economist's “country of the year for 2018”, Emmanuel Macron's France? It reminds me of the famous remark by Chou En-Lai on what he thought of the French Revolution: “it's too early to tell.” This is particularly important because the magazine's “country of the year for 2017” was Myanmar, chosen before the persecution of the Rohingya, a year ago, but still a wild card choice. The French juvenile in office is still working to defang its powerful unions on the left and the populist forces on the right. Internationally he must work with whatever new combination of parties Germany comes up with after his buddy Angela Merkel lost control. Brexit is one threat; another is the impact of tightening on France's left leaning state-dominated economy.

Despite the politics and uncertainties, however, the UK stock market like that of France, the USA, Canada, Japan, Australia, Hungary, New Zealand, Argentina, Germany, S&P Latin America, and Shanghai are near their 2017 highs as I write. The S&P 500 is trading at 22.5 times earnings now. China where change is coming for sure trades at only 13.5 times earnings.


Bah, Humbug! And what does this portend for 2018?

Chances are that while central banks across the world next year will be tightening rather than ultra- accomodating, but moving slowly and cautioursly. Unless a real risk of wage hikes and inflation rears its head. That would produce another taper tantrum. But the consensus is that interest rates on the 10-year US Treasury bond will be near 2.5% toward the end of 2018, which won't hurt the US GNP.

If the global locomotives, the USA and China, slow too much next year, the odds are sales and earnings won't keep up with inflation, a risk confronting the two leading global markets. While Trump and Xi both like consumption, prosperity, growth, and jobs, jobs, jobs, they also must keep their economy on a sensible course.

The Organisation for International Cooperation and Development (OECD), the rich couniries' club, presicts that inflation will halt at 2.1% in 2018. I hope they are right. Meanwhile the IMF forecasts that growth will be 3.7% worldwide, up 0.6% from this year. However the USA growth rate will be a modest 2.5% in 2018 according to the IMF and Bloomberg economists.

We are not mere buyers of dividend stocks, but clearly a nice payout ratio appeals to shareholders. The most vulnerable sector for this is consumer durables, trading at a high-looking price-earnings ratio. But where a reversal of quantitative easing moves is a risk, it will be carefully done. However the inequities of US tax reform will deliver less of boost to consumption and growth than a more egalitarian tax cut. Poor people spend money they get faster than the idle rich.

I am still pondering what to buy for yield apart from bonds and telcos. Any reader with a hot idea is welcome to share it with this puzzled investor.l

Also vulnerable to a correction are other sectors where growth can be nipped, ranging from autos to banks which have done very well during recent periods of very low interest rates. While the regulatory overkill put into place after the global financial crisis is being eased somewhat, banks are being required to raise their capitalization just as money is becoming dearer. As a result, their shares will be less lucrative for investors. Customer protection is being reduced in the USA but not in other developed countries where red tape is increasing.

The end of quantitative easing means bond investors face a capital loss. Fixed income is a tough one to write about for 2018.

The dramatic rise of the so-called FAANG shares—Facebook, Apple, Amazon, Netscape, and Google (now Alphabet)—is unlikely to repeat at the same pace for another year. It is important to mention the new name of Google because it is the second most profitable of the group companies. The leader is Apple which next year may become the world's first trillion dollar company on current trends.

Chinese counterparts, the BATS—Baidu, Alibaba, Tencent—are less vulnerable (because their p/e ratios are lower) but BATS too won't grow to the sky. They are all functioning on government tolerance, notable TCEHY which is in the business of luring in Chinese youngsters (mostly boys) with video gaming, not exactly a good thing from the viewpoint of Beijing. So Tencent profits may diminish with its more socially acceptable role in retailing, already coming into play in late 2017. We are watching. Not selling yet, but trigger-happy. I want to be rewarded for playing China.

Outside the gaming world, we remain focused on the rise of Asian modernity in areas like insurance. China will grow its economy next year (or soon thereafter) to overtake the EU, at $12 trillion. We expect renewed growth in India and are nibbling at the country, so far mostly with funds. This may change if we get good ideas.

I have hopes of building up our current zero presence in Australia and New Zealand, which offer English language stock analysis (if wilder than our own.) We had a bad experience with drug firm Benitec Down Under and now only have its long-shot warrants. As a matter of exactitude I don't think that Orocobre counts as an Oz stock. I retained my personal stake in a power company and am thinking about raw materials, but I am not yet ready to publish on this. Wait for next year for Crocodile Dundee!

Saudi is surely going to flog Aramco in 2018 but which market gets the deal is unclear. I have mixed feelings about Mohammed bin Salman, now the heir apparent. His nicehess to movie theaters and woman drivers, and his crackdown on corruption threaten to rile the theocracy. Yet some of his own spending is un-Islamic and dangerous to his position.

As Russia goes to the polls on April Fool's Day in 2018, there is little doubt that the victor will be good old Vladimir Vladimirovich Putin, who will thereby become the longest ruler over Russia (to 2024) since Joseph Stalin. He will continue interfering in elections around the globe, but I expect that a deal with Trump will come next year. In 2017 the dirt on Russian fake news and other mischief has kept the Presidents from doing what they both wanted before they were elected. Next year memories will be shorter and they will figure out how to get together.

