LBBW Outlook 2016

Transcription

LBBW Outlook 2016

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Prism binoculars
Patent: Prof. Dr. Ernst Abbe
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Outlook 2016. Made in Germany.
Reasons to keep calm.
Dear readers,
It gives us great pleasure to
present you with an overview of
the expected development of the
economy and the markets in the
coming year.
Publishing information
Editorial desk:
Research
Am Hauptbahnhof 2
70173 Stuttgart
Editorial deadline: 9 November 2015
Photographic sources: ThinkStock, Landesbank Baden-Württemberg
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Contents.
1 Editorial
4
2 Economic outlook
2.1 Global economy – projection
Special topic: globalization – taking a breather or coming to an end?
2.2 Eurozone
2.3 United States
2.4 China
2.5 Emerging markets
2.6 UK
2.7 Switzerland
Calendar – important events in 2016
6
10
11
14
16
21
23
28
29
30
3 Germany
3.1 Germany – economy
3.2 Brief note on the refugee crisis
32
34
40
4 The risks
The six biggest risks in 2016
Risk 1: The multipolar proxy war in Syria
Risk 2: China’s growth trap
Risk 3: Emerging markets: Are foreign funds being withdrawn?
Risk 4: Is a repeat of the 1994 crash threatening on the US bond market?
Risk 5: The »Japan scenario«
Risk 6: Capital markets are drying up
42
44
46
48
50
54
59
62
5 Our forecasts for 2016
Growth forecasts
5.1 Yields/spreads
5.2 Currencies
5.3 Commodity market
5.4 Equities
64
66
67
71
73
77
6 Conclusion
Cross-asset synopsis
82
84
Landesbank Baden-Württemberg – Outlook 2016
3
1 Editorial.
Dear reader,
You now have in
your hands the
third issue of LBBW
Research’s annual
outlook. We are
looking to the
coming year 2016
under the watchwords »Reasons to
keep calm« after seeing »Reasons
to act« in 2015. There were certainly plenty of reasons to act in the
extremely volatile markets of this
year, and of course this will at times
force us to take courageous action
next year. At present, the situation
is marked by strong uncertainty
among financial players when it
comes to assessing the economy,
which I think leads to hectic overreaction at times and thus creates
fresh risks. Our emphasis for next
year will thus be on level-headed
action.
The euro area and Germany in
particular have shown a substantially better economic performance
in 2015 than we projected in our
upbeat forecast a year ago, and
our economic outlook overall remains characterized by optimism.
However, we project a slight shift
in growth momentum, away from
the emerging markets towards
4
the developed economies. It will
remain exciting to see how politics
and business in Europe, especially
in Germany, respond to the flow of
refugees. Will the federal states,
countries and regions drift apart,
with a growing isolation between
the economic areas? This would
certainly be negative for the economic prospects. Or will the many
different challenges of immigration
be mastered successfully and the
opportunities it presents be used
as a positive stimulus in economic
terms? We devote a separate section to this question and recommend level-headedness also in this
regard.
The capital market outlook is determined substantially by the US Fed’s
interest rate policy. We expect the
Fed’s first rate move since the last
cut in 2008 at the last possible
date this year, which is the meeting
on 16 December. At the same time,
the ECB is opening money supply
even more and for even longer. This
means that we expect to see a complex mix of the factors determining
the interest rate trend in 2016, but
ultimately rising returns. What is
making matters worse for everyone,
market liquidity is declining on
account of (i) the central bank activities and (ii) the regulations limiting
market-making. As I see it, the
equity market remains well-supported by liquidity and the overall
stable economy; in Europe, in
particular, there is still considerable
upside potential even though the
good mood predominating among
equity investors in the first half of
the year has now given way to considerable uncertainty. The issues of
VW, China, the emerging markets
etc. will remain sources of volatility.
In an interlinked world that is
becoming increasingly more volatile,
people are having to absorb increasing amounts of information. More
than ever, therefore, it is necessary
to »take a step back« when making
an investment decision, to think of
the fundamental analysis and to
keep an eye on the risk/return
ratio but also on market liquidity.
A reason to be level-headed! This
watchword should thus stand both
investors and the central banks in
good stead in 2016 and lead to
profitable decisions.
Yours,
Uwe Burkert
Chief Economist and
Head of Research
5
2 Economic outlook.
The industrialized nations are
likely to record relatively solid
growth next year, both the US and
the euro area are on the upturn.
In 2016 large parts of the growth
will, however, be once again generated in the emerging markets.
Some countries, such as Russia
and Brazil, have had a relatively
hard year, not least on account
of the declining oil price, but the
situation for Brazil and Russia is
expected to improve slightly next
year. The importance of the strain
factors will decrease, but the previous momentum recorded in
the emerging markets will not be
reached over the coming years,
especially in China.
Economic growth in 2016:
emerging markets as the engine.
< 0%
between 0% and +2%
between 2% and +4%
between 4% and +6%
more than 6%
not available
8
Source: IMF
9
2.1 Global economy – projection.
Summary projection overview.
GDP forecasts:
2015: 3.2 %
2016: 3.6 %
Matthias Krieger
On the basis of the economic
trends and developments sketched
out in the following articles we have
summarized our forecasts of GDP
growth of the major economies
and regions for the coming year
in the following table. The expected growth rates of the emerging
markets excluding China are based
on the estimates published by the
IMF in its recent »World Economic
Outlook« of October 2015. For the
global economy as a whole we are
deriving a growth rate of 3.6 % on
this basis for 2016. The growth
rate would thus be around 0.5
percentage points above that for
the year that is now drawing to a
close. In a historical context this
means persistent relatively anaemic
economic momentum; however, at
least it seems that the situation has
bottomed out.
Data & forecasts
GDP growth (%)
2013
2014
2015 p
2016 p
World (LBBW)
3.3
3.4
3.2
3.6
US (LBBW)
1.5
2.4
2.5
2.8
China (LBBW)
7.7
7.3
6.8
6.5
Japan (LBBW)
1.6
– 0.1
0.8
1.2
UK (LBBW)
1.7
3.0
2.4
2.2
– 0.3
0.9
1.4
1.5
Euro area (LBBW)
Germany (LBBW)
0.4
1.6
1.6
1.7
Developing Asia (IMF)
7.0
6.8
6.5
6.4
Latin America (IMF)
2.9
1.3
– 0.3
0.8
Emerging Europe (IMF)
2.9
2.8
3.0
3.0
CIS (IMF)
2.2
1.0
– 2.7
0.5
Global trade volume (%) (IMF)
3.3
3.3
3.2
4.1
Sources: LBBW Research, IMF World Economic Outlook 10/2015 (p = projection)
10
Special topic: globalization – taking
a breather or coming to an end?
While the global economy continues to record positive GDP growth
rates, global trade has been
showing a declining to negative
growth rate in USD terms already
since 2012 on an annualized basis.
In the past few months global trade
volume has on average been 10 %
below the previous year’s levels.
Adjusted for price and exchange
rate effects the pace of growth has
declined to figures close to 0 % in
some cases. Until 2008, growth of
global trade volume outpaced global
GDP growth. Since 2012, however,
its rise has been disproportionately
slower, the factor has now decreased to 0.7.
It is conceivable that international
value chains have changed, for
example because countries such
as China buy less preliminary work
from abroad, opting to perform it
themselves instead. This would explain why exports of the emerging
markets are tending to continue
their respectable growth while
those of the developed countries are
showing a slower pace of growth.
Of course, such effects arise once a
country rises up in the value chain.
Then again, the country is then
also able to export higher-value
products. This does not mean that
global trade grows more slowly as a
result. And if wage levels have risen
in an emerging market, this increases the incentive for obtaining
input products from other emerging markets with lower production
costs. The argument that the ability
to manufacture higher-value goods
is a reason for the declining momentum of global trade is not really
convincing.
Moreover, the assumption that this
is the reason for the declining
export momentum, at least of the
developed nations, is not very
plausible. This is evidenced, for
instance, by the history of the EU.
The creation of the single market
has revived the exchange of goods
between countries of a similar level
of development. A higher standard
of living in the emerging markets
opens up export opportunities to
industrialized nations in the form of
higher-value consumer and capital
goods. Germany’s exports to China,
for example, are on the increase
rather than on the decrease as
China’s per capita GDP rises.
At the start of »globalization«,
however, companies began to take
11
advantage of cost benefits in other
countries for production purposes.
If countries rise in the value chain,
they gradually switch sides. They
then start exporting higher-value
components themselves and increasingly import simple products.
The vigorous expansion of supplier relationships in East Asia,
in particular, is evidence of this.
Here, we have seen not only a close
preliminary work relationship between emerging and industrialized
nations but also between emerging
markets themselves. A general
saturation in the exchange of preliminary work would only materialize
if the comparative cost benefits
were to disappear. For this to
happen, however, there would need
to be a convergence of all emerging
markets and an unchanged group
of countries that participate in the
production chain. The fact that
there are still major differences
between the individual emerging
markets and that countries such
as Vietnam, Indonesia, the Philippines, Myanmar and Cambodia are
increasingly included in international value chains argue against this
hypothesis, however.
12
Another explanation would be that
capital mobility and the exchange
of goods are restricted. In fact, protectionist tendencies saw a revival
following the 2008/09 crisis. Brazil,
for example, introduced restrictions on industrial goods exports.
Sanctions restrict exports to Russia,
and imports also decreased in
other Eastern European emerging
countries suffering from the conflict between Ukraine and Russia.
Moreover, in recent years there
has been an increase in non-tariff
barriers to trade in the ASEAN
countries. Ahead of the realization
of the single ASEAN market by the
end of the year 2015 some countries have introduced »hidden«
protection measures (so-called
non-tariff barriers) in favor of their
companies in order to minimize
the risk of a shock once the single
market comes into effect. Over the
longer term, however, the domestic
market should lead to an increase
in the exchange of goods here. The
creation of large free trade areas in
Asia/Pacific (TPP, RCEP, AEC) is expected to have a similar effect, and
a similar project is being planned
between Europe and the US with
the TTIP. We consider that increasing protectionism is currently a
direct investments in the emerging
markets and thus, for example, to
export equipment to the emerging
markets.
reason for the decline in elasticity
between global trade and GDP in
recent years. Against the backdrop
of efforts to create new, large free
trade zones worldwide this protectionism is in fact, in our opinion,
temporary and does not amount to
a move away from free trade and
thus from »globalization«.
Summary: The declining pace of
global trade growth affects exports
of the industrialized nations, in
particular. This is due to temporary
protectionist tendencies in some
emerging markets. Secondly, cyclical factors are exerting a dampening effect. Over the longer term,
the latter should decline and, in
conjunction with the integration of
further emerging markets into the
value chains and the creation of
large free trade zones, this should
provide a boost to global trade.
Cyclical reasons such as the decline
in China’s demand for imports
due to economic reasons and the
global rise in risk aversion are also
weighing on the growth rates of
global trade. Since 2014, geopolitical uncertainties and a weak global
economic setting have dampened
companies’ willingness to make
Global trade volume with MAV 5 years (% y-o-y)
25
20
15
10
5
0
–5
–10
Sources: Thomson
Reuters, LBBW
–15
–20
Global trade (volume; % y-o-y)
MAV 5 years (% y-o-y)
–25
00
01
02
03
04
05
06
07
08
09
10
11
12
13
14
15
Source: Thomson Reuters Datastream
13
2.2 Eurozone.
Solid growth despite political cooling-off.
GDP forecasts:
2015: 1.4 %
2016: 1.5 %
Julian Trahorsch
It has taken seven years for the euro
area to return to the level of economic output it had before the crisis.
These were seven difficult and sometimes bad years, especially for the
countries in the periphery. Can we
now look forward to seven good
years? It probably depends on what
yardstick we apply. We expect the
uptrend to continue next year. Most
countries will even grow slightly
faster. Despite the major Greece
crisis 2015 was on the whole a good
year, also because a large number
of factors provided support. A low
oil price, a weak euro and the ECB’s
accommodative monetary policy
have helped businesses and consumers alike. These positive effects will
probably continue to be felt next
year. We think that the ECB will do
even more this year and are expecting it to expand its asset purchase
program beyond September 2016 at
its next Council meeting in December. This is likely to happen in particular if inflation rates remain low.
