Year of the dragon offers opportunity, says HSBC

The global economic outlook for the year of the dragon is bleak, but some asset classes still offer decent investment opportunities, according to HSBC.

While most countries have lower consensus growth forecasts for 2012, the US, Japan and India are all expected to grow faster — by 2.1%, 2% and 7.5% respectively, as opposed to 1.7%, -0.6% and 7.2% in 2011.

The eurozone is already in recession and its growth forecast for this year is negative, according to Philip Poole, global head of macro and investment strategy team at HSBC. “It is not a problem that is not going away, it is a problem that is going to take a long time,” Poole added. “I think the problem we have in the eurozone is probably a 10-year type of problem.”

Recent US economic statistics have signalled stronger growth, but the political paralysis may take a toll and undermine fiscal sustainability. Despite the declining fiscal deficit since 2009, gross general government debt as a percentage of the country’s gross domestic product has continued to rise.

“There is no sign yet that the paralysis has come to an end, and in fact it is very unlikely that anything will be done until after the election,” said Poole.

Growth in Asia will slow down, but is still expected to be growing much more quickly than the developed world. “The problem in the emerging world in 2011 was inflation but as the economies slow, including China, the inflation concern is going away,” Poole said. “That is good news in a sense, because these economies have been growing too rapidly, unsustainably rapidly.”

Diversification is important in hard times, but Poole stressed the difficulty in doing so thanks to the high correlation between markets. “Diversification has almost become like a binary decision between risky and safe-haven assets,” he said.

However, for medium- and long-term investors, HSBC says there is significant value in corporate credit in both developing and developed markets, UK gilts and German bunds. Supported by strong balance sheets, investment-grade corporate spreads have widened to above 300 basis points from around 200 in March 2011.

“This spread has widened relative to treasuries not because corporate fundamentals are suffering, but because we have been in this risk-off environment and everything has sold off pretty much together,” said Poole.

Asian equities also offer significant value. “At the moment you have got an opportunity to buy the market at a cheap level when they are still very profitable,” said Bill Maldonado, Asia-Pacific strategy chief investment officer at HSBC global asset management. “We do not expect profitability to collapse at all; we actually expect it to be quite robust.”

Asian equities have suffered from similarly low valuations during previous crises, but in those cases, profitability also suffered.

According to HSBC, Asian equity investors would have an 85% possibility of enjoying a positive return of above 30% if they bought at a price-to-book ratio of between 0.8 times and 1.5 times, with a view to holding for one year. The MSCI Asia ex-Japan Index is trading at around 1.5 times, compared with a minimum of 1.2 times during the global financial crisis.

HSBC is also very positive on Asia’s fixed-income market due to the economic backdrop, including low inflation, low interest rates and low chances of overheating.

“The backdrop is not rosy in many respects, but it is probably not as bad as many people suggest,” Poole said. “We certainly do not see a global recession.”