THE UBS GLOBAL ASSET MANAGEMENT Cyclical Market Forum, held quarterly to discuss three plausible economic scenarios and their potential implications for investments over the next 12 months, found its 3Q13 Forum dominated by discussion of the lack of tapering by the US Federal Reserve (Fed) and heated debate about whether problems in emerging markets could lead to contagion in developed markets, similar to events of the late 1990s. While the lack of Fed action led to a short-term rally for risk assets, Curt Custard, the chair of the Forum, said, “If the Fed continues its ‘lower for longer’ approach, and that becomes priced into markets, this seems like a rich environment for asset class bubbles to form.”
Three market scenarios are proposed at each Cyclical Market Forum and are debated by UBS Global Asset Management (UBS) investment teams covering equities, fixed income and alternative asset classes, including real estate, commodities and currency.
UBS Cyclical Market Forum 3Q13 Economic Scenarios Under Consideration
- Scenario 1 represents a consensus scenario, in which the global economy continues on a slow but steady growth path, with the US and Japan leading the recovery. In this scenario, emerging markets continue to suffer due to a reduction in liquidity, but begin to recover next year. The eurozone continues a subdued recovery, with growth hampered by the need for ongoing deleveraging. Inflation remains tame in developed markets, but continues to pose problems in several emerging countries.
- Scenario 2 represents the most bullish scenario, in which a very strong US economy leads to widespread global confidence and a return to broader risk-taking sentiment. In this scenario, the US economy is propelled by strong consumer spending and a robust housing sector, while the European debt situation dramatically improves, including in the periphery. Although emerging markets continue to feel the effects of decreased liquidity, growth returns by the beginning of next year.
- Scenario 3 represents the most bearish scenario, in which problems in several emerging markets trigger problems in developed markets, leading to significant global disruptions, particularly for emerging economies and the eurozone. Weaker demand for commodities leads to negative outlooks for significant commodity exporters, such as Russia and Brazil. The US continues to grow modestly due to resilient domestic demand, but the rest of the developed world sits on the verge of stagnation.
A majority of the Cyclical Market Forum participants voted Scenario 1 as the most likely. In a break from previous Forums, more participants voted for the bullish Scenario 2 than the bearish Scenario 3 as the second most-likely outcome. However, this more bullish sentiment comes with a significant caveat. While fewer participants voted for the most pessimistic scenario, the ramifications on a wide range of asset classes were far more negative in the bearish scenario 3 than in past Forums. If the most negative outcome comes to pass, equities in both developed and emerging countries would likely suffer double-digit losses, while overall total returns would also be negative. Across all the scenarios, participants predicted that developed markets would strongly outperform emerging markets in terms of both currencies and total return over the next 12 months.