14
The low rates of inflation also provide a huge benefit in real economic terms as they ease the burden
on consumers. German real wages
are expected to rise by almost 3 %
already this year, making it possible
for private households to consume
more. We therefore expect domestic consumer spending to make
another strong contribution to
growth next year. An additional
impetus might also come from the
countries themselves. Although the
austerity course will probably be
maintained, public-sector spending
in 2016 might rise as a result of the
refugee crisis. This additional expenditure on housing and food will
very quickly find its way into the
economy. New housing needs to
be built, food and drink purchased,
additional jobs need to be created
to look after and coordinate the
refugees.
Many unresolved political problems in Europe
Europe’s politicians will have to run
the gauntlet in 2016. Not only will
the political debate in Brussels be
dominated by major issues such as
the fair distribution of refugees and
the UK’s continued membership
of the EU, we are also facing an
exhausting political year at country
level. In Spain, a new parliament
will be elected just before Christmas, the Rajoy government is expected to lose its absolute majority.
A new government will next year
have to take into account both the
growing popularity of anti-austerity
party Podemos and the independence movement in Catalonia. In
Italy, too, fresh elections may be
upcoming in 2016 as Prime Minister
Renzi is planning to adopt the constitutional reform by summer 2016.
The Senate’s powers are to be drastically reduced, making it easier
for majorities to be created in Italy;
however, the senators have yet to
approve the curtailment of its powers. By calling an election ahead of
the vote, Renzi could strengthen
the backing from the electorate.
An election in the aftermath of the
vote is also conceivable since the
new constitution would not come
into effect after fresh election. This
means that Renzi would have to
come to an agreement with the two
chambers of parliament which are
blocking each other until the next
scheduled election in 2018, but
this does not fit in with the image
of the impatient dynamic reformer.
Moreover, in 2016 it will probably
be necessary once again to hold
discussions with and about Greece.
Greece is de facto insolvent; the
third consecutive bailout package
has done nothing to change the
situation.
All told, what emerges is the
picture of a heterogeneous and
disunified economic area in which
many countries are still grappling
with their own problems, but which
is likely to face an economically
good year nevertheless. We are
projecting euro area growth of 1.5 %
next year and expect that a compromise between the countries will be
negotiated for most problems.
LBBW Research
2015
2016
Euro area
1.4 %
1.5 %
Germany
1.6 %
1.7 %
France
0.9 %
1.2 %
Italy
0.7 %
1.0 %
Spain
3.2 %
2.5 %
15
2.3 United States.
Heading into the interest rate turnaround
with robust growth.
GDP forecasts:
2015: 2.5 %
2016: 2.8 %
Dirk Chlench
The US started this year with little
momentum. GDP rose at an annualized rate of only 0.6 % q-o-q in the
first quarter of 2015. The stagnation of macroeconomic performance
was attributable to a series of
special factors. The exceptionally
cold winter, the go-slow strike at
the West Coast ports and the slump
in capex in the oil industry are
worth mentioning in this respect.
This was followed by a countermove
in the second quarter of 2015
when economic output surged to
an annualized rate of 3.9 %. The
mainstay of growth in the second
quarter was consumer spending,
which, thanks to the recovery on
the job market and a decline in the
personal savings ratio, rose at an
annualized rate of 3.6 %. By contrast, companies held back with capital spending in the early summer.
While companies ramped up their
investment activity with regard to
commercial structures at an annualized rate of a good 6 %, equipment
16
spending remained virtually flat.
The foreign trade deficit declined
slightly in the second quarter. On
the whole, the US economy grew
at an annualized rate of 2.3 % in
the first half of 2015. According to
a preliminary estimate by the US
Department of Commerce, which
means that it is susceptible to
revision, the US economy grew at
an annualized rate of 1.5 % in the
third quarter. By contrast, domestic
consumer demand, a kind of core
GDP, recorded robust annualized
growth of 3.2 %.
The pace of expansion of the US
economy should pick up some
speed over the coming quarters.
This is suggested first of all by the
fact that the decline in the number
of US drilling stations in use has
slowed down perceptibly. This, in
turn, suggests that the construction spending of the US oil industry
should soon start to bottom out.
According to our calculations,
construction spending slumped by
46 % on an annualized basis in the
first half of the year, thereby curbing economic growth by around
0.5 percentage points. This strain
factor should thus disappear over
the next few quarters. By contrast,
consumers are benefiting from
the slump in crude oil prices. We
estimate that the gasoline bill of US
consumers this year will be around
USD 85 bn lower than last year.
On top of this, there are further
cutbacks through the decline in the
price of other sources of energy.
Because filling station selling prices
of gasoline have remained below
USD 3 per gallon since October of
last year, consumers are likely to
consider the savings to be increasingly permanent.
4.5
450,000
4.0
400,000
3.5
350,000
3.0
300,000
2.5
250,000
200,000
2.0
2005
2006
2007
2008
2009
2010
2011
2012
Personal spending on gasoline and lubricants (in USD million)
Filling station selling price for one gallon of gasoline (right-hand scale)
This, in turn, should increase their
inclination to spend their gasoline
savings. All the more so as consumer confidence is at a height-ened
level. But the consumer will probably not remain the only pillar of the
US economy. In the second quarter
2015 the government increased
its spending on consumption and
investments at an annualized rate
of 2.6 %. Government spending is
expected to more or less retain this
2013
2014
2015
2016
1.5
Sources: Bloomberg,
LBBW Research
pace of growth in the coming quarters on account of the improved
budget situation, especially at central government level. As a result,
government spending in 2015 is
likely to grow again following four
negative years in a row. Alongside
the fiscal policy outlined, a large
number of further, previously
unseen and more structural factors
suggest an accelerated continuation of the upturn.
17
Large number of arguments in
favor of robust US economic
growth
Fiscal policy is taking its foot off
the brake.
Political uncertainty has decreased. The federal debt ceiling
has been suspended until March
2017. This means that risk of
the United States defaulting on
its payments is off the table for
now.
Companies have high inflows of
funds and are thus able to finance investments largely from
own funds.
Banks are easing their lending
criteria and thus boost investment and consumer activity.
Corporate bond yields remain
low.
Deleveraging process is welladvanced, the ratio of debt
servicing to disposable income
has fallen to a historical low.
Consumer debt is rising again.
Thanks to a recovery in real estate prices, consumers’ net wealth
has risen and should thus fuel
the propensity to spend.
The low gas prices in an international comparison have improved
the ability of US industry to
compete on price.
18
The appreciation of the US dollar in
tandem with the economic slowdown in China is likely to curb the
trend of net exports. Because the
openness of the US economy has
risen over the past few decades,
but remains low by international
standards, the burden on the
economy as a whole resulting from
the adverse effect of the foreign
trade setting will probably be more
than offset by a lively domestic
economy. The Asian crisis in the
years from 1996 to 1998 provides
a pattern; at the time, the crisis left
no traces on the US economy as a
whole.
In summary, we therefore expect
the pace of expansion of the US
economy to accelerate slightly from
2.4 % in 2014 to 2.5 % in 2015 and
2.8 % in 2016.
The y-o-y rate of change of the
consumer price index has been
hovering around zero since the
start of the year. This stagnation
of inflation is primarily attributable to the development of energy
prices. The energy component of
the consumer price index fell by
18.5 % in September 2015 when
compared with the same month of
the previous year. By contrast, the
inflation rate calculated excluding
energy and food prices was 1.9 %
during the same period, up from
1.8 % in August.
Inflation is expected to accelerate
over the coming months. This is
suggested primarily by the fact
that the higher energy prices
recorded in the second half of
2014 will disappear from the yearon-year comparison in 2016 and
that a baseline effect will emerge
in whose wake the inflation rate
should surge up towards the 2 %
mark. Apart from this, based on
our calculations the output gap has
been closed in recent quarters. In
the past, the closing of the output
gap has been quickly followed by
a pick-up in the core inflation rate
with a short delay. Furthermore,
the falling vacancy rate of residential real estate suggests that the
housing element of the consumer
price index should continue its
uptrend. As a result, the inflation
rate should rise from 0.2 % on an
annualized 2015 average to 2.1 %
on an annualized 2016 average at
end consumer level.
The Federal Reserve’s FOMC
decided at its meeting on 27/28
October 2015 to keep its target
range for the federal funds rate
unchanged at 0.00 % to 0.25 %. At
the previous meeting in September
the members were routinely asked
what they thought was an appropriate time for US monetary policy
to return to normal. 13 out of 17
members said that this year was an
appropriate time for raising rates.
This de facto self-commitment
suggests that the Fed will initiate
the turnaround in key rates at its
last meeting this year on 15/16 December. Although job creation has
slowed down perceptibly in recent
months, the unemployment rate
has remained at around 5 % and
thus within the range of committee members’ projections for the
»natural« unemployment rate (4.9 %
to 5.2 %). A postponement of the
projected turnaround in December
would thus entail a reputation loss
by the US Fed. Next year the Fed is
likely to push its target range up in
small steps of 25 basis points; its
target range for the federal funds
rate will, we think, be 1.00 % to
1.25 % at year-end 2016. This key
19
rate projection corresponds more
or less to the median projection
of the committee members, but
20
the market participants anticipate
an even flatter trajectory for the
key rate.
2.4 China.
Reduction of surplus capacity will exert
strain for years to come.
GDP forecasts:
2015: 6.8 %
2016: 6.5 %
Julian Trahorsch
China has in the past invested more
than almost every other country.
Unfortunately, this includes investments which often proved not to
be worthwhile. On the real estate
market, in particular, many projects
have overshot the mark. According
to the International Monetary Fund,
it will therefore take until 2020 for
the many vacant houses to be sold.
Surplus capacity exists mainly in
medium-sized and small towns and
cities. By contrast, in Beijing and
Shanghai prices have been rising
again for the past few months, a
situation that is unlikely to change
any time soon.
Li Keqiang Index
30
25
20
15
10
5
0
6
6
7
8
2
9
4
1
3
9
4
1
5
5
7
2
0
8
3
0
00 00 00 00 00 00 00 00 00 01 01 201 201 01 201 201 01 201 201 201
t. 2 Apr. 2 Oct. 2 pr. 2 Oct. 2 Apr. 2 ct. 2Apr. 2 Oct. 2 Apr. 2 Oct. 2 Apr. Oct. Apr. 2 Oct. Apr. Oct. 2Apr. Oct. Apr.
A
O
Oc
Li Keqiang Index
Sources: Thomson Reuters, LBBW Research
21
The Li Keqiang Index reflects this
reduction in excess capacity and
the general weakness of the real
estate market. The index takes
its lead from the Prime Minister’s
statement, who said that he placed
only limited trust in the official
GDP figures. It consists of lending,
electricity production and rail
freight volumes. Most recently, the
median of these three indicators
has grown by only 3 % and thus far
more slowly than the GDP growth
trend of around 7 % announced by
the government.
How does this discrepancy come
about?
The conclusion that the official
figures are manipulated is probably only true in part because the
index provides an indication of the
industrial sector’s performance.
However, only 43 % of the economy
consists of the industrial sector
and 48 % of the services sector.
For instance, if a large steel plant
22
is closed down and an insurance
company is established, this may
overall be positive for growth. But
the new insurance company requires less electricity, raw materials
and loans than a new steel plant.
Saying that the economy is in fact
only growing by 3 % thus probably
paints an overly negative picture of
an economy whose focus is shifting
from industry to services.
All told, we are projecting growth
of 6.5 % next year. China is currently not experiencing a temporary dip
in growth, but it is transitioning to
a »new normal« characterized by
a growing services sector and an
industrial sector weighed down for
years to come. The government is
accompanying the transformation
process which has begun with cuts
in key rates, tax relief and a gradual
opening of the capital market. These
measures should substantially
reduce the risk of a »hard landing«.
2.5 Emerging markets.
Emerging markets – no longer the driving
force of the global economy?
GDP forecasts:
2015: 4.0 %
2016: 4.5 %
Matthias Krieger
The GDP growth of the emerging
markets is losing momentum.
Starting from 2000 their potential
growth rate rose to 7.3 %, but it
has been declining since 2008 and
now stands at 5 %. Accounting for
a share of more than 50 % of global
GDP, a sustained slower pace of
growth would also curb the global
trend substantially.
