10 Bold Predictions for Markets in 2016
Unlike economists (who even if they did have a clue about the future can’t actually tell you) I like to point to the trends point and the warning signs. Whilst every forecast has finally decided to put China in the ‘weak’ category I’m going from China bear to bull. Other contrarian calls are that commodities will bottom led by food and this could mean the end of the Saudi regime. So read on and if you like it, share it.
Why me?
I’ve worked in the markets since the late 90’s in banks, clearing houses, brokers and as a trader — then I began my first startup to teach people how to trade and invest. I made a lot of really good calls like stock highs in 07 & 10, Crude @$150, the gold rally from $900-$1800 and China’s peak during that time, I did miss most of the stock rally from the bottom of 09 and called gold a buy around $1500 on the way back down.
Since my partners took over that business I’ve been moving more into the technology space. This year I have focused little on the financial markets and more on the VC, startup and unicorn space. Why? Because I believe we are at the beginning of a huge economic transformation where a lot of what we think of as the stock market will be replaced and also how money is lent will change. Plus I’m working on launching my next Startup, hopefully, in the middle of this year.
Overview of the Markets
I always look at long term cycles and try to put where we are into a historical sense. Firstly we have a long term chart of the 10yr Treasury Yield:
Every economist out there thinks interest rates will go up. The yield (effective interest rate) on the US 10 year government bond at the end of 2015 is around 2.25%.
So if you buy the US Government 10 year bond this is the return you are locking in per year. If interest rates go up the effective value of your investment drops. You want interest rates to fall — but how much further can they fall? I think this is basically the floor, although Japan has even lower yields for decades.
IF yields start going up and bond values fall the markets could panic. Remember these are supposedly safe investments.
The other long term chart I like is commodities:
These charts show the most recent commodities bull market and a zoomed in view of the current bear market. Notice the range before the bull market of below 270 — we are now below 200 so we are back at the bottom of long term range pre-2003. This is all commodities including things like gold, oil, grains, livestock etc.
Finally the Long Term US stock chart — the S&P500 — with the very long term Dow first:
So — basically my conclusion is that long term we are in a sideways market for bonds, a bear market for commodities and a bull market for stocks.
But I think all that changes in 2016…
First a disclaimer: These are ‘bold’ and I wouldn’t be making any major long term investment decisions based on these and, of course, this is not investment advice… you should get some if you’re thinking about investing.
Prediction 1: Bad news for Petro States as Oil prices stay low
All we should really care about here is Saudi Arabia because they are really the only ones thinking about oil prices — the rest just try to make as much money from these products as possible.
So Saudi is happy with low oil prices because they don’t want the US shale oil to be viable — they want… actually NEED the US to need their oil and support their regime. They are desperate.
Investors are already abandoning this space and moving to renewables. Then we had Paris.
Petro-States and coal exporting countries now have huge problems and, as prices stay the same, I expect these issues to come to the surface. I don’t think demand will drop suddenly but nor do I think supply will drop because even with turmoil in the Middle East there are other countries like Russia who will sell as much as they can.
Prediction 2: Food prices go nuts
This sounds good for farmers but it’s not. Prices will rise due to the worldwide weather volatility with El Nino. This will create chaos across the developing world. It’s just the beginning of El Nino and if you haven’t noticed yet the weather has gone crazy.
This will make it a pivotal year for food tech and we may see several startups like Soylent becoming household names by supplying food that farms can’t supply.
Whilst economists say low oil prices will be good for economic growth they aren’t factoring in food prices. Last time food prices went sky high it was caused by high oil prices and it was the catalyst that started the Arab Spring. So what happens when food prices skyrocket?
Prediction 3: The Middle East continues to disintegrate
The problems for these regimes go back to George W Bush’s presidency… before the Crisis when oil prices hit above $140/barrel. His statement that the US had to get off Middle Eastern Oil was a huge policy change with dramatic consequences. The US was the string that held these regimes together — with that gone and food prices at record highs the protesters suddenly found the regimes to be weak. Notice Syria — they have Russian (not US) string holding them in place. Hence why the regime is still in power.
