Forecasting the 2012 Market

Welcome to 2012 – a year in which we will remain focused on navigating the dynamic environment of today’s increasingly intertwined global economies and markets. Have you ever wondered why the rearview mirror in a car is so much smaller than the windshield? It’s because what is in front of the car, from the driver’s perspectives on safety and direction, is much more significant than what’s now in the rearview mirror. Financial markets are no different; the focus must be on the challenges, opportunities and risks that lie ahead. It may be helpful to glance back at what transpired and why, but the focus must remain on the future.

Coming into 2011, our theme was, “55-mph Speed Zone Ahead” – meaning we would be moving forward, which is a good thing. However, when the speed limit is 75 miles per hour, 55 would feel frustratingly slow. That theme played out during the past year, as we saw the U.S. economy continue to expand, corporate profits reach all-time highs, new and pending home sales start to improve, employment inch higher and unemployment lower, corporate yields hold steady and U.S. government yields decline to near-record lows.

Looking Forward

Looking forward, we expect the global markets to continue to be influenced more by government and central bank involvement than by specific corporate and economic fundamentals. Over the past several years, we have seen increased correlation of individual stock performance relative to overall stock market performance; this results in a challenging environment for active managers. When nearly all stocks move in lockstep with the broader market, it is difficult to add value. Individual stock valuations are not recognized in what has become a “stock market trade” versus a “market of stocks.” In this highly correlated, government-medicated market environment, almost no investments – whether hedge funds, mutual funds or actively managed strategies – have added value for investors. Until the central banks extract themselves from global quantitative easing – for example, our Federal Reserve standing ready to provide the European Central Bank with lending arrangements worth hundreds of billions of dollars – our markets will continue to trade as a market and not as individual stocks. Ultimately, however, fundamentals should prevail and the markets reflect individual valuations.

Our Perspective on 2012

In 2012, we expect interest rates and stock markets to continue to be held hostage by the European debt crisis. The Euro zone has significant challenges ahead, as its countries desire to hold together their common currency. It’s a strategy with risks. Emerging markets secure a large part of their financing from European banks ($3 trillion in loans from Euro banks vs. $700 billion by U.S. banks). Due to the difficult credit environment in the Euro zone, those markets are expected to have increased difficulties arranging for financing, resulting in curtailed growth. Dovetail the fact that growth in China is slowing and expected to slow further, our expectation (assuming no extraordinary stimulus such as materially lowering reserve requirements for Chinese banks) would be for a continuation of 2011 market patterns.

On the geopolitical front, we are moving into a brave new era as we fully withdraw our troops from Iraq. We do this at a time when many Middle Eastern countries that saw recent changes in leadership struggle to establish stable, U.S.-friendly government structures. Euphoria over the potential for democracy has diminished as the reality of power and control sets in – in many cases leaning toward groups with strong anti-West agendas. Now that we no longer have a presence in Iraq, we will need to keep a close eye on Iran’s behavior – particularly the threat to close the Strait of Hormuz, an action which could disrupt up to 40% of the world’s oil supply.

Add in the important U.S. elections in 2012, with control of the Presidency and Senate at stake, and the table is set for increasingly heated rhetoric from political parties, with accompanying gridlock on getting our country’s fiscal house in order. This will add further uncertainty to the markets.

What’s Ahead?

So where do we go from here? Amazingly, consumer confidence (as reflected in retail spending) has remained relatively stable and positive. Corporate profits are expected to reach all-time highs in 2012. Employment challenges remain but are expected to gradually improve. Borrowing costs will remain very low, allowing corporations to restructure their debt at more attractive levels. Despite the challenges we face at home, U.S. markets dominated the globe in 2011. Our nation’s status as the global “safe haven” in an economically challenged world is expected to bring continued investment to our shores.

At Bell State Bank & Trust, our experienced, dedicated investment team focuses on navigating the challenges ahead. Stock by stock, bond by bond, fund by fund, we build strategies and portfolios in a manner consistent with our team’s outlook for the macro environment over the next 12 to 18 months. Our goal is to provide the optimum outcome, considering the risks and returns that will meet the long-term goals of our clients. We appreciate the trust and confidence that you continue to place in us.

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