During the commodity boom
between 2001 and 2008 the trend
growth rate of many commodityexporting emerging markets rose
sharply. Conversely, the decline in
commodity prices is now lowering
their trend growth rate. But in East
Asia, which has made a very decisive contribution to GDP growth
of the global economy in the past
10 to 15 years, only Indonesia and
Malaysia are notable commodity
exporters. Most Eastern Asian states
benefit more from falling commodity
prices. So why is their trend growth
rate also falling? This is the wrong
way to ask the question. Commodity
prices are falling mainly because
those emerging markets that demand commodities on the global
market on a large scale (for example, China) have seen a decline in
growth. They are the real growth
drivers of the global economy.
The trend growth rate of between
3 % and 4 % p. a. during the 1980s
and 1990s was too low for many
emerging markets to reduce their
gap to the developed nations significantly, given their population
growth. But the increase starting in
2000 led to a considerable improvement in economic output per capita,
which is mainly attributable to the
»Asian crisis« of 1997/98. Its effect
was a radical reform course: many
countries released their currencies
from the USD peg, reduced their
state share in the economy, consolidated their banking sector and
state finances, lowered their foreign
currency debt, accumulated a good
cushion of currency reserves and
opened their markets, including to
foreign direct investments (FDI) and
the accompanying technology transfer. Thus the trend growth rates of
those emerging markets that do not
export commodities rose first of all.
23
It is from their growth – especially
China – that commodity producers
then also benefited.
The most recent decline in commodity prices is mainly a consequence of the weaker growth of
commodity-importing emerging
markets (such as China). This
weighs on the (trend) growth rate of
commodity exporters. But why is it
not only the realized GDP growth
rates of commodity exporters that
are falling – which might also have
cyclical reasons such as the economic weakness of the industrialized
nations – but also their trend or
potential growth rates?
Many emerging markets have not
adjusted to the changed underlying
conditions. Low wage costs, low
taxes and low other costs (labor
and environmental protection
requirements etc.) previously acted
as drivers of capex and growth.
Much has now improved. However, higher wages etc. have their
price: the costs for companies
have also risen. This means that
the production of simple industrial
goods is often no longer profitable.
To grow further, these countries
must become more attractive for
24
higher-value products. The model
that allowed China, for instance,
to record double-digit growth for a
long time is now working to only a
limited extent. The Middle Kingdom
generated huge productivity gains
as a result of an agricultural workforce with low productivity migrating to the cities and attaining far
greater productivity by performing
simple industrial tasks at conveyor belts. This is now possible to
only a limited extent. Higher-value
products require well-qualified staff
and a corresponding infrastructure.
In the long term a country can
achieve an ever higher standard of
living only by being capable of innovation. This is where we can see
deficits in many states: although
they have reached quite a high per
capita income, they are stuck with
substantially higher wages and an
insufficiently qualified workforce,
which means that are unable to
complete the transition into the
category of high-income countries.
They are caught in the »middleincome trap«.
Nevertheless, the emerging markets are likely to have a continuing
strong impact on global economic
growth because other countries in
a dynamic emerging markets universe are attempting to enter production chains for simple industrial
products (such as Vietnam) – and
capital has become very mobile.
Due to its size and importance,
Chinese growth in particular will
remain of key importance for the
emerging markets. Trend growth is
also falling here with rising per capita GDP. The IMF has analyzed the
likely further trend of GDP growth:
In the most likely scenario China
will embark on a reform-oriented
course and reduce surplus capacity.
Although this will lead to a shortterm decline in growth, China will
then be able to grow at approx.
6.5 % p. a. Against the backdrop
of its good ranking in the Global
Competitiveness Index (28), its
relatively high percentage of GDP
accounted for by R&D (2 %) and its
appeal to FDI, China should be able
to close the gap to the high-income
countries over the long term, we
think. Although GDP growth rates
in China are falling, sustained real
growth of 6.5 % p. a. in USD terms
amounts to more today on a priceadjusted basis than double-digit
growth ten years ago. China should
thus remain a pillar of the global
economy and of the emerging markets over the longer term.
In East Asia the longer-term prospects remain generally speaking
good, in our view. A network of
supplier relationships has developed
between the emerging markets
and countries such as Japan,
South Korea, Taiwan and Singapore
(including the US). This promotes
domestic and foreign investment
and thus also technology transfer.
Foreign trade relationships are
close, and further free trade agreements (TPP, RCEP etc.) are likely to
intensify them further. Close relationships also exist between Europe
and some of the local emerging markets. By contrast, in Latin
America it is currently only Mexico
which has close supplier relationships (with the US). The risk of
getting caught in isolationism and
thus in the middle-income trap is
therefore particularly high in Latin
America.
The trend growth rate of the
emerging markets as a whole has
declined by 2.3 percentage points
in recent years, from 7.3 % p. a.
25
to 5 % (ex China: around 4 %). For
the most part (1.3 percentage
points) this is attributable to the
commodity-exporting states. Their
GDP is expected to report rather
below-average growth (< 4 %) in the
coming years, unless commodity
prices stage a strong recovery. At
0.6 percentage points, the other
emerging markets contributed less
than commodity exporters to the
decline in the trend growth rate of
the emerging markets as a whole.
In future, growth rates averaging
more than 4 % can be expected
here. China contributed 0.4 percentage points to the decline in the
trend growth rate. In the Middle
Kingdom the trend growth now
stands at between 6 % and 7 %.
Short to medium-term outlook
At present, however, purely cyclical
factors are also curbing the growth
momentum of the emerging markets. A cyclical recovery alone could
increase their growth by more
than one percentage point. Thus
factors such as current concerns
about the economy in China, the
declining commodity prices, fears
in connection with US tapering and
a series of geopolitical uncertainty
26
factors have curbed the propensity
to invest. Against this backdrop, FDI
in the emerging markets have also
slowed down.
Nevertheless, GDP in developing
Asia should continue to grow at a
pace of more than 6 % p.a. (IMF:
6.5 % 2015; 6.4 % 2016). The slight
weakening reflects above all the
development in China (IMF: 6.8 %
2015; 6.3 % 2016). India has been
brought down to earth again
following the election euphoria.
Nevertheless, investor confidence
has improved. Modi is attempting
to make the subcontinent, which
was previously known particularly
as a location for the services sector,
into a production location for the
manufacturing industry. Although
no miracles are to be expected,
according to the IMF India is projected to grow by 7.3 % in 2015 and
by 7.5 % in 2016.
The CIS is expected to see a recovery in 2016 following this year’s
recession (IMF: – 2.7 % 2015; 0.5 %
2016). Russia suffered a heavy recession in 2015 due to falling commodity prices and the sanctions
imposed by the West. We expect to
see a decline in economic output
of at least 4 % in 2016 unless the oil
price stages a substantial recovery.
Latin America is going through a
recession (IMF: – 0.3 % 2015) and will
probably experience only a modest
recovery in 2016 (IMF: 0.8 %). This
is due to the development in Brazil,
in particular. As a result of lower
commodity prices, but in particular
of home-grown factors, the country
is experiencing a severe recession
which should continue in 2016 in
an attenuated form (IMF: – 3.0 %
2015; – 1.0 % 2016). It is mainly the
government’s loss of credibility in
the wake of the Petrobras corruption scandal and the associated
political paralysis that are exerting
strain. Brazil needs a new political
start to be able to use its potential.
Mexico is looking much better.
The reforms in the energy sector,
among others, and the close
links with the US economy should
generate growth stimuli (IMF: 2.3 %
2015; 2.8 % 2016).
All told, according to the IMF the
emerging markets will grow by
4.5 % in 2016 (2015: 4.0 %), that is,
slightly below the trend growth rate
of 5 %. This would mean further
cyclical recovery potential in the
following years. Amid a persistently
rather difficult global economic
setting, however, countries with
structural deficits are likely to suffer
from weak growth for a while yet.
Data & forecasts
GDP emerging markets y-o-y (%)
2013
2014
5.0
4.6
2015 p
4.0
2016 p
4.5
(Developing) Asia y-o-y (%)
7.0
6.8
6.5
6.4
CIS y-o-y (%)
2.2
1.0
– 2.7
0.5
Latin America y-o-y (%)
2.9
1.3
– 0.3
0.8
3.8
Middle East & North Africa y-o-y (%)
2.1
2.6
2.3
Central & Eastern Europe y-o-y (%)
2.9
2.8
3.0
3.0
Sub-Saharan Africa y-o-y (%)
5.2
5.0
3.8
4.3
Sources: LBBW Research, IMF World Economic Outlook 10/2015 (p = projection)
27
2.6 UK.
Continued EU membership is beyond doubt,
we think, but the GBP is nevertheless under strain.
GDP forecasts:
2015: 2.4 %
2016: 2.2 %
Dirk Chlench
The UK economy expanded at a
rate of 2.9 % in 2014, marking the
highest growth rate within the G7
countries. The performance in the
first half of 2015 was not quite able
to continue on from that with an
annualized rate of 2.1 %. Consumer
spending constituted the main
growth driver. The propensity to
spend is fueled mainly by the low
inflation rate and rising wages.
Industrial sentiment, however,
has deteriorated of late. But the
clouding over of sentiment is
probably due more to the slowdown in Chinese growth and the
appreciation of the GBP than to
uncertainty about the UK’s continued membership of the EU. Prime
Minister Cameron has announced
his intention to hold a referendum
by the end of 2017. Opinion polls
suggest that a majority is currently
in favor of the UK remaining within
the EU provided that the Prime
28
Minister is able to protect the UK’s
interests in negotiations with the
EU. Over the coming quarters the
appreciation of the GBP and a more
restrictive budget policy are likely
to weigh on the country’s economic
performance. For this reason we
expect to see a slowdown in the
pace of expansion to 2.4 % in 2015
and 2.2 % in 2016.
The UK’s annual inflation rate has
been hovering around zero since
the start of the year and is thus
far from the inflation target of
2 % issued by the Bank of England
(BoE). In view of this deviation from
the inflation target and the likelihood of at least a small amount of
underutilization of the economy
remaining, the BoE has stated its
intention to steer monetary policy
on a course to ensure that underutilization disappears and inflation
thereby approaches its target level.
Against the backdrop of a baselinerelated increase in the inflation rate
and heightened upward pressure
on prices resulting from a pick-up
in wage growth, we expect the BoE
to initiate the turnaround in interest
rates in the first quarter of 2016.
2.7 Switzerland.
Economy under the sign of the CHF shock.
GDP forecasts:
2015: 0.9 %
2016: 1.2 %
Dr. Katja Müller
The economic performance in Switzerland in 2015 was characterized
by the Swiss National Bank’s (SNB)
surprising decision on 15 January
to abandon the minimum exchange
rate of CHF 1.20 per EUR. This event
came as a shock to the exportoriented Swiss economy whose
main market is the euro area.
Although the CHF has depreciated
vis-à-vis the EUR since its sudden
appreciation, it remains very strong
by historical standards. The strong
currency weighs on sales of Swiss
goods to euro area countries, in
particular. The tourism sector is
also suffering from the strong CHF.
By contrast, domestic demand has
proved an economic pillar. An interpretation of the GDP data needs to
take into account the fact that they
are real, that is price-adjusted, figures. In some cases the price decline
was extremely strong, which is why
the real rates of change were more
positive than the nominal ones.
This effect is expected to continue
for the time being. Moreover, in the
second half the slight depreciation
of the CHF provided the economy
with some relief, prompting us to
forecast a growth rate of 0.9 % for
2015.
We expect the Swiss economy to
recover in the coming year. But the
recovery is likely to be muted and
we therefore project GDP growth of
1.2 %. The SNB is likely to stick with
its monetary policy to weaken the
CHF. We are anticipating a depreciation of the CHF vis-à-vis the EUR
and the USD, but this should constitute no more than slight economic
relief. Moreover, the previously
robust trend of investments raises
concerns that the CHF shock has
not yet been fully reflected in the
real economy. On the other hand,
consumer spending should continue to support growth as will the
increasing recovery of the euro
area.
29
Calendar.
Important events in 2016.
Winter 2015
Germany: planned introduction of motorway toll
Russia: expiry of EU sanctions
Iran: sanctions (might be) lifted
US: Super Bowl
Spring 2016
Italy: crucial vote on parliamentary reform
30
Summer 2016
France: European soccer championships
UK: referendum on continued membership of the EU?