Now the US has pulled it’s embargo on Iran they become even more powerful and the Saudi regime is in a very precarious position. We could see that regime gone by the end of the year.
Now the world doesn’t need Middle Eastern oil and you have the biggest gap between rich and poor what do you expect will happen? Also remember that Suni’s control most oil but it is in the ground beneath persecuted Shiites — this was the case in Iraq and is the case in Saudi and other states. In an investment context those markets look to me to be a huge place to avoid as is Turkey especially as it seems like Russia is keen to move further into the region as the US pulls out.
Prediction 4: US rate rise leads to fear
I love how the economists all say the Fed will raise rates but say everything will be fine.
If there is one clear bubble it is in the biggest investment segment — it’s in bonds!
Baby boomers have been advised to invest in bonds because they are safe. Yet these investments are at all time record highs and they basically can’t go higher. Since 1980 bonds have basically only gone up… no body in finance has seen a bear market in bonds. And all the wealth is concentrated with baby boomers and all their wealth is invested in bonds and property they borrowed for with low interest rates (high bond prices) fueling the housing market.
This is why the Fed can’t raise rates. Even though just about every economist says the Fed will be able to raise and keep raising rates in 2016 I can’t see it happening. I think they may try a 25 basis point rate rise and see but they are clearly terrified of creating a huge crash in baby boomers retirement savings. These people at the Fed… all the politicians… just about all of them are baby boomers. The problem is if there is the start of a panic in bonds the Fed doesn’t have the tools to get it under control — and they know it.
This puts me on the fence here — where all the economists sit. They say the fed will raise rates and it will be good. But to me this is a long shot.
Much more probable is a huge panic and collapse in bond prices. I just don’t want to predict that.
So I hope there will be a kind of standoff. The big institutions will start moving money slowly out of bonds and it just becomes really hard for people and companies to borrow money. So corporate bonds start going down but the Fed will hold up the price of Govt bonds. This will be really bad for the private sector but it would just mean a slow private sector economy without a GFC style crisis. Unfortunately putting this off means that later the pain becomes greater.
Prediction 5: US Stock market rally
Low oil prices are hugely positive for US spending. Investors moving out of bonds means that money has to go somewhere. These are both big positives for equities. It means better corporate earnings (outside finance and commodities) and investors needing somewhere to invest their money other than bonds.
Many experts thought stocks would collapse in 2015. I predicted they would go sideways.
Investing in stocks is a huge risk because if the fed raises too fast it will hit companies who have huge debts hard and most (including me) believe stocks are overvalued. I just think they can get more overvalued.
Long term I see this as a really bad thing because the bond bubble will hold and overvalued stocks could start moving higher. I see the scenario playing out similar to the 1920’s when you had this huge, irrational, boom and then a massive collapse.
In fact longer term I think all the assets where the baby boomers have their money — all the traditional places — bonds, old school companies’ stocks and property are in trouble partly because they all need to access this money to fund their retirement — you had the richest generation in history pumping up these asset prices to save for retirement and now they are going to start withdrawing.
To me that is a pretty obvious equation.
This is why countries that have early retirement (thing Greece) are in trouble and why Governments are trying to convince people at retirement age to work longer. Having said that I believe we are not going to see a global collapse this year — there will be increasing divergence globally but I think the US will last longer and it will be the year of living dangerously for investors as they continue to walk the tightrope. That bonds are such a bad investment right now will mean stocks the investment of choice where you have a firm belief that you have to be invested in something.
Prediction 6: Tech boom
Right now everyone in tech is talking about startup valuations, especially for the unicorns (>$1bil valued private companies), coming down. To me this can only be good for technology — for the listed tech companies. It means there is more talent to hire and they can probably pick up some really good acquisitions for cheap. In addition they are usually companies with very little debt. Think of Apple sitting on huge piles of cash.
I believe we are at the very beginning of a period when we will see a huge amount of old school companies being replaced by more nimble, focused and innovative ones.
Even if the economy slows or we get a bad scenario in bonds starting to play out you probably want to be invested in these types of stocks that have low debt and help people and companies save on expenses.
