Getting the right investment strategy for 2013 starts with understanding what paid off this year.
2012 was a good year for patient investors with strong nerves.
Those who held on despite the volatility in May and June were rewarded in the second half of the year. Performance in many medium-sized companies was particularly strong, much better than most of the largest FTSE-100 companies. It paid to take risk in financials, as banks and insurers rose strongly despite the turmoil in the sector. These patterns look set to run further in the year ahead.
Politicians gave investors a choppy ride over the 12 months. Worries about the eurozone, slowing growth in China, and a patchy US recovery repeatedly triggered stock market sell-offs. And recent company results were also generally disappointing, with companies such as Aggreko giving very cautious outlook statements. So why is the stock market proving so resilient?
Certainly, it has paid to hope for action by politicians and central banks. Economic stimulus has prevented the worst, and Greece is effectively underwritten in the short term, with potential to help Spain further through banking support. This aggressive intervention has much reduced the risk of recession in the short term. The global economy will have good growth in the year ahead. And the US should pick up again in the second half after it deals with the tax rises it needs.
The US is enjoying consumer confidence at a five-year high, and it has taken bad news in its stride. While economic data has been mixed, recently there has been a more positive tone. US capital expenditure should be a key driver for many UK and European businesses. Companies like Weir Group and GKN should benefit. Indeed, a surprise for 2013 could be a much stronger US dollar.
The IMF cut its forecasts for emerging markets in 2012, with a sharp slowing in economies like Brazil. Although most emerging markets are growing, without any obvious credit bubbles, some problems could lie ahead. A downturn in the commodity cycle is possible, with oil and copper prices already weakening. Many emerging markets also have over-valued currencies that do not recognise slower productivity growth.
Politicians and central banks now have much less flexibility. Economic prospects are deteriorating across Europe, and it is becoming harder to convince voters about austerity.
The disappointing fact is that trillions in stimulus and record low interest rates have failed to spur much credit growth or pickup in economic activity.
The big surprise for the coming year could be growing fears for France. Investors should note the emerging differences in the Franco-German alliance about the balance between austerity and growth, and the role of the UK.
However, investors need to remember that they are buying companies, not economies. Many businesses have coped well with the challenges so far, and can make further progress in the coming year. The strongest companies are able to borrow very cheaply, and can use this to buy back shares, restructure or acquire. Despite the challenges for the UK economy, many consumer businesses, like Debenhams, Whitbread and ITV are trading well with strong cash flow.
Politicians need growth to get re-elected and the banking sector is key to that. Expect delays in bank recapitalisation, so that banks can slim down without killing the economy.
Investors should ignore the headlines and look at the disposals and restructuring that banks like Lloyds, RBS and HSBC are achieving.
Printing money may not have done a lot for economic growth, but it does boost shares and prime property prices. With low yields on gilts and deposits, shares look attractive for income. Stock markets could make further progress in the coming year.
Colin McLean is managing director at SVM Asset Management in Edinburgh