Brazil: Olympic Summer Games
Fall 2016
China: IMF decision – CNY global reserve currency
Russia: parliamentary election
US: election of a new US president
31
3 Germany.
Towards the end of the year
German GDP growth appears
to be remaining stable notwithstanding all risks. Neither the
threatened interest rate turnaround in the US nor the feared
slowdown in China’s growth
have so far slowed down
Germany’s GDP growth perceptibly. One of the reasons for
this is that the situation in the
other major EMU countries is
gradually improving. The consequences of the EMU debt crisis are slowly being overcome,
and this also helps Germany.
3.1 Germany.
Economy is proving shock-resistant.
GDP forecasts:
2015: 1.6 %
2016: 1.7 %
Dr. Jens-Oliver
Niklasch
Germany’s economic hopes rest on
domestic demand. The look across
the borders is tinged with more
scepticism. Of course, things do
not change that quickly, not even in
the 21st century. Germany will remain an »export nation«. However,
the accents are shifting. Already,
the year 2015 was under the sign of
a recovery in consumer spending.
exports are weighed down by weak
growth in the emerging markets.
Although weakness here is a
relative term: Export nations such
as China and the US will continue
to report strong growth. But for
China, which had been responsible for 23 % of Germany’s export
34
growth since 2008, the times of
double-digit rates of growth are
over. The country is entering a
maturation phase. The rest of the
world is mixed. While Brazil and
Russia probably number among the
big economic disappointments,
there are a number of states associated with continuing or renewed speculative appeal. These
include India, Iran and Turkey.
Countries with potential fueled by
population growth, reforms and –
at least in the case of Iran – rich oil
reserves, but also with major political risks.
By contrast, risks in the euro area
and in Germany have fallen over the
past year. This trend is expected to
continue in 2016. If we exclude
Greece as a special case, the situation in the euro area today is brighter than it was a year ago.
Economic Sentiment Indicator in the four main EMU countries
120
110
100
90
80
70
60
6
00
.2
Jan
Germany
7
00
.2
Jan
8
00
.2
Jan
France
9
00
.2
Jan
Italy
010
.2
Jan
Spain
Italy is making progress in key
areas, the economy in France is also
gradually improving. Spain is almost
seeing a return to pre-crisis growth
rates. This will play into Germany’s
hands although export surpluses to
the partner countries will probably
not be as ample as they were in the
past. These countries undertook
reforms while Germany rested on its
laurels as an export champion. In a
certain way this is to be welcomed
as the high German foreign trade
surplus had been causing tension
on the political stage. These ten-
011
.2
Jan
012
.2
Jan
013
.2
Jan
014
.2
Jan
015
.2
Jan
Sources: Thomson Reuters Financial,
LBBW Research
sions should now ease slightly without, however, upsetting the picture
of a strong German export nation.
On top of this, the indications for
the domestic economy are bright.
The falling crude oil prices can be
viewed as clearly positive. Energy
bills are falling, and the disposable
income of private households is rising. The situation on the job market
is favorable. At 2.7 m, the number
of those out of work is historically
low, the number of those in gainful
employment has reached the 30.7 m
mark. There is a basis for further
35
increases in real wages and stable
consumer demand. Especially since
the inflation rate will remain moderate in historical terms, although it
should increase (from 0.3 % in 2015
to 1.5 % in 2016). In 2016, the unemployment rate might rise slightly on
account of the current high number
of refugees.
research institutes corresponds to
the production potential. The weakness in the manufacturing industry
is offset by the services sector. All
told, real GDP is expected to grow
by 1.8 % both this year and in 2016.
Excluding calendar effects (the
number of working days is above
the average in both years), this
would mean adjusted GDP growth
of 1.6 % in 2015 and 1.7 % in the
following year. Domestic consumer
spending will be the growth driver.
At present, disposable real income
of private households is growing
at an annualized rate of around
2.5 %. Consumer spending is rising
by around 2 %. This should be the
yardstick for 2016.
So yes to level-headedness, but
there is little reason to be pessimistic. Despite all dangers, the German
economy is showing hardly any
signs of tiring. The growth rates
of GDP have averaged 0.4 % q-o-q
per quarter since mid-2014, which
according to the calculations of the
autumn statements of the economic
Germany: disposable incomes and consumer spending
4
3
2
1
0
Sources:
Thomson
Reuters
Financial,
LBBW
Research
–1
–2
–3
99
00
01
02
03
04
05
06
Disposable incomes y-o-y less inflation rate
36
07
08
09
10
11
12
Consumer spending y-o-y
13
14
15
Moreover, there are good reasons
to expect a pick-up in investment
for 2016: low interest rates, the
bright climate on equity markets,
stable economic prospects and a
certain investment backlog. The
latter mainly relates to public-sector
spending, specifically infrastructure. However, reasons can also be
found in favor of restraint among
companies. In a real calculation,
interest rates are by no means low.
Especially not if the real interest
rate is measured against the selling prices of companies. In this
calculation, yields are even above
the historical median of 2.1 % (see
chart).
»Real« swap rate (10-year swap less growth rate of producer
prices y-o-y)
12
10
8
6
4
2
0
–2
–4
1999
2001
Real swap rate
2003
2005
2007
2009
2011
2013
2015
Sources: Thomson Reuters Financial, LBBW Research
37
In addition, overall demand in the
euro area is insufficient, capacity
utilization of companies not high
enough. In the German manufacturing sector capacity utilization
at mid-year came to around 84 %.
On the eve of the financial crisis it
stood at 88 %. This, too, does not
suggest a boom in investments.
Capital equipment spending should
therefore show an average trend. In
construction spending, an aboveaverage performance can be expected in housing construction due
to the surge in the price of real
estate in conurbations and the
inflow of refugees. Financial policy
in 2016 has an expansionary orientation. In their autumn statement
the research institutes calculated
an expansionary fiscal stimulus
amounting to 0.3 % of GDP, which
will be fueled from various fiscal
relief measures and transfer increases. This does not stand in contradiction to the planned break-even
result for the federal budget because tax revenue will flow as amply
as never before. However, all fiscal
assumptions are subject to the
proviso of a reasonable trend of
expenditure required to cope with
the inflow of refugees.
38
Finally, a look at the risks. Alongside the geopolitical uncertainty
coming from Syria and the Middle
East, as economic observers we are
focused on the situation in China
and the other emerging markets,
which we analyze in chapter 4.
Moreover, the turnaround in US
interest rates has the potential to
cause major swings on the markets
and in the economic performance.
By contrast, the euro debt crisis
has become less pressing. In the
second quarter 2015 the debt ratio
of the euro area countries fell from
92.7 % to 92.2 % of GDP. In Germany
the debt load decreased from
74.3 % to 72.5 % of GDP. However,
given the high debt level of some
states a return of market mistrust
is possible at any time. The need
for consolidation remains high
particularly in Italy (136.0 %) and
France (97.7 %). It remains to be
seen how things will develop in
Greece. Although the results of the
agreement reached between Greece
and the creditor states in summer
2015 have calmed the markets,
the experience of the recent past
makes us fear that another deterioration is looming. At the end
of October it was announced that
Greece has fallen behind with the
implementation of its reforms and
that the payout of the bailout loans
will be delayed. Here, too, levelheadedness is required, primarily
from those responsible in Athens.
Can the economy do better than
expected? If the decline in Chinese
GDP growth rates is caught just
below 7 % – the state bodies have
fiscal and monetary scope – and if
the start of the interest rate turnaround is well-communicated
by the US Fed and digested by
the markets, then we might be
pleasantly surprised by the German
economy. Growth rates of 2 % are
possible. Over the medium to long
term, however, we should ready
ourselves for a real growth of only
around 1.5 % in Germany. Anything
beyond this figure requires special
effects. It should go without saying
that with moderate growth the
scope for redistribution is small
even if the temptation becomes
greater with a view to the German
federal election scheduled for the
year after next.
39
3.2 Brief note on the
refugee crisis.
Attempt at classification.
The dominant topic in autumn 2015
is the refugee crisis. According to
an official forecast by the federal
government, 800,000 if not one
million refugees are expected this
year. Leaving aside humanitarian and legal aspects, the urgent
question for us economists is: what
does such a number of refugees
mean for Germany’s economic
performance? In the short term,
an economic program. The people
arriving here need clothes, food
and a place to live. The federal
states and local governments need
to make available assistance and
basic medical care. Estimates on
the costs fluctuate considerably,
according to estimates by the ifo institute at least EUR 10 bn have to be
expected. This sum, which amounts
to around 0.35 % of GDP, will, however, not have a demand effect of
that size because the public sector
will cut spending elsewhere. Nevertheless, it should be enough for an
additional 0.25 % increase in GDP.
40
Most of this effect is expected to
materialize in 2016, but in view of
the current projection uncertainty
we have not (yet) included it in our
GDP forecast.
In the medium term the impact is
hard to calculate. The economic opportunity which the current refugee
crisis provides for Germany is that
of gaining labor, that is, a reversal
or at least flattening of the negative
demographic trend. This, of course,
first requires the integration of the
refugees into the job market. A lack
of language skills and inadequate
education are two of the biggest
obstacles to employment and
require additional investments in
education and integration measures. We do not want to join the
often-debated cost/benefit calculations of migration here because we
believe that it depends on too many
uncertain assumptions and thus
quickly becomes confusing and
easily politicized.
Estimated population number in millions in Europe, depending on the
scale of migration
400
380
360
340
320
300
280
260
1990
2000
Rising immigration
2010
2020
No immigration
2030
2040
2050
2060
Modest immigration
Source: Europe’s Long-Term Growth Prospects: With and Without Structural Reforms, Kieran
McQuinn/Karl Whelan, 19 March 2015
41
4 The risks.
Our biggest risks for the year
2016 are closely correlated. An
economic crash landing in the
Middle Kingdom would certainly
have far-reaching consequences
– not only for the German economy. Closely linked to this
negative scenario is a general
loss of confidence in the emerging markets, which might result in a flight of capital. This,
in turn, might be triggered by
an unexpectedly strong tightening of US monetary policy.
The six biggest risks in 2016.
Probability
1
6
3
2
5
4
Negative consequences on
44
1 Geopolitical uncertainties.
A large number of trouble spots in the world and the refugee crisis.
2 China stumbles into a growth trap.
The build-up of surplus capacity will weigh on the economy for years to come,
growth slumps.
3 Capital flight from the emerging markets.
Stock market crash in China, corruption in Brazil and sanctions against Russia have
done lasting damage to the BRIC countries.
4 Repeat of the 1994 crash on the US bond market.
Panicked reaction by the Fed to inflation shock in the US.
5 ECB is powerless in the face of deflation.
Low growth and price momentum cannot be combated by central banks,
structural factors are responsible.
6 Capital markets are drying up.
Regulation and bond buying programs are leading to disappearance of
market liquidity.
occurrence
45
Risk 1.
The multipolar proxy war in Syria.
»The geopolitical
situation is becoming less clear.«
Dr. Guido
Zimmermann
One characteristic of »new normal«
with low growth rates, inflation
rates and yields is considerable
uncertainty among market participants. This uncertainty refers to
a range of very different factors:
geopolitical uncertainty as a result
of a large number of trouble spots
in the world and the refugee crisis,
economic policy uncertainty due
to the euro debt crisis and the
uncertainty relating to the validity
of possible economic and political
explanations. This is attributable,
not least, to the fact that the geopolitical situation in the world is
becoming increasingly less clear.
Syria, in particular, has become a
place where a multipolar proxy war
is being waged.
Who are the parties in the proxy
war? Saudi Arabia supports Sunni
groups in Syria because it is worried that Shia Iran might gain
further ground in the region due
46
to its support of the Assad regime.
Against the backdrop of an oil
price-related slump in state revenue
and the Ukraine conflict, Russia
fears a regime change in favor of
the US in the Middle East from a
Russian perspective. The US is concerned that Russia is strengthening
its presence in the Middle East and
the Mediterranean. Turkey fears
that the Kurds, who are dispersed
throughout Turkey, Iraq and Syria,
might also lay claims to Turkish
territory as they gain increasing
ground in Syria. We cannot assume
that the Syria conflict will be resolved in the foreseeable future.
What risks result from this conflict
from an economic perspective? It
is to be feared that the proxy war
between Saudi Arabia and Iran will
lead to a direct war between the
two countries. Such an escalation
would naturally not be without
its effect on oil prices. It is to be
feared that the support of extremist Sunni groups in Syria by Saudi
Arabia will ultimately fall back on
the Saudi Arabian royal family itself
and that it will suffer increasingly
under terrorist threats from such
groups.
