Last updated: January 18, 2010 2:23 pm

Outlook for 2010

Deutsche Bank

A turbulent 2009 managed to bring returns for equity and bond investors, while those with dollar holdings had cause for concern. Emerging markets triumphed over the entire decade, while developing asset classes like commodities also showed that youth was preferred over maturity.

But what does the next year hold in store for investors? More of the same, or will there be corrections to established themes? What are the stumbling blocks likely to be, and what will ease the pain if we are in for a bumpy ride?

In the first weeks of 2010, Ask The Expert has access to some of the biggest trading houses in the City.

On Monday, January 18, strategists from Deutsche Bank including Michael Lewis, head of commodities research, Bilal Hafeez, head of currency research and Francis Yared, rates strategist, are answering readers’ questions.

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How wise is it to keep interest rates so low now that recovery seems to be under way? There are a lot of savers out there who’s ability to spend has been hit, since they’re getting next to no returns on their savings?
Steven Sparks, Singapore

Francis Yared: Even though the recovery is under way, unemployment remains high and inflationary pressures are limited for now.

Even though the recovery is under way, unemployment remains high and inflationary pressures are limited for now. Also, the experiences of Japan in the 1990s and the Great Depression in the 1930s highlight the risks of withdrawing the monetary and fiscal stimulus too early in the aftermath of a deep financial crisis.

Given the uncertain economic outlook, central banks will probably err on the side of caution and delay any normalisation of policy rates until the recovery is well established. This policy bias is an insurance against falling back in a deeper recession or even deflation, but raises medium term inflationary risks.

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If quantative easing is not inflationary, cannot be inflationary and will not be inflationary as most economists contend, why has this miracle of fiscal deficit funding not been used regularly before?
James Fairrie, London

Francis Yared: The current use of quantitative easing and its lack of immediate impact on inflation is an exception rather than the norm. In the past, fiscal deficits funding by central banks has led to higher inflation. It was in response to this that the present separation of monetary and fiscal policies has become the norm.

The current use of quantitative easing is motivated by the need to counterbalance exceptional deflationary forces while policy rates have reached their zero limit.

Quantitative easing is not intended to fund fiscal deficits, but rather, the aim is to lower longer term interest rates and inject liquidity in the economy. Under more normal circumstances, reducing policy rates would be sufficient to stimulate the economy, and adopting quantitative easing would harm central banks’ credibility and result in higher inflation.

One should note however that if quantitative easing is not in itself necessarily inflationary, maintaining an overly easy monetary policy will be.

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Does China’s move on bank reserves have a significant impact on growth? Will additional monetary tightening policies be needed?
Mario Alves, Portugal

Michael Lewis: We would argue that the most important message from China remains materials consumption, most visible through impressive import statistics.

Nevertheless, while Chinese economic activity will likely remain strong in 2010, we anticipate that apparent consumption growth could in fact fall. This is because the build in inventory which we believe occurred in 2009, as manufacturers anticipated the stimulus-lead recovery, has largely run its course.

We don’t expect that inventories are likely to be increased much further in 2010, resulting in a probable decline in apparent demand as imports of raw materials come back to more normal levels. This is particularly true for the base metals; for bulk commodities such as iron ore and thermal coal we believe that import growth is likely to fall only modestly.

With respect to excess capacity, we believe it will gradually be reigned in over time; probably coincident with tighter monetary conditions, but we don’t expect this to have an significant impact on commodity prices in the near-term.

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Gold has been seen as a safe haven with a weak dollar driving up the price. Is this sustainable and are there demand fundamentals in place to sustain the current prices into 2010?
Rob Santler, Brighton

Michael Lewis: The near-term dynamic for gold has changed subtly over the past month or so. As economic conditions have normalised and the market becomes more comfortable with the sustainability of the current global economic recovery it has also started to anticipate the end of accommodative monetary policy and speculate as to the timing and magnitude of a future Fed interest rate hike.

This impacts gold markets as the dollar is seen as having greater support and inflation expectations fall as the Fed is seen as potentially minimising this risk. With lower risks for dollar weakness and inflation, gold prices are likely to remain moribund over the next several quarters.

Nevertheless, we remain bullish on gold over the next two years as we believe that the dollar, and for that matter most fiat currencies, remain fundamentally weak. We expect that most western central bankers will remain sensitive to domestic growth conditions and thus maintain an accommodative bias in terms of monetary policy; thus inflation risks could once again re-emerge.

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Are the commodity driven currencies (Australian dollar for example ) now overdone and will we see a correction in 2010?
Ian Clarke, unknown

Bilal Hafeez: Of the commodity-linked currencies, we think the Australian dollar is the most overdone.

It has appreciated a lot on expected rate hikes by the Reserve Bank of Australia, Chinese growth and the increasing popularity of carry trades. All these factors could moderate as the year unfolds.

Other commodity currencies such as the Canadian dollar have more scope to appreciate. The Bank of Canada has been notably cautious on growth and so has kept rates very low. This will likely change and will help spur Canadian dollar strength.

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