By RICARDO EVANGELISTA
AMONG the many twists and turns of 2020, the behaviour of the financial markets stands out as particularly fascinating and bewildering. The discrepancy observed between the state of the underlying economy and the performance of stocks and other investment assets surprised even the more seasoned observer, with major stock indices, as well as gold and Bitcoin, all reaching record highs. As Wall Street kept opening bottles of Champagne, main street struggled through an unparalleled peace-time recession characterised by record unemployment numbers and dramatic GDP contractions.
So, let’s look ahead and try to map the underlying trends that will condition the performance of the financial markets in 2021. Will investors remain cocooned in what sometimes appears to be an alternative reality? Or, will there be a reverse of fortunes, with the financial markets’ “bubble” finally bursting?
Undoubtedly, there are a few dark clouds forming over the horizon. The new strains of the coronavirus raise questions about the timing of the recovery, and the return of inflation could also throw a spanner in the works of the expected economic rebound. Nevertheless, the prevailing feeling among investors remains one of optimism for 2021. With risk related assets likely to continue to enjoy the support offered by historically low interest rates and the mammoth asset purchase programmes of the world’s main central banks.
Despite the devastation that the coronavirus continues to inflict, with the second wave of the pandemic being even more lethal than the first, the base case scenario for the medium to long term remains optimistic. Most analysts don’t believe that the new virus strains will derail the hopes triggered by the vaccines and, towards the middle of the year, the economic recovery we all long for should start to materialise.
This recovery has the potential to increase in inflation. As entire populations emerge from lockdowns there may be a sudden increase in spending, but it isn’t likely to last, as consumer attitudes ought to soon refocus. With robust supply chains expected to perform well under the pressure of higher demand, it is unlikely that any initial rises in consumer prices will reach worrying levels.
As the recovery kicks in, supported by massive government fiscal stimulus, the continuation of accommodative monetary policies and ambitious asset purchase programmes, the financial markets are expected to continue to deliver more of what we had in 2020. Stocks are likely to do well, due to investors’ sustained risk appetite and, as traditional safe investments continue to generate negative real yields, other risk related instruments will also benefit. Emerging Markets’ assets, which are currently under-priced, may become star performers in 2021. In terms of currencies, the euro and the pound should remain supported, especially versus the dollar, as the greenback will endure lasting pressure due to the Fed’s dovish monetary policy, and low treasury yields.
Precious metals, particularly gold, will probably perform well due to increasing demand by those who wish to hedge inflationary dangers, or to balance portfolios with a heavy emphasis on riskier instruments. As for Bitcoin, the crypto currency remains too volatile to allow firm predictions; however, it is undeniable that its latest surge appears to result from greater traction with larger investors. Still, where the cryptocurrency will be in 12 months’ time is extremely difficult to estimate.
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