It is also to be feared that Russia
will be drawn into the Syria war
more than originally planned and
that its support of the Assad regime will intensify Islamist tendencies already existing in its Caucasus
regions.
The Syrian crisis means that the
flows of refugees to Europe will not
stop unless the EU makes political
and financial concessions to Turkey
in return for its management of the
refugee flows on Turkish soil. At
the same time, from the perspective
of Ukraine there is a risk that the
EU will consider the Ukraine conflict
to be politically less important than
the curbing of the flow of refugees
from Syria to Europe. It is also to
be feared that the geopolitical tensions will lead to the introduction
of more protectionist measures.
This would intensify the decline
in global trade volumes, which is
already worrying as it is, observed
since the start of the financial crisis
in 2008.
By contrast, in a positive scenario
it is possible that the sanctions
against Russia are lifted soon, that
the major and regional powers get
together at one table to stop the
chaos in Syria, that the EU makes
concessions and grants financial
assistance to Turkey as a result of
which Turkey will have an interest in
halting the refugee flows to Europe
and that the lifted economic sanctions against Iran make the latter
country more conciliatory in its
stance vis-à-vis Saudi Arabia from a
regional political perspective.
47
Risk 2.
China’s growth trap and how the state
is attempting to sidestep it.
»During the
economic
boom, risks
were built up.«
Julian Trahorsch
There used to be a saying, »If the
US coughs, the world gets a cold.«
China is clearing its throat at the
moment and the markets are becoming aware of the risk that China,
too, might give the global economy
a real cold. Germany is certainly the
European country that is closest
to China in economic terms, not
least on account of its close trade
relationships and the important
role played by China as a market
for Germany’s automobiles and machinery. The boom years in China
have disguised the risk potential
inherent in China’s rise to become
the world’s biggest economy.
With China’s size also comes the
potential not only to pull the world
up with it, but also to drag it down.
Two factors, individually or jointly,
might lead to a »hard landing« for
China. First to be mentioned is the
looming growth trap, which means
that China’s catch-up with the industrialized nations is ending at a
low level of wealth; and secondly,
48
the existing surplus capacity in
industry and on the real estate
market.
For decades China benefited from
the migration of poor agricultural
workers to the cities and its factories. The »world’s workbench« used
these poor agricultural workers to
manufacture simple products. Although these goods were in some
cases of low quality, they were cheap
and were thereby able to defend
their place in the market. In recent
years this has become increasingly
difficult for simple companies to realize because companies now have
products manufactured in other
cheap emerging markets. Companies now have to pay substantially
higher wages because workers can
no longer simply be substituted.
The inflow of cheap labor is easing
off slightly, companies therefore
have to make do with the existing
personnel. In addition, activities
are becoming increasingly more
complex because China now also
produces engines and mobiles
rather than just clothing. These
work processes cannot simply be
entrusted to an unskilled agricultural worker.
Growth can be created either
through more work, more investment or higher productivity. For
a long time, China’s growth was
driven by the factors of labor and
capital (investments). But the new
growth model must be based on an
increase in productivity and an innovation-friendly culture. However,
this is precisely what only a very
small number of emerging markets
(Japan, South Korea) have been
able to achieve because for this to
happen the institutions and society
have to develop. China could increase its productivity by opening
up its economy and privatizing its
huge state-owned companies; but
this will cost a large number of
jobs and reduce the popularity of
the Communist Party. Innovation
requires a solid business or university education and a culture where
critical questioning is welcomed;
such a cultural change will probably
be particularly difficult to realize in
a one-party system.
The Party has therefore opted for
another path: the acquisition of
know-how abroad. Companies were
instructed to implement strategic
takeovers in certain sectors in order
to secure patents and licenses. Moreover, a large number of foreign
companies wanting to operate in
China need to transfer know-how to
China. In view of the looming growth
trap, China is forging its own path.
It is unlikely that the reforms adopted so far will be successful, but this
does not mean that we assume a
»hard landing«. Rather, China’s economic policy is facing the mammoth
task of setting its huge tanker on
a fresh course. This will take years
and make big waves.
49
Risk 3.
Emerging markets – Are foreign funds being withdrawn due to higher risk aversion?
Among other things, growth of the
emerging markets may be weighed
down by increased risk aversion.
Uncertainty reduces the willingness
to invest and increases the risk
premiums on bonds, for example,
leading to a rise in financing costs.
This raises the question whether
foreign direct investments (FDI)
are currently not being made and
whether portfolio investments (PFI)
are even being withdrawn against
the backdrop of the cooling-off in
China, the turnaround in US interest rates and geopolitical risks.
USD 681bn in 2014. This means
that FDI have once again proved
quite a robust figure which tends to
follow longer-term strategic goals.
However, FDI are also responding
to recent developments. This is
evidenced by the fact, for example,
that the separately reported Eastern
European »transition economies«
had to absorb a slump of 52 %
to USD 48 bn in 2014 against the
backdrop of the conflict surrounding Ukraine. Within the group of the
emerging markets the performance
also showed regional variations.
While the FDI inflow to »developing
Asia« rose from USD 428 bn in 2013
to USD 465 bn in 2014, inflows to
Latin America fell from USD 186 bn
to USD 159 bn. The inflows to Africa
in 2013 and 2014 were steady at
USD 54 bn each.
According to UNCTAD, FDI worldwide have fallen from USD 1.47 trn
in 2013 to USD 1.23 trn in 2014. A
particularly negative performance
was recorded by the inflow into industrialized countries, with FDI inflows falling by 28 % to USD 499 bn.
By contrast, the inflow into the
emerging markets as a whole rose
by 2 % to a fresh historical high of
Notwithstanding all concerns about
the Chinese economy, it would
seem that the region of »developing Asia« remains highly attractive
for FDI. And even China, whose
economy is currently tending to
weakness, recorded a 4 % increase
in inflows to USD 129 bn in 2014.
Against the backdrop of the
continued expansion of interre-
»Flighty PFI
respond immediately.«
Matthias Krieger
50
gional value chains especially in
this region and the sign of further
free trade agreements (such as
TPP, RCEP, AEC, ASEAN Economic
Community) this trend is unlikely
to change much. By contrast, Latin
America is expected to report a
continuation of rather weaker FDI
inflows when compared with the
previous years on account of homegrown problems. Brazil is suffering
from a decline in competitiveness
as the country remains politically
paralyzed; Argentina remains shut
off from the international capital
market for the time being; and
foreign businesses often simply
do not have confidence in the
governments in Venezuela, Bolivia
and Ecuador. By contrast, Mexico
should benefit from its reforms
and from its close links with the US
economy. Africa probably has some
catch-up potential starting from
a low base as far as FDI inflows
are concerned, due to the positive
developments in at least some
countries.
All told, UNCTAD estimates in its
World Investment Report (June
2015) that FDI inflows in the emerging markets will increase by around
4 % in 2015 and around 16 % in
2016. Following the pronounced
slump in 2014 the transition economies are expected to record a rise in
FDI inflows of around 5 % in 2015
and one of around 12 % in 2016.
There are, however, »flighty« PFI
that respond immediately to changes in sentiment on the financial
markets. According to the IIF, an
outflow was in fact observed here
in the months from July to September. All told, during these
three months around USD 40 bn
net flowed out of the emerging
markets. But the trend turned upwards again in October. In 2015 as
a whole, developing Asia reported
a net inflow of USD 50.5 bn and
Latin America one of USD 49.7 bn
despite the recent outflows. Only
emerging Europe has, so far in 2015,
had to contend with a net outflow
of USD 29 bn on account of the
Ukraine crisis.
51
Net inflows of portfolio investments (USD bn)
50
40
30
20
10
0
–10
–20
No
v. 2
De
013
c. 2
013
Jan
.2
014
Feb
.2
014
Ma
r. 2
014
Ap
r. 2
014
Ma
y2
014
Jun
.2
014
Jul.
201
4
Au
g.
201
4
Sep
.2
014
Oc
t. 2
014
No
v. 2
014
De
c. 2
014
Jan
.2
015
Feb
.2
015
Ma
r. 2
015
Ap
r. 2
015
Ma
y2
015
Jun
.2
015
Jul.
201
5
Au
g.
201
5
Sep
.2
015
Oc
t. 2
015
–30
Emerging Asia (USD bn)
Emerging Europe (USD bn)
Latin America (USD bn)
Africa & Middle East (USD bn)
In view of the rather modest PFI
outflows compared with the expected FDI inflows in 2015/16 we think
that it is too early to talk of a
dangerous situation for the emerging markets as a whole. Volatility in
both directions is quite normal, and
the trend of PFI can thus change
quickly and strongly once risk
aversion calms down.
But in conjunction with a relatively
high foreign and/or foreign-currency debt load and a high percentage
of NPLs in the total loan volume
the situation in some countries of
52
Sources: IIF, LBBW
emerging Europe is substantially
more tense than it is in the other
regions. In the major emerging
markets of East Asia and Latin
America and in South Africa high
foreign currency reserves usually
cover at least short-term foreign
currency debt in full, and the banking sector is more solid.
Having said that, a decline in
growth on account of the rapid
withdrawal or reduced inflows of
PFI is possible. In particular, this
would affect countries which show
a current account deficit, in other
words, which finance part of their
investments with foreign capital,
and which moreover do not cover
this »savings investment« shortfall
with »robust« FDI but in part with
»flighty« PFI.
FDI plus current account balance (% GDP)
(= investments financed by PFI in % of GDP)
5%
4%
3%
2%
1%
0%
–1%
–2%
–3%
–4%
–5%
Tu
M rk
So oro ey
ut cc
h o
Af
r
Uk ica
In rain
do e
ne
sia
In
di
B a
Co raz
lo il
m
Me bia
xi
Po co
lan
d
C
Ro hile
m
Th ania
ail
a
Cz
ec L nd
h atv
Re ia
p
Ar ubl
ge ic
nt
in
a
Lit Per
hu u
an
Ru ia
s
Cr sia
o
Bu atia
lg
M aria
Ph alay
ilip sia
pi
ne
Isr s
Hu ae
ng l
ar
Ch y
in
a
–6%
Foreign direct investments (net; % GDP) + current account balance (% GDP) (3-year median)
Sources: Thomson Reuters, LBBW
53
Risk 4.
Is a repeat of the 1994 crash threatening on the
US bond market?
»The Fed should
have initiated
the turnaround
in interest rates
a long time ago.«
Dirk Chlench
If the Federal Reserve, contrary
to our expectations, postpones
the interest rate turnaround from
December 2015 to a future date, it
thereby runs the risk of triggering
an inflation process which can only
be captured with aggressive key
rate hikes later on. US bond market
investors would be dramatically
caught on the wrong foot in view of
the extremely flat key rate hike trajectory discounted by the market.
As a result, we would expect to see
a surge in long-term US key rates,
similar to the situation in 1994
when 10-year government bond
yields rose by two percentage
points over the course of the year.
54
In contrast to many other important
central banks, the US Fed is not
primarily committed to maintaining
price stability; instead, its mandate
is to promote maximum employment, stable prices and modest
long-term interest rates. However,
as far as the goal of maximum
employment is concerned, there is
no broad consensus on how it is to
be defined. In March 2013, Janet L.
Yellen described the unemployment
rate as the »best single indicator of
current labor market conditions«,
and it has continued to fall sharply
since then. In September 2015 the
unemployment rate stood at only
5.1 % and thus recorded not only
its lowest level since April 2015, it
is now also within the range of Fed
estimates as a »natural« level for
the unemployment rate.
US unemployment rate and »natural« unemployment rate
11
10
9
8
7
6
5
4
2008
2009
2010
2011
2012
2013
2014
2015
Unemployment rate
Unemployment rate projections by FOMC members for the »natural« unemployment rate
Sources: Thomson Reuters, Federal Reserve, LBBW Research
At the same time, the US Fed has
not even started to raise its federal
funds target rate. Janet Yellen did,
however, point out in that same
statement that the unemployment
rate as an indicator of the job market situation did have weak spots.
It might fall simply because those
out of work are disappointed and
have given up looking for a job,
thus disappearing from the group
of those gainfully employed. In
addition to employment and unemployment data, the development
of gross job market figures is also
watched, such as the number of
vacancies. This figure surged to
5.7 m in July 2015, thus marking
an all-time high. A small setback
followed in August.