The history of the past century shows that whenever inflation takes off, a debt crisis results. Banks and financial stocks are vulnerable, but bitcoins most of all.A company which changed its name to Riot Blockchain in October has risen 730% since then according to Ben Levinson, writing in Barron's Dec.18. An estimated quarter of early Bitcoin buyers lost their private keys and can't retrieve their bitcoins.

I worry that the local Turkish Cypriot shopkeeper who sells me my daily newspapers is a bitcoin investor who expects to get over £100,000 when he finally sells his crypto-currency, which he says cost him £300 per. It is like the pre-1929 stock market frenzy which caught fire when the guys shining shoes joined the rush to buy shares—about when the smart money, like Joe Kennedy, sold out. If it happens soon enough in 2018 the global economy will just shrug it off. The longer bitcoin runs for, the greater the systemic threat to the world economy. So I hope it crashes soon. A rival cryptocurrency founder, litecoin, sold out after making 75 times his investment, Charlie Lee, the Joe Kennedy of 2017.

The end of bitcoin will boost a favorite alternative investment of mine, gold. It has already begun a surprising comeback (it always surprises) rising after the Trump tax deal chopped a bit off the dollar's exchange rate. Gold moves inversely to the Greenback, in which it is priced.

The normal gains from housing as an investment will be nipped by the new US tax code, particularly in blue states on the US coasts. So too will the value of previous losses which will offset smaller future gains than before the Tax Reform Bill of 2017. Pharma stocks are particularly vulnerable here. In addition the favorites of cautious investors, utilities, if they are regulated, must ccede to customers the money saved from lowered corporate taxes. (Unregulated utes get to keep it for their shareholders.)

Autos, particularly the fluffy self-drive electric motor bits, are also high risk. As a general rule, I suggest that you avoid “fashion and fad” stocks which nearly always come a cropper.

The family car is vulnerable to a go when needed option. On visiting the shopping mall at Canary Wharf I spotted a few Tesla cars on display. I suspect they are not real because they only place they could drive to is the Dockland Light Railway tracks. It is just that the new London financial center is trendy. And there is not much appeal in visiting parking garages to test-drive a Tesla. Car parks are out along with retailing! Diesel motors for cars (if not trucks) are dead.

Shopping moving on-line means problems for retailers with masses of space to fill.Some are hosting start-ups or specialized boutiques or dining options. Or Tesla dealers! The trend away from department stores is obvious. However a pure bear fund like the new Proshares EMTY Exchange Traded Fund for shorting classic store stocks sounds terrifying too. Nostalgia can make a come-back. Note the course of Microsoft and Blackberry and the surprise UK best-seller, record players and radios looking like the ones of my pre-transistor childhood.

A future growth sector may be telecoms, another favorite of yield-seekers, where the rise of 5G and other amazing technology will require people and telephone companies to upgrade equipment. US telcos won a tax deduction to be taken upfront for upgrading networks, which is also good for suppliers like Nokia, my favorite nostalgia stock in this sector. Unlike bitcoins or self-driving vehicles, this is not a fantasy sector to dream about. The whole world runs on smart cellphones already. Just about the only financial products where huge growth is visible are payments systems, savings, and insurance products which are sold to cellphone users in emerging markets. However questions about access to bandwidth and net neutrality show the degree to which the whole communications complex is still heavily regulated. So it is not a slam dunk either.

By country I think the US under the fickle Donald Trump and without any slack in its labor supply is clearly vulnerable to price rise risks. I'm not sure our happly prosperity can survive this Administration. China is in a similar boat but is a less open economy with fewer levers of control. It is much harder to call and thrre is a risk of capital flight, why the PBOC has to copy US rate hikes.

Britain, Israel, Hungary, Poland, Russia,Ukraine, Slovakia, Austria, Germany have so far escaped without injury from their mistaken political choices in the past few years. Their impossibly populist or nasty nationalist movements create irreconcilable splits in the mainstream political arena. But half these countries now face an election which means trouble.

Other countries are also at risk of left and right extremism or corruption or both: Mexico, India, South Africa, Egypt, The Philippines, Brazil, Spain, Greece, Turkey, Austria, Myanmar, Thailand, Cambodia, Pakistan, Vietnam, Bangladesh. One way to deal with political risks is to ignore them when picking stocks. This is logical, because only a small percentage of the political risks we spot coming in fact do hurt the economy and the stock markets of affected countries.

Another maxim is to find good companies in bad neighborhoods, which can prosper despite the political upheaval in store. As news-hen I am often too influenced by the headlines when prospecting markets. If stable politics were the only criterion, we would wind up invested only in Canada, the Scandinavian countries, Switzerland, France, Japan, and a few Latin American countries which look safe in the short term because they already have had key elections.

Ultimately what will make money in 2018 is what we have been doing for years, searching the world for little-known stocks with which to beat the averages. Our taste is for smaller accessible uncontrolled non-family non-state sector foreign companies too obscure for the herd of index-hugging funds which focus on large caps. We do not buy indexes. We buy companies.


More for paid subscribers from today's scant news follows on drug firms and Latin America, mostly but not only.

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