London - The looming new year may well bring as much
financial turbulence as tumultuous 2011 but global investors reckon
"panic" is no longer an option and just protecting your money will
require taking on at least some risk.
For all this year's left-field shocks - the euro sovereign
debt and banking minefield, an unprecedented US credit rating warning, Japan's
earthquake, the Arab Spring uprisings - investors have not gone to ground in
quite the same way they did at the height of the credit implosion in 2007 and
2008.
That's not to say extreme "risk off" valuations
that have seen top-rated government debt yields drop below equity dividend
yields have not persisted and grown, even as sovereign bonds were deemed
riskier and the AAA status of the United States and Germany have been
threatened by credit-rating firms.
Rather, this pricing has happened without the same sort of
panicked market dislocation that saw a wholesale retreat from investable assets
and dash for cash three years ago.
"It is frightening that these valuations can be reached
in a cold and calculated manner. We have seen none of the previous panics, nor
the correlations of almost all liquid and tradable assets in a scramble for
cash," said Jim Wood-Smith, head of research at British wealth management
firm Williams de Broe.
This shows investors need to remain invested even though
nervous of macro-driven index volatility and the prospect of real losses in
cash or sovereign debt over a protracted period.
It's one thing descending into the bunker to see out an air
raid, it's quite another to live down there for a decade.
No refuge in money funds
For all the stress, volatility and gloom, investors actually
pulled more than $150bn (£96bn) from cash-like money market funds in 2011,
according to fund-tracker EPFR. Back in 2008, almost half a trillion dollars
flooded to these funds but cumulative losses since early 2009 still stand at
more than a trillion.
There are two main reasons why hunkering down in
"safety" is no longer an option.
One is that most traditional havens are now almost certain
to lose you money in real terms over time as inflation-adjusted yields on
10-year US, German and UK government bonds - not to mention money market funds
or short-term savings accounts - are all now deeply negative.
The second is that the toxic mix of slow Western growth,
sovereign stress and high market volatility is not going to go away in a hurry
and could well define the rest of the decade.
"We do not believe that interest rates will 'normalise'
for years, possibly running into decades," said Wood-Smith at Williams de
Broe.
As Standard Life Investments' Rod Paris told Reuters last
week: "It's easy to be very risk averse and not deal with anyone or
anything, but we have a business to run."
Even the optimists - who still see double-digit global equity gains next year - acknowledge it will at least be bumpy.
There are ways to look at the eurozone's slow motion crisis
resolution as a glass half full. It may be the start of a historic fiscal union
that bequeaths a stronger, better-functioning currency area.
Yet with the price for austerity being paid in growth and
France, Italy and Spain together needing to raise up to €17bn of new debt on
average every week in 2012, there's clearly scope for accidents along the way.
Growth may be better in the United States, but a
presidential election year brings its own stasis and longer-term control of the
country's debt mountain remains unresolved. The emerging engines of China and
the developing world are cooling fast and markets there have underperformed
badly this year.
For the pessimists, of course, everything remains bleak.
Deutsche Bank credit strategists told clients on Monday that
much of their 2012 outlook could be directly copied from last year's, hooked on
fear of debt restructuring, default, haircuts, and the choice between fiscal
euro union or extreme levels of money printing. "The one difference is
that the stakes have become far higher 12 months on."
And so volatility, it would seem, remains the name of the
game as fundamental valuations vie with "event risks" and recession
risks spar with more government intervention. Stock market volatility captured
by Wall Street's VIX index may not be near 2008 extremes, but it is remaining
elevated for longer.
A poll of investors conducted by the Association of
Investment Companies this week showed 96% expect another volatile year in 2012.
However, 71% think that markets will ultimately go up.
When asked what gave them the greatest cause for optimism,
26% of managers are encouraged by strong company balance sheets. A further 26%
believe equities still represent good value.
In a world where years of sovereign stress and negative real
yields lie ahead, high dividend blue chip stocks or high grade corporate debt -
ideally of companies with hefty emerging market exposure - remain many money
managers' investments of choice.
Williams de Broe points out that despite high correlation of
top stocks and the dominance of index-tracking and use of exchange-traded
funds, the past 10 years were not so much a "lost decade" for equity
if stocks were carefully selected.
Even though the FTSE 100 has lost more than 20% since
December 1999, more than 33 current FTSE stocks - including blue chips such as
Unilever and Tesco - at least doubled over the same period.
"In order for portfolios to provide returns that are
more than paltry, investors must take on greater risk at a time when the
volatility of equity markets is highly likely to become ever greater,"
said Wood-Smith.