55
US key rate and job vacancies
6,000
7
6
5,000
5
4
4,000
3
2
3,000
1
2,000
0
2000
2002
2004
2006
2008
2010
Federal funds target rate (from 16 Dec. 2008 upper limit of target range)
Vacancies (in thousands, right-hand scale)
If we use the Federal Reserve’s
policy in the preceding rate hike
phase as a yardstick, the monetary
watchdogs should have initiated the
turnaround in interest rates a long
time ago given the steep upwards
trajectory of the number of job
vacancies.
The Fed Chairman has, however,
repeatedly relativized the significance of the unemployment rate by
pointing out that many employees
have part-time jobs out of neces-
56
2012
2014
Source: Thomson Reuters
sity while being on the lookout
for full-time employment. In May
2014, the US Fed for the first time
published a collective index for the
labor market that also includes the
percentage of involuntary parttime employees of those gainfully
employed in order to pool the often
contradictory signals of the various
labor market indicators in an
overall index. Some skeptics at the
time prophesied that the calculation
of the collective indicator merely
served to give the Fed a reason to
maintain its ultra-accommodative
monetary policy stance despite
the rapid fall in the unemployment
rate. This collective indicator, too,
has been suggesting for some time
now that capacity on the labor market has been largely utilized: Based
on our calculations it came to 97
index points in September 2015
and was thus close to the level of
the previous four cyclical highs. In
the past, however, during recovery
phases an index reading of 97
points went hand in hand with an
average federal funds target rate
of 5.8 %.
US key rate and collective indicator for the labor market
20
200
18
150
16
100
14
50
12
0
10
–50
8
–100
7,31
6,75
–150
6
5,00
4,00
4
–200
–250
2
0,25
–300
0
1976
1980
1984
1988
1992
Federal funds target rate (from end-2008: upper limit of target range)
1996
2000
2004
2008
2012
Fed Labor Market Indicator
57
By contrast, the doves in the Federal Open Market Committee probably argue that the low inflation rate
gives the Federal Reserve the option
to come even closer to the statutory goal of maximum employment
by maintaining its ultra-accommodative stance. The rate of change of
the deflator of consumer spending,
which is the Fed’s preferred way
of measuring inflation, came to
only 0.3 % in August 2015 and was
thus substantially below the Fed’s
target rate of 2 %. However, this low
inflation rate is due mainly to the
decline in energy prices. Because
the low energy prices that first
materialized at the end of 2014/
early 2015 will disappear from the
year-on-year comparison over the
next few months, we can expect
58
inflation to surge in the coming
months. This is all the more true
as, according to calculations by
the Federal Reserve Bank of Dallas,
the trimmed median of weighted
price changes over twelve months,
which is a measure of underlying
inflation, rose from 1.6 % in July to
1.7 % in August. In the light of this
the monetary watchdogs might
be faced early next year with an
economic situation characterized
by an inflation rate of greater than
2 % and an unemployment rate of
less than 5 %. If these figures are
used in a version of the Taylor Rule
presented by the President of the
Federal Reserve Bank of St. Louis,
James Bullard, in November 2014,
this produces an appropriate federal funds rate of more than 4 %.
Risk 5.
The »Japan scenario«: Is a deflation posing a risk
for the recovery of the industrialized nations?
»Inflation is at
present unusually low.«
Matthias Krieger
The term »Japan scenario« describes a phase of persistent deflation
and stagnant growth. Indeed, inflation rates in the euro area and in
the US are close to 0 %. The situation is more relaxed if we take into
account the fall in commodity and/
or oil prices. The inflation rates
»ex energy« are 1.9 % in the US and
1.0 % in the euro area. However, because oil prices have been showing
signs of bottoming out since the
start of 2015, inflation rates in 2016
are likely to come close to »ex energy« rates. Nevertheless, inflation is
at present unusually low.
A trend similar to that observed
in Japan in the 1990s and early
noughties can be discerned for
non-performing loans (NPLs). In
Japan, they reached 10 % of the loan
volume at their peak. In the euro
area, the NPL ratio has exceeded
8 %. If banks no longer issue loans
so as to avoid additional risks or
for regulatory reasons, a credit
crunch might lead to a downturn
and to deflation, as was the case in
Japan. The same parallel does not
exist in the US and in the UK, where
the banking sector was rapidly
consolidated and the NPL ratio is
below 2 %. The trend of lending in
the euro area also argues against
a credit crunch. Following three
years of decline, lending has been
on the rise since 2015. Moreover, in
contrast to Japan some major euro
area countries do not have a bank
problem (for example, Germany);
consequently, they not only act as
economic engines but their banks
are also able to act as lenders
within the euro area. Nevertheless,
deflation might emerge in countries with high NPL ratios (Greece,
Cyprus, Ireland, Italy, Spain). However, in these countries there are
also good reasons for a decline in
prices because they have a problem
with their competitiveness. Falling
prices would improve their ability
to compete and make them more
attractive for investment. The establishment of an efficient industry
necessitates more favorable costs.
But does a deflation not force the
economy to its knees because consumers wait for prices to fall and
59
reduce their spending? This view
is marked by the depression of the
1930s and by Japan in the 1990s.
The Bank for International Settlements (BIS) analyzed the deflation
phases in 38 countries during the
period from 1870 to 2013 and
arrives at a different result. Deflation phases do not go hand in
hand with weak GDP growth more
often than inflation phases do. To
determine the increase in wealth
we need to measure the increase in
per capita real GDP. But in Japan the
population is shrinking. In real
and per capita terms GDP in Japan
between 2000 and 2013 has risen
almost as fast as in the US. After
the Second World War real per capita
GDP growth in the 38 analyzed
states averaged 3.2 % in deflation
phases and only 2.7 % in inflation
phases.
A deflation is ambivalent as far as
consumer spending and investments are concerned. Falling prices
also have positive effects, provided
that deflation is »supply-driven«.
For example, if production costs
fall due to high productivity gains
or falling input prices (such as oil
or wages), the prices of goods can
also fall, and this does not dampen
60
consumer spending, but revives
it. This effect is familiar from the
IT sector, for example. Although
prices are falling, investment is
rising. Generally speaking, investments are attractive provided that
costs fall more sharply than prices.
Exporters benefit, in particular,
because their international ability
to compete is improved. But if
wages, for example, remain rigid as
productivity gains are low and prices are falling, unit labor costs also
rise. In this case, deflation prompts
lower real growth. It is therefore
important for euro countries in crisis to make sure costs are flexible.
Rising wages would otherwise be
poison in a deflation.
On the assets side, too, deflation
is not clear. As prices fall and the
real debt load of borrowers rises,
the real wealth of creditors increases
and the purchasing power of savings
and paid-out wages rises. In a mild
deflation, whether consumer spending is low or high is more to do
with the perceived future prospects
than with a, say, 1 % p. a. drop in
prices. Weaker growth is not necessarily the consequence. This is
illustrated by the example of Spain.
While prices are falling (September
– 1.2 % y-o-y) the country is likely to
record a stronger growth rate of
2.5 % in 2016 than the euro area
(1.5 %).
But a sustained asset price deflation such as the one seen during
the depression in the 1930s and
in Japan is clearly negative. When
equity and real estate prices drop
sharply and on a sustained basis,
there are no winners, only losers.
A country’s wealth declines, everyone
gets poorer. This has a negative effect on private consumer spending
and on investments. If insolvencies
rise and loans are collateralized
almost exclusively with real estate,
as is the case in Japan (applies only
partly to the euro area), the decline
in their value can lead to a prolonged balance sheet recession
and deflation.
In the euro area the declines in real
estate prices have been of varying
intensity, but they were all less pronounced than in Japan (Japan: – 59 %
according to the Japan Real Estate
Institute; euro area as a whole: – 8 %
according to the OECD). On aggregate, real estate prices in the euro
area have started to rise slowly
since early 2014 and equity prices
have recovered significantly, in
contrast to the Japan of the 1990s.
The risks resulting from asset price
deflation are thus considerably
lower and country-specific, such as
the NPL ratio and competitiveness.
It is important to push ahead with
bank restructuring where necessary
and to keep the cost factors (such
as wages) flexible in the event of a
mild deflation. If this is done, deflation is an opportunity to regain lost
competitiveness.
61
Risk 6.
Capital markets are drying up.
»Bond dealers
are holding
fewer bonds.«
Thomas Klee
While the world’s major central
banks have attempted an unparalleled accommodative monetary
policy in recent years, thereby virtually inundating the markets with
liquidity, at the same time a debate
is ongoing about a lack of market
liquidity.
A clear trend becomes evident, for
example, if we looked at the trading volume of US treasuries over
the longer term. If we put them into
relation to the perceptible increase
in the outstanding nominal of US
government paper, we can see
that the turnover rate has fallen
significantly.
A similar pattern can be discerned
if we look at the European market
(Bund futures as an indicator of
trading volume). In line with the US
treasury market, trading volumes
on the European market slumped
substantially after the financial
62
crisis while outstanding volumes
rose at the same time.
So what were the possible triggers
for the lower liquidity on the markets? One key element was probably the marked rise in regulatory
requirements in the wake of the
financial crisis. As a result of more
stringent regulatory requirements,
bond dealers no longer hold the
same volume and trading, particularly among dealers, has declined
substantially.
In addition, the accommodative
monetary policy adopted by the Fed
and now also by the ECB probably
played an important role. Both central banks have massively increased
the size of their balance sheets as
part of the QE measures and hold
large amounts of bonds that are
thus not in circulation.
What recommendation can we derive from this for investors? There
are few active trading opportunities. Investors attaching importance
to the highest possible level of
liquidity in the fixed-income segment only have the option to be
systematically focused on the most
liquid subsegments (in particular,
US treasuries and bonds of the
major European sovereign issuers). But, as outlined above, they
are not spared the consequences
of the decline in liquidity and the
consequences thereof although
they certainly remain overall less
affected than corporate bonds, for
example. At any rate, the latter are
considered to be the less liquid
segment of the fixed-income market, something which has become
even worse in recent years. Investors should focus on »fresh« issues
with high issuing volumes wherever
possible if liquidity is an important
factor in their investment decision.
However, this strategy requires frequent reallocation because liquidity declines rapidly over the term.
Here, payment comes in the form
of a lower liquidity premium. For
investors with stamina this does,
however, provide opportunities.
Those in a comfortable position of
not having to pay much attention to
market fluctuation during the term
and interested only in punctual and
full interest and capital repayments
are able to take systematic use of
buying opportunities for less liquid
paper and pocket the liquidity
premium in addition.
The knowledge of this situation will
help investors keep a cool head in
phases of high price fluctuation.
Often, these fluctuations might
not be fundamentally justified to
the extent to which they initially
materialize; a settling-in at a »more
normal« level is nevertheless likely,
but might possibly take longer than
would be the case in an ideal-typical market.
63
5 Our forecasts for 2016.
Rate hike in the US materializes
with a delay at year-end 2015;
expanded ECB program keeps
Bund yields very low; prolonged
bottoming-out phase is to be
expected; continue to favor
credit risk over duration risks;
EUR loses further ground versus
the USD, but remains above
parity; commodity prices are
bottoming out; gold price
should pick up again; DAX
almost returns to its all-time
high at year-end 2016.
Growth forecasts.
66
1.5 %
Our growth forecast for the
eurozone for 2016
1.7 %
Our growth forecast for
Germany for 2016
2.8 %
Our growth forecast for the
United States for 2016
3.6 %
Our growth forecast
for the world for 2016
5.1 Yields/spreads.
Elmar Völker
When will the US
Fed’s turnaround
in interest rates
come? This was one
of the key questions
occupying the bond market in 2015.
