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Beware EM credit bubble: Capital Economics' key 2014 calls

by Dylan Lobo on Jan 09, 2014 at 14:18

Beware EM credit bubble: Capital Economics' key 2014 calls

Capital Economics has revealed where it believes the best opportunities and greatest risks lie for investors in equities and bonds in its outlook for 2014.  

As the Fed gradually scales back quantitative easing, the consultancy’s chief market economist, John Higgins, expects the dollar to rise and government bond yields to continue to drift higher in tandem.  

At the same time he expects investors’ appetite for risky assets to wane and is particularly concerned over the credit bubble bursting in emerging market equities.

Equities

While Higgins does not predict another very strong year for the US, he does not expect it to fall back sharply and expects the S&P 500 to end 2014 at around the 1,850 mark.

‘Two factors we expect to cap the upside for US equity prices are margins and valuations, which are both stretched by past standards,’ he explained. ‘However, this is partly the result of structural rather than cyclical forces, and we do not expect either to collapse.’

Higgins sees better value in UK equities, which he feels will also be aided by ‘minor’ depreciation of sterling against the dollar along with strong GDP growth. He tips the FTSE 100 to end the year at 6,900.

The developed market Higgins is most bullish on is Japan where he anticipates further yen weakness to help inflate the Nikkei to 17,000 by the end the year. ‘A depreciation of Japan’s currency had often tended to result in its stockmarket outperforming its US counterpart, with the relationship especially strong in recent years,’ Higgins said.

There is little optimism for emerging markets in Higgins forecast, although he does not believe the difference between performance in the region and the developed markets will be quite as wide this year. While he expects sluggish economic growth, falling oil and commodity prices and tapering all to have an impact, one of his biggest concerns is the emerging market credit bubble.

‘[There is also] the risk of credit bubbles bursting in some EM countries, such as Brazil, as well as the ever-present threat of political instability, as recent events in Turkey and Thailand attest,’ he warned.  

Bonds

Higgins expects things to be a little easier for treasuries in 2014.  

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