What about all those VC’s and Tech insiders saying the funding is drying up? I agree it will be harder for middle stage startups to get big valuations but there is still a huge amount of capital looking to invest… so I simply believe the better companies will get money at lower valuations early on and that later stage companies with good financials will really benefit with access to heaps of capital. Plus there will be an increased flood of mum and dad investors providing early stage capital because some will see this is the next big thing but can’t justify later valuations and also can’t write big enough cheques.
So in general there will be less cash floating around for startups and so it becomes much easier for big tech companies.
Prediction 7: A new boom in China driven by… renewables
I am a massive bear on China. I have been for years.
So now, when everyone else thinks they’re doomed, I’m going to say that China will hand themselves a huge economic advantage.
China’s manufacturing has peaked, they have over built on property, they have built out all of their infrastructure…
But the one area they are not competitive on is energy and the pollution from generating all that energy is just crazy. The government is under huge internal pressure to fix this plus you would think a communist government would prevent the release on information about how bad it is — instead they publish figures on the hundreds of thousands of people killed each year by the pollution. You would think they are doing this because they actually want support to solve it.
They have been working hard on solar that is cheaper, in China, than coal and they had a 2016 target. China, beginning in 2016, will likely undertake the biggest energy transformation ever seen — we already know how they mobilize towards goals. It’s a policy that kills multiple birds with one stone. It takes the focus away from underperforming areas of the economy whilst driving a huge economic boom; will significantly reduce energy costs in the era where these costs are more important to manufacturing than labor costs; will fix the air pollution problem and provides a positive response to both internal and external critics.
It will give China the technological as well as the political advantage over developed countries as they leave many countries behind in the transition to a low carbon world economy. Why isn’t it all over the news? Maybe because they want a head start on everyone else and they want to leave it as late as possible. Should China’s property or stock markets fall this will probably speed up the introduction of this program but, one issue is, if they leave it too late. Most governments, central banks and regulators leave it too late but I think China has too much to lose, even though the current leadership hasn’t had a good start.
Not only does China have to do it to keep their economy going but the communist party needs to do it to keep power without huge civil unrest. The party wants to look strong and capable.
Prediction 8: Brazil in major collapse — South America follows
Brazil already has huge economic problem as the commodities boom has come off. It feels very much to me like Greece, except, they control their own central bank. South America cyclically has these issues and much of that is due to the reliance on commodities to drive their economies. As China moves fast to get off fossil fuels this is only going to accelerate.
As opposed to past episodes I think the issues will mainly be economic and I don’t believe the downturn will last too long. I actually think more sensible, middle of the road governments will be elected, as opposed to Europe, and the result will be better distributed economic growth.
Prediction 9: Europe — problems return
You have several problems converging in Europe and Greece was simply the tip of the iceberg. Firstly you have, an aging population. Secondly, huge debt across the Eurozone. Thirdly their closest region (Middle East / North Africa) is in turmoil.
On immigration (on the left) and economics (on the right) Germany is making divisive decisions. It is as if they have once again decided they should be Europe’s moral compass and other countries need to get in line. France has stood up since the Paris attacks and of course the climate change summit (although the agenda was driven by business and governments, unenthusiastically were forced to follow, dragged along by the French).
But let’s face it Germany leads Europe and is doing much better than everyone else.
The problem for Germany is that it was their banks that pumped all this capital into Southern Europe and they are being bailed out now. The conditions placed on the borrowers (like Greece and Spain) have made them less competitive and less able to pay back their debt which has driven German manufacturing and exports.
You have a political class in Europe that has played along with Germany but the people have had enough. To me the Spanish election was the big test and the result is a mess with only one clear thing to come out of it — the ruling party has been sent packing. There will probably have to be new elections next year as no one can agree (very similar to Greece) — but it is clear that, like in Greece, the people won’t put up with a Government that goes along with Germany.
That means it is highly likely that Spain and Germany have a showdown on debt and the immoral level of youth unemployment in Spain whilst Germany has the lowest unemployment level in the world. Should this play out I believe the markets and the Euro will suffer and become highly volatile and we will have to watch which side France backs and what happens in Italy.