Our forecast, namely that the rate
hike would take place relatively
early this year and would thus be a
sign of the »state of emergency« of
interest rates close to zero gradually expiring in the industrialized
world, was for us a key argument a
year ago to assume rising longterm yields both of US treasuries
and (to a more modest extent)
German Bunds. The fact that the
initial question has still not been
answered is the main reason why
investors in safe government bonds
have been able to post further positive income so far this year rather
than the setbacks we expected. The
starting basis for future earnings
seems even more sparse to us
now. But we also owe the slight
year-on-year decline in long-term
EUR government bond yields to
the ECB because it has launched a
bond buying program the extent of
which has exceeded most market
expectations. The market effect
of this first QE program in the
euro area has, however, also been
ambivalent: The euphoria of bond
market participants was great, especially ahead of the program and
in its initial stages, when 10-year
Bunds at times yielded just over
zero and even Italian long-dated
paper yielded no more than 1 %. But
the following months were characterized by at times sharp downward
price fluctuations which stood in
marked contrast to the preceding
steady price uptrend. The government bond market did not return to
calmer waters until the fall, when
the ECB held out the prospect of
increasing the dosage of its monetary easing measures further,
thereby setting into motion once
again the mechanism of »joyful anticipation« we saw at the start of
the QE program. For higher-interest
(corporate) bonds, fall was, by
contrast, a difficult phase at times
because growing concerns about
the economy in China and bad
news from individual names caused
considerable uncertainty.
Most recently, by signaling its
willingness to »lift off« before the
end of this year the Fed has demonstrated, we think, that it does not
67
want to be fundamentally deterred
from its course by developments
in Asia or Europe. Stable growth
prospects for the US and the euro
area, taken by themselves, do not
make it seem necessary for the
major central banks to increase
the extent of their monetary policy
support further or to refrain from a
planned cautious withdrawal. Concerns about increased turbulence
on the financial markets, which are
looking anxiously to Washington in
view of a laming economy and the
high USD debt load of some emerging markets, do, however, seem
a weighty factor in the hesitation
shown so far. The Fed’s scope on
the interest side is thus also restricted looking forward. On the other
hand, the phase of extremely low
inflation rates that has marked this
year will end due to baseline effects
alone. In a real calculation we
therefore expect to see falling interest rates for both short and long
maturities in the US and in the euro
area. In a nominal calculation the
interest rate trend this year might
indeed show similarities to 2015:
The »ECB’s bet« carries long-dated
bond yields further down over the
short term and is also prompting
further tightening of risk premi68
ums on the bond market. While a
tendency to falling risk premiums
is also supported by a number of
fundamental arguments (reforms in
countries in the euro area periphery, modest default rates in the
corporate sector), many speculative
investors will probably exit the
»ECB’s bet« once the QE program
has been widened in order to realize profits. Further volatile market
phases with sensitive yield fluctuations on the upside for long-dated
Bunds similar to summer 2015
are thus likely. Should such yield
fluctuations on the upside be used
to extend the duration in bond
portfolios? Generally speaking, we
consider this to be advisable for
higher-interest bonds (government
bonds of the euro area periphery,
high-yield corporate bonds) provided that market liquidity permits
it. Against the backdrop of the
relatively low inflation expectations
priced in by the market, inflationprotected government bonds are
also interesting in a setting of
rising inflation rates.
An investment in US treasuries
instead of German Bunds appears
attractive at first glance in view of
the high interest rate advantage
of USD paper and has in fact paid
off so far this year. But it is worth
remembering that most market participants despite the more hawkish
signals of late expect the US Fed to
raise its key rates only in homeopathic doses over the coming
months. Because the USD yield
curve has already become relatively
flat for an ongoing low-interest
phase, if inflation rates pick up we
see a risk of long-dated US government bonds coming under pressure
as the curve steepens. Moreover,
stimuli for rising US long-term
interest rates might be provided
by continuing selling by foreign
countries (especially China), which
are making increasing use of their
currency reserves to support the
domestic economy and currency.
At yield levels of around or even
less than 2 %, however, 10-year US
treasuries seem far too expensive
from a fundamental aspect. In this
context the modest rise in US key
rates to 1.25 % at year-end 2016, we
are projecting, should be enough
to shift the market balance to a
yield level of between 2.5 % and
3 %. Because the 10-year Bund yield
should, with ECB support, move
within the range established in
2015 for large stretches of next
year, we continue to regard a modest
widening of the transatlantic yield
difference as likely; US government
bonds should thus tend to relative
weakness (without taking into
account exchange-rate movements)
despite the interest advantage.
69
LBBW forecasts (as at the end of the quarter)
31 Dec.
2014
0.05
31 Oct.
2015
0.05
Q4 2015
0.05
Q2 2016
0.05
Q4 2016
0.05
– 0.20
– 0.20
– 0.20
– 0.20
– 0.20
0.08
– 0.07
– 0.05
– 0.05
0.00
– 0.10
– 0.32
– 0.25
– 0.20
– 0.10
5Y Bund
0.02
– 0.07
– 0.05
0.05
0.25
10Y Bund
0.54
0.53
0.50
0.75
1.00
2Y EUR swap
0.18
– 0.02
0.05
0.10
0.20
5Y EUR swap
0.36
0.28
0.30
0.40
0.55
10Y EUR swap
0.81
0.91
0.90
1.15
1.35
US base rate*
0.25
0.25
0.50
0.75
1.25
10Y US sovereign
2.17
2.16
2.25
2.50
2.80
ECB main refinancing rate
ECB deposit rate
3-m Euribor
2Y Bund
* Upper limit of target range.
The structural low-yield setting in
the euro area will continue in 2016:
A further round of monetary easing
by the ECB limits the upside potential for long-term interest rates,
70
following a base formation phase
rising US interest rates should nevertheless lead to a slight rise and
a move closer to the upper limit of
the most recent trading range.
5.2 Currencies.
Currency turbulence harbors opportunities.
Martin Güth
The year 2015 got
off to a very weak
start for the euro.
But the single
currency was able
to stabilize from mid-March onward. Jittery financial markets and
falling commodity prices moreover
prompted many higher-interest and
commodity-dependent currencies
to tumble in the third quarter, as
a result of which the euro is now
substantially up on these currencies
in some cases since the start of the
year.
Looking forward, we expect the
euro recovery seen over the past
few months to end and we think
that 2016 will overall be another
rather poor year for the euro. In
economic terms the euro area
should continue to recover, but
the central banks will continue to
exert a dominating influence on the
markets. The ECB has thus clearly
signaled its willingness to expand
its balance sheet further. One
argument in favor of a weaker EUR
is the fact that we think the US Fed
and the BoE will raise their key rates
faster than is priced in at present.
We are also rather optimistic
with regard to the US economy. We
therefore project a EURUSD rate
of 1.05 at mid-2016 and one of
EURUSD 1.08 at year-end. With the
economic recovery in the euro area
the argument of purchasing power
parity (currently at EURUSD 1.28)
should gain in importance, and the
currently very optimistic positioning of traders should, based on
experience, be reversed sooner
or later. The GBP, which currently
shows a number of parallels to the
situation of the USD, should appreciate vis-à-vis the euro to around
EURGBP 0.70. The economic upturn
in the United Kingdom remains
intact and the unemployment rate
has already returned to pre-crisis
levels.
Following the appreciation shock of
January 2015, the CHF is expected
to move in relatively quiet waters
next year. It would seem that the
Swiss National Bank (SNB) through
well-dosed currency market interventions is still helping to ensure
that the CHF does not appreciate
again. Besides, the SNB’s substantially negative deposit rate of – 0.75 %
renders the CHF unattractive. A
further easing of monetary policy
71
by the ECB harbors the risk of
further appreciation pressure on
the CHF. However, we expect the
SNB to counteract this pressure in
case of doubt. For this reason, and
due to the high valuation of the
CHF, we forecast a slight depreciation of the CHF to EURCHF 1.12 at
year-end 2016.
We also project a weaker performance for the JPY because we are
not convinced by the government’s
reforms and therefore expect a
further easing of monetary policy.
Apart from this, we are certainly
optimistic with regard to a whole
range of currencies – in addition to
the USD and GBP mentioned above.
Commodity-dependent currencies
such as the NOK and the CAD
should benefit from a certain recov-
72
ery in the oil price. In our view,
a very negative global economic
scenario has been priced in for
these currencies, which we do not
share to the same extent. It might
also pay off to keep a cool head
in the case of the Turkish lira. Although there are undoubtedly many
negative headlines with regard to
the currency, we think that they
have been more than sufficiently
taken into account in the exchange
rate. The Swedish krona, the Polish
zloty and the Czech koruna are
also expected to show a positive
performance in 2016. In all three
countries the economy is growing
at a respectable rate of 3 % or above.
Over the coming years investors
thus have a range of opportunities
to generate income outside the
euro area.
5.3 Commodity market.
2016: turnaround expected.
Index is therefore likely to decline
for the fifth year in a row. Recent
months have seen a marked decline
in the prices of base metals and
energy commodities, in particular.
For example, at the end of October
prices of crude oil, US natural gas,
nickel and aluminum had declined
by between 25 % and 30 % since the
start of the year.
Dr. Frank
Schallenberger
Overall market
Most commodity
prices continued to
fall in 2015. Provided that price levels do not change
substantially by the end of the year
the broad Bloomberg Commodity
Bloomberg Commodity Index at its lowest level since 1999
240
220
200
180
160
140
120
100
80
60
96
97
98
99
00
01
02
03
04
Bloomberg Commodity Index (ER) in USD
For the overall market this means
that commodity prices as measured
by the Bloomberg Commodity Index (ER) have reached their lowest
05
06
07
08
09
10
11
12
13
14
15
level since 1999. Against the backdrop of this 16-year low the players
on the commodity market are more
than ever advised to be level-headed.
73
On a sober calculation a trend
towards a further increase is to be
expected for commodities coming
from the demand side. Provided
that the global economy continues
to post relatively solid gains in
2016 and that China, in particular,
– as one of the main countries
demanding commodities – does
not experience a sharp economic
slump, global commodity demand
will rise once again. However, the
situation is very different when it
comes to the supply side. Many
mining companies and oil producers are curbing their investments
and scaling back production due
to the low prices and the associated unprofitable production. For
several base metals there are signs
of a supply deficit for 2016 – and
even the oil market, which is still
heavily oversupplied, should return
to a balanced state over the next
12 to 18 months. The summary for
the commodity market is thus that
commodity prices are likely to have
bottomed out. The mix of solid
demand and crumbling supply now
prepares the ground for a return to
rising commodity prices.
74
Energy
Quiz question: how high was the
price of Brent oil in 2014? Answer:
it depends! USD 99 per barrel
on an annual average, USD 55
towards the year-end. After the
OPEC meeting in November 2014 it
gradually became clear that Saudi
Arabia is abandoning its role as
a swing producer and is seeking
to push suppliers outside the
cartel out of the market. OPEC’s
production policy thus remained
expansionary, and in the course of
2015 Saudi Arabia even hit fresh
production highs. This naturally
prompted a surplus supply on the
crude oil markets, which put prices
under heavy pressure right into
the year 2015. A particular focus
of the cartel is shale oil in the
United States, where production
has been increased by just under
one million barrels per day thanks
to innovative fracking technology.
At the lower prices prevailing at
present, production should become
unprofitable. However, the fracking
companies have proved to be more
robust than expected: production
has focused on the richest fields
and the relatively lower cost of oil
equipment and service weighed on
breakeven prices. US production
has been declining only since the
middle of the year. The cyclical
forces are thus having a gradual
effect, including outside the United
States, because oil groups have
sharply cut their investment budgets.
On the demand side, too, the low
prices have so far prompted a
marked recovery. Nevertheless, the
current excess supply (in 2015 as a
whole around 1.5 m barrels are expected to go to global stocks every
day) will continue until well into the
year 2016, not least because Iran is
keen to return to the markets following the historical agreement in
the nuclear dispute. As soon as the
fundamental picture on the crude
oil markets starts to improve amid
an overall bright economic setting,
the new swing producer (US) might,
however, put the brake on more
pronounced price recoveries – shale
oil products can be sold rapidly and
production in the US will then pick
up again. The recovery potential for
the oil price thus remains limited
for now and the favorable fuel and
heating oil prices should remain
with us for a while longer.
Base metals
Base metals recorded substantial
price declines in 2015. A slower
growth momentum in China prompted declining growth rates on the demand side while the supply side has
so far not responded to this development to the same extent. This
concerns aluminum, in particular,
where Chinese supply continues to
rise perceptibly despite low prices,
thus more than offsetting the reduction of capacity in other parts of
the world. Aluminum and nickel are
now trading at a level last seen at
the end of 2008 or in early 2009,
at the peak of the global financial
and economic crisis. However, in
the case of nickel there are growing
signs that Indonesia’s ban on ore
exports is making its way through
the value chain, therefore also
reducing the supply of refined
nickel. Most recently, there was
news about planned cutbacks in
mining production on the copper
market. All in all, we expect prices
to stabilize. Whether and to what
extent prices will rise again next
year will depend to quite a substantial extent on how the economy
in China, by far the biggest buyer,
develops. Because we do not expect
75
a »hard landing« and investment
programs in infrastructure will tend
to be ramped up, we are optimistic
in this respect. We see the biggest
potential for price increases for
nickel and zinc.
