Never mind that many forecasters are still wiping 2016's egg from their face ...... it's 2017, and time for another go .....

Never mind that many forecasters are still wiping 2016's egg from their face ...... it's 2017, and time for another go .....

ref :- "What not to expect in 2017" , Buttonwood in The Economist.

Regulars will know that we like to roll out J.K. Galbraith's assertion that "the only function of economic forecasting is to make astrology look respectable" from time to time. It's never more appropriate than at this time of year when figures from the world of finance are expected to offer their own particular prognostications for the year ahead. If forecasters get it right their reputations as market sages will be enhanced, but one suspects that many of them would secretly wish they didn't have go public with their views in case they look a bit foolish when the opposite happens. Of course, not offering any view at all doesn't do much for the profile if you're trying to attract new business.

Old J.K. might have had 2016 in mind when he gave his opinion on forecasting all those years ago. The most popular wisdom at the start of the year was that US rates would climb steadily as growth strengthened (the Fed were expecting to raise rates four times during the year) and that the dollar would consequently continue its upward march. In the event a combination of weaker domestic performance and global market jitters put the kibosh on rate hikes all the way until December, undermining the dollar whilst those same jitters also prompted flight-to-quality flows into the Jap Yen and the Swissie (amongst others). Dollar bulls and Bond bears were left licking their wounds and the background noise to the first half of the year was the sound of commentators furiously scribbling down new playbooks and targets.

2016 was also the year when political forecasters had to be added to their economic counterparts in Galbraith's famous quote. Brexit and Donald Trump's electoral victory meant that the only people looking more sheepish than some of the economic forecasters were the political pollsters. It seems right that the two fields should be bracketed together. Politics and economics are almost by definition reliant upon each other, but it's hard to recall a time when market moves got their direction from political developments as directly as they are likely to in the year ahead.

That added level of unBpredictability may be the reason why The Economist is offering a slightly different take for 2017, and chooses to highlight how things may pan out in a rather different fashion to that favoured by the general consensus. In essence, Buttonwood is examining WHAT MIGHT NOT HAPPEN AFTER ALL. The Economist is after readers not investors so doesn't have to offer firm conclusions as to the future. Rather, it's job here is to bring some fundamental dangers to our attention in case we are an investor siding with the majority view without considering what might go wrong. So here goes .....

Surging stock markets since the US election reflect bubbling optimism that Mr Trump's stimulative fiscal policies will boost economic growth to 3%- 4%, and the majority view has it that equities will continue upward in 2017. But has the market priced in the sweet side of Trump's election already without examining potential downsides ? It will take time to implement such comprehensive changes in policy, even assuming that Trump's actions match his rhetoric once he is in the hot seat. The policies may well be watered down by Congress along the way (yes, even a Republican one, especially when it comes to sharply higher levels of public spending). Besides, it may well be the case that demographic factors that include low productivity mean that those 3%- 4% growth rates are just not attainable in the modern era. Some might argue that if you take Japan as an example, there are no guarantees that either fiscal or monetary stimulus (or both together) can do the job.

It's fair enough to expect profit levels in corporate America to rise given the expected swingeing cuts in corporation tax in the pipeline, but once again you have to ask if this isn't largely priced into equities. Stocks are priced at a cyclically adjusted price earnings ratio of 28.3, which suggests that it might be. The ratio is already 70% above its long-term average. And if things do go as expected and the Fed raises rates three times this year, that will presumably translate into dollar strength. What would be the effect of a rampant currency on the profits of US multinationals ?

In bond markets, expectations of repeated hikes of short-term rates have spilled over into rises in bond yields further down the curve. 10-year Treasuries that yielded below 1.5% in July now return 2.5%, but that puts them nearer the 3.00% top of the trading range of recent years. There's fundamentally nothing that says that yields can't break up through that level, but as yields on government debt translate into higher corporate and private borrowing costs, would that adversely affect the intended boost to economic growth ? Bond yields are famously quick to react (or self-correct) , and a sudden raft of weaker economic data could drive yields lower again. In short, the continuation of the great bond sell-off that started in 2016 is not a "given" for 2017.

Integral to most predictions for 2017 is the fate of Europe. Every man and his dog (that includes us, of course) have been keen to talk of impending elections in Germany, France and the Netherlands (and probably Italy too). The speculation is that if any of these result in a victory for one of the rapidly expanding populist parties in any of these nations, we could be looking at the early stages of the disintegration of the Euro and even of the EU itself. After the events of 2016, it's absolutely right that these possible outcomes should be considered, but what if they don't happen ? We have to remember that whilst all are on the cards, that's not the same as saying that they're likely. Austria became the first to overcome an electoral hurdle last month. The OECD forecasts that the Eurozone will grow at a respectable(ish) 1.6%, and it's not impossible that Europe might even become a safe-haven. Now there's a thought.

Lastly, and since we're talking about unpredictability, give some consideration to the chances of some major market disruption. Make no mistake, these are becoming more regular, whether they be "flash crashes" in equity prices, huge leaps in bonds yields (e.g. taper tantrums) or collapses in currency markets (remember sterling ?). They may have their origins in some fundamentally logical news event, but get out of hand due to computer-driven sales when selected price points are reached and the massive loss of market liquidity that is a result of banks withdrawing from trading now that regulation has made participation so expensive. And this doesn't even begin to address the chances of market disruption caused by cyber warfare or cyber crime. These events may be short-lived , but the damage to those on the wrong side of things and to confidence in markets in general is immense.

Is the Economist just playing Devil's Advocate ? Perhaps, but if we learnt anything from last year it must be that minority views are no less valid than those of the majority.