Australian Prediction: It all gets a bit crazy
I believe Turnbull will stay in power for a while but this doesn’t mean stability. The right wing nut-jobs have too much power. The unions have too much power on the left. No matter what happens the L/NP know they can’t lose with Turnbull but the economy is in a fair amount of trouble with our stock market especially dependent on banking and mining. We know how bad mining is going and we know how dependent banks are on property prices and the availability of capital to hold it up.
The Australian share market has underperformed global markets every year in the last 10. Ridiculous as that includes the mining boom and the GFC when the Australian economy was the world’s strongest.
If you don’t know that means Australia’s property market is heavily dependent on the international bond market — the ability for Aussie banks to borrow overseas.
Then we have a move away from coal and with China having finished building property and infrastructure iron ore is also in trouble.
In other words Australia faces huge headwinds and although Turnbull talks about moving to a more innovative economy his policies are a fraction of what we need. I expect a similar budget in the face of worse debt and deficit figures… then after the election I believe he will really step up and challenge his party in a number of areas.
In the meantime the housing market will hold up, the startup environment will disappoint expectations and we may see a lot of our smartest head overseas for better opportunities. The stock market will lag the rest of the world big time and the AUD will struggle to stay where it is.
I expect after next years elections a huge amount of red tape will be cut and suddenly those with the energy will be able to take advantage. Though I can’t hear anyone arguing for the kind of tax reform that would give us an advantage in the future and all policy proposals seem to be 5 degree adjustments across the board rather than the 90–180 degree changes we need in just a few key areas.
The most important thing will be confidence but I see a huge red flag to that. The Abbott government went hard after young peoples benefits and now Turnbull has announced cutting Gonski. IF Turnbull also announces reductions in penalty rates (and doesn’t balance all this out with something MAJOR) then we will again see huge division nationwide and it may be on a scale greater than what Work Choices did.
To me, this, and not a GST increase, is the thing that could turn the left and the working class, firmly against Turnbull. If he’s smart he has a huge opportunity to get through a lot of important reforms through bipartisanship. If he does we could see excellent economic growth in the back half of the year and a boom in Aussie stocks as a result.
Asset Allocations and Conclusion
So what to make of this? Firstly, despite me not believing the bond bubble will burst this year, I can’t see any logical explanation for anyone to have their money / super / retirement savings in bonds when, if instead, you held cash (or money market or short term deposits), the fees are much lower, you have heaps less risk and the actual interest rate you end up being paid may work out to be the same.
Then I continue to believe that US stocks should do better than Aussie stocks — especially if the AUD continues to fall (I’m not so sure — I think the AUD will bounce off 60 and go back to mid 70’s — where it is now — it may just be a very bumpy ride. The advantage of being invested in US stocks is that if the world economy does well the AUD will rise slowly and it will eat into your gains but if we do get a crisis, or the Turnbull government doesn’t do important, balanced, reforms, the AUD will surely go lower — meaning you won’t lose too much. Plus the US is much more diversified and so almost always falls less in a crisis.
As far as sectors go I would increase exposure to technology stocks and get all out of mining, energy and heavy machinery. This makes for a more risky portfolio so I would increase the cash:share ratio.
As from 2000 on I recommended about 5% gold in all portfolio’s now I think Bitcoin is the new gold but a much smaller percentage. Yeah I hear arguments for and against bitcoin all the time but the simple reason is overtime there is a crisis — in China with stocks or now in Brazil — we see a spike in bitcoin price and you get more bang for your buck than gold. It is highly risky and as with anything you should consult with an expert before you do anything. In a nutshell I think people should make their portfolio’s a little bit safer, a lot more ethical, more future focused and that bond prices are simply so high they are not useful — actually the smart money I’m reading is already pulling funds out fast.
The big theme of course is divergence and really this is an escalation from what occured in 2015 when some economies raced ahead, some stalled and some were volatile. Several years ago everything just went up together — that strange period in time seems well and truly over.
I hope you all have a great 2016 — I’m certain there will be lots of opportunities for us all.