Precious metals
Once again, the gold price trend
was not to investors’ taste for large
stretches of 2015. Although the
price of the yellow metal increased
sharply in January, prices were
driven by the prospect of the
electoral victory of the Syriza Party
in Greece, which did in fact materialize, and the European Central
Bank’s decision to launch a bond
buying program. The gold price
slumped down to USD 1,077 particularly in the summer months, in
expectation of a turnaround in US
key rates. Because the US Fed has
announced but not yet implemented the rate hike, the idea of no-
76
ticeable earnings for secure investments in the foreseeable future still
constitutes a heavy psychological
burden. It is well-known that possessing precious metals does not
generate ongoing income. However,
interest rates will not rise abruptly as long as monetary policy in
Europe and Japan remains accommodative. In addition, at the gold
price now reached, higher buying
in India and China, the world’s two
most important markets, is making
its effects felt. We expect to see a
rise in demand in these countries in
2016 when compared with this year,
especially as Chinese investors got
their fingers burnt with equities
most recently. Because the central
banks in the emerging markets
are also still allowed to buy gold
and gold supply is likely to tend to
stagnate, we expect to see a price
increase which is likely copied by
its little brother silver.
5.4 Equities.
Equity rally in the maturity phase.
Dr. Berndt Fernow
The bull market on
the global equity
markets will probably celebrate its 7th
birthday in 2016 if
calculated from the low of the financial crisis, which means that it is
doubtlessly entering a mature phase.
However, it would be premature
to use historical comparisons to
conclude that its end is imminent
because the underlying monetary
policy conditions have changed
considerably when compared with
the past few decades. The ECB will
continue to supply the financial
markets with ample liquidity for
the whole of next year. This will
weigh on the yields of fixed-interest
investments and force institutional
investors to search for alternatives.
The interest rate turnaround we are
expecting in the United States is
unlikely to cause substantial changes in this comfortable monetary
setting because the movement
remains limited and would, at the
same time, be an expression of
healthy normalization following
seven years of a monetary state of
emergency.
Equity markets from the perspective of a euro investor since early 2009
350
300
250
200
150
100
70
Sources: Thomson
Reuters Datastream,
LBBW Research
2009
DAX
2010
Euro Stoxx 50
2011
S&P 500
2012
Nikkei
2013
2014
2015
MSCI Emerging Markets
77
DAX at the end of 2016 at
12,000 points fairly valued
The prices are based on corporate earnings, which in 2016 are
expected to record mid-singledigit growth in an overall positive
setting. However, the driving forces
are likely to change when compared
with previous years: in some export
sectors the fat years are over because excess capacity exerts strain
the world over and the purchasing
power of many emerging markets
on the global markets has fallen.
The baseline effect of the weaker
EUR should also be exhausted in
2016, assuming our forecasts are
correct. Earnings growth thus has
to be generated organically, and
of this we believe the sectors with
a more domestic or less cyclical
focus, in particular, to be capable.
At present, 13x current earnings
are paid for the DAX on the stock
market. We believe it capable of
expanding this valuation marginally, which would mean a reading
at 12,000 points by year-end. Our
valuation models also show this
figure as the fair value at the end
of 2016.
78
Incorporate greater fluctuations
in the calculation
However, the path from A to B is
never linear on the stock market
because in between discussions
about scenarios emerge which, if
they materialized, would shake up
the economic and earnings prospects quite considerably. There are
plenty of candidates here: a more
pronounced economic weakness
in China, persistent deflationary
tendencies in Europe, the opposite
of strong inflation with monetary
policy brakes in the United States or
growing political tensions in Europe
or neuralgic spots in the world –
all these factors would put the
loss tolerance of investors to the
test. For 2016, we should reckon at
least with average fluctuations – a
range of 25 % between the year’s
high and the year’s low would not
be surprising. Expressed in DAX
points, this could mean a range
between 10,000 and 12,500.
Level-headedness will be required
especially when the general mood
reaches extremes of euphoria or
pessimism.
Difference between year’s high and year’s low of the DAX in percent
60%
40%
20%
0%
–20%
–40%
–60%
1988
1991
Year’s high in %
1994
1997
2000
Year’s low in %
Wall Street in election mode
While 2015 was a year of the European stock markets on a price basis,
in the new year it will certainly be
worthwhile to take a glance overseas. Although Wall Street looks expensive, corporate America has had
to contend with particular headwinds
from the currency side and due to
the slump in the oil price. The trend
of earnings revisions has now turned
upwards again and is looking better
than in the Old World. This is not
necessarily surprising because the
world’s biggest economy has long
left the crisis behind and has a far
stronger domestic momentum than
2003
2006
2009
2012
2015
Source: LBBW Research
the other developed regions. The
substantially higher inflation looking forward also opens up more
scope for price increases to US
companies than is the case here.
Of course, the presidential election
will be the main topic. On average,
election years are better stock
market years albeit with above-average fluctuations. However, there is
also 2008, a particularly bad year.
All told, the party affiliation of the
later president plays a minor role,
incidentally, but the stock market
just seems to welcome the disappearance of an uncertainty factor.
79
US and euro area: earnings revisions versus relative stock
market performance
160
15
150
10
140
5
130
0
120
–5
110
–10
–15
100
2011
2012
2013
Earnings revisions US to euro area (left-hand scale)
2014
2015
S&P 500/Euro Stoxx 50 (right-hand scale)
90
Sources: Thomson Reuters Datastream, LBBW Research
Selective opportunities in the
emerging markets
The biggest losers in recent years
have been the stock markets of the
emerging markets. The decline in
commodity prices and the shortage
of foreign capital have laid bare the
inner weakness of many economies
and political systems. Moreover,
quasi-state and commodity-dependent companies have a high weight-
80
ing in the indices and they suffer
the most from the decline. The
earnings trend of the local groups
is correspondingly weak. However,
when the night seems darkest dawn
is approaching: major international
investors have withdrawn from the
emerging markets and are now
only able to appear as buyers there.
The valuation ratios are showing a
historically high discount to those
of the developed countries. Once
the flow of negative news abates,
this may be enough to drive prices.
Of course, it remains doubtful to
what extent countries such as
Brazil or Russia will now also tackle
their structural problems and thus
lay the foundations for perma-
nently higher growth that is not
only based on commodities. We
therefore do not predict a major
turnaround to the upside on the
emerging stock markets, but would
rather search for opportunities on
a selective basis.
81
6 Conclusion.
In our main scenario we project a continuation of the stable growth trajectory at global
level. All told, the world will,
however, remain characterized
by low interest and growth
rates – the »new normal«. The
risks and opportunities are
finely balanced on the markets
in the coming year and thus
require level-headed selection
and a close look. Equities
should generate better income
than interest rate products,
the euro is determined by the
diverging monetary policy on
both sides of the Atlantic.
6 Conclusion.
Cross-asset synopsis.
Dr. Markus Herrmann
Head of Strategy
Research
Which scenario will
it be next year? Will
the interest rate
and bond markets get the main
part, will the music play on the
equity market, or will it rather be
a crisis year which suggests flight
into the safe haven of gold? We do
not expect the latter to happen, and
it cannot seriously be projected. In
the overview of the analyses by the
LBBW Research team I can discern
some clear guidelines – opportunities and risks – for the coming
year.
In our main scenario we project a
continuation of the stable growth
trajectory at global level. In a
historical context the momentum
of the recovery seems rather
muted so far, but it seems to have
bottomed out. The stimuli have a
selective regional origin, we see
the industrialized nations overall
as very robust, Europe with more
growth potential than the US on
account of the later and slower
recovery following the crises of
the past few years. The ECB will
84
continue its ultra-expansionary
course in light of the deflation risks
while the US will see a turnaround
in interest rates. In the emerging
markets of Asia and Latin America
the momentum will be specific to
regions and countries and overshadowed by political uncertainty, and
we advise caution here.
All told, the world will remain
characterized by low interest and
growth rates – the »new normal«.
The high growth rates seen in the
emerging markets in the past are,
we think, on a gradually declining
trend, driven by the demographic,
cultural and social approximation
of these countries to those in the
developed industrialized countries.
And in the industrialized countries
the efforts at sustainability, but
also also at reducing the historically
high public sector debt, argue in
favor of limited growth.
This backdrop should not prompt
us, however, to question the entire
picture when smaller, local outliers
occur. This constitutes the biggest
risk, In my opinion the various crises, which taken by themselves are
quite manageable, result in global
economic pessimism. The current
situation in Syria, classified by us
as a proxy war between the major
blocks, harbors the greatest risk
potential in this regard. One direct
consequence felt by us all is the
refugee crisis. It polarizes governments and citizens, but alongside
the costs it also provides opportunities. A reason to be level-headed!
Certainly, the risks and opportunities are finely balanced on the
markets in the coming year and
thus require level-headed selection
and a close look so as not to be
swept away by short-lived market
fluctuation and exaggerations.
We continue to see the equity
market as a clear opportunity. The
earnings trend of companies is
supported by the weaker euro. The
low interest levels and a prudently
growing risk appetite are leading
to a further rise in equity prices. In
our view, equities as an asset class
are an indispensable part of any
portfolio, particularly for players
who are traditionally focused on
fixed-income investments due to
their high dividend return relative
to the potential coupon income.
On the interest rate market the
major central banks are, we think,
aware of the potential harmfulness
of abrupt market fluctuation and
they will put considerable effort
into the creation of conditions
that limit the risk of dramatic
price slumps. The normalization
of monetary policy upcoming in
the United States will certainly not
be pain-free, but interest rates will
rise on a very flat trajectory by
historical standards. Duration risks
should nevertheless be avoided,
but credit risks offer good opportunities in 2016.
All told, the year 2016 is likely
to offer the opportunity for solid
growth and thus stable income
for investors together with overall
reliable conditions for all players on
the markets.
85
Notes.
86
Dear readers,
It gives us great pleasure to
present you with an overview of
the expected development of the
economy and the markets in the
coming year.
Publishing information
Editorial desk:
Research
Am Hauptbahnhof 2
70173 Stuttgart
Editorial deadline: 9 November 2015
Photographic sources: ThinkStock, Landesbank Baden-Württemberg
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the time when it was completed, irrespective of potential own holdings in these products.
We reserve the right to change our opinions expressed here at any time and without prior notice. We also reserve the right
to stop updating this information or to discontinue it completely without prior notice. This report dos not replace personal
advice. It is only meant for information purposes and does not constitution an offer or an invitation to buy or sell. For any
further and more up-to-date inflation about specific investment opportunities and for the purposes of individual advice,
please consult your financial adviser.
LBBW has taken measures to ensure that conflicts of interest are avoided as far as possible or are treated appropriately with
regard to the production and distribution of financial analyses. In particular, this pertains to barriers within the bank that, for
the employees preparing financial analyses, block access to information that could explain conflicts of interest for LBBW in
relation to the issuer in question, as well as the ban on proprietary trading of securities for which or for whose issuers the
appropriate employees prepare financial analyses and the ongoing monitoring of compliance with legal requirements by
employees of the Compliance department. Please find current data according to section 5 (4) No. 3 FinAnV at
http://www.LBBW.de/finanzanalyseverordnung.
Stuttgart
Am Hauptbahnhof 2
Phone+49 711 127-0
Fax +49 711 127-43544
www.LBBW.de
[email protected]
Karlsruhe
Ludwig-Erhard-Allee 4
Phone+49 721 142-0
Fax +49 721 142-23012
www.LBBW.de
[email protected]
Mannheim
P. O. Box 10 03 52
Augustaanlage 33
Phone+49 621 428-0
Fax +49 621 428-72591
www.LBBW.de
[email protected]
Mainz
Grosse Bleiche 54 – 56
Phone+49 6131 64-37800
Fax +49 6131 64-35701
www.LBBW.de
[email protected]
12/15 61 tcf
Headquarters
Prism binoculars
Patent: Prof. Dr. Ernst Abbe
Germany, 1893
Outlook 2016. Made in Germany.
Reasons to keep calm.

LBBW Outlook 2016

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