enterpriseSeattle Forecast 2012 - Michael Dueker

enterpriseSeattle’s40th Economic Forecast Conference Thursday, January 12, 2012 Washington State Convention Centerinfo@enterpriseSeattle.org (206) 389-8650 www.enterpriseSeattle.org

2012 FORECAST: A LOOK AHEADModerator:Jeff Marcell, enterpriseSeattlePanelists:- Dick Conway, Puget Sound Economic Forecaster- Mike Dueker, Russell Investments- Ken Goldstein, The Conference Board

2012 Economic Outlook: A Decoupling of the U.S. and Eurozone Economies? Michael Dueker, Chief Economist January 12, 2012V810

Important Information and Disclosures Nothing contained in this material is intended to constitute legal, tax, securities, or investment advice, nor an opinion regarding the appropriateness of any investment, nor a solicitation of any type. The general information contained in this publication should not be acted upon without obtaining specific legal, tax, and investment advice from a licensed professional. Please remember that all investments carry some level of risk, including the potential loss of principal invested. They do not typically grow at an even rate of return and may experience negative growth. As with any type of portfolio structuring, attempting to reduce risk and increase return could, at certain times, unintentionally reduce returns. Diversification and strategic asset allocation do not assure profit or protect against loss in declining markets. Forecasting represents predictions of market prices and/or volume patterns utilizing varying analytical data. It is not representative of a projection of the stock market, or of any specific investment. Bond investors should carefully consider risks such as interest rate, credit, repurchase and reverse purchase transaction risks. Greater risk, such as increased volatility, limited liquidity, prepayment, non-payment and increased default risk, is inherent in portfolios that invest in high yield (“junk”) bonds or mortgage backed securities, especially mortgage backed securities with exposure to sub-prime mortgages. Indexes are unmanaged and cannot be invested in directly. Past performance is not indicative of future results. Copyright© Russell Investments 2011. All rights reserved. This material is proprietary and may not be reproduced, transferred, or distributed in any form without prior written permission from Russell Investments. It is delivered on an “as is” basis without warranty. Russell Investment Group is a Washington, USA corporation, which operates through subsidiaries worldwide, including Russell Investments, and is a subsidiary of The Northwestern Mutual Life Insurance Company. The Russell logo is a trademark and service mark of Russell Investments. Date of first use: July 2011 USI-10241-12-11 This presentation was created for informational purposes only and is not meant for further distribution. 4V308

Scenarios that are likely to shape asset returns in 2012 as a whole PROBABILITY ≈ 65% PROBABILITY ≈ 10% PROBABILITY ≈ 25% Strong growth take-off Modest recovery Downside to growth--- above 3 ¼ pct. proceeds with recession or stagnation growth near 2 ½ pct. Smooth (5%) ›Square-root-shaped Recession contagion ›Risky assets rally from Europe (20%) recovery across the board, ›Bond yields go even bond yields rise ›Inflation stays benign lower; risky assets modestly ›Equity valuations rise negative modestly Bumpy (5%) ›Inflation scare (as in Stagflation (5%) 1994) ›Bond markets in the ›Longer-than-expected ›Flat year for risky core sell off mildly as drought in jobs market assets and bad year for ›Negative equity price U.S. growth is not fixed income environment derailed Source: Russell Investments research. There is no guarantee that any stated expectations will occur. 5V308

BCI forecasts look consistent with a 7.5 percent unemployment rate in Oct. 2014 Business cycle index as of November 2011 data Out of sample forecasts were calculated by simulating the time-series model into the future. 3 Source: Recession data from National Bureau of Economic Research YELLOW BARS INDICATE PERIODS OF RECESSION 2 sample st. devs. from zero 1 0 -1 -2 -3 Source: http://www.russell.com/Helping-Advisors/Markets/BusinessCycleIndex.aspx 6V810

Notwithstanding Europe’s recession and risks, the economy’s chief obstacle to rapid growth is the ongoing deleveraging Source: http://www.econbrowser.com/archives/2012/01/a_call_for_acti.html 7V810

BCI forecasts look consistent with a 7.5 percent (!) unemployment rate in Oct. 2014 7 Cyclical Oomph and Unemployment 6 1982-90 Decline in unemployment rate 5 4 1991-2001 1975-80 3 2009-14 2 2001-2007 2009-12 1 0 0 20 40 60 80 100 120 140 Area under BCI during an economic expansion Source: Bureau of Labor Statistics for data; Russell calculations and Russell forecasts for 2012-14 8V810

Employment forecast shows a plateau at 180-190 thousand per month Forecasts of nonfarm payroll employment changes as of November 2011 data Source: Actual employment data from St. Louis Feds FRED database 400 200 0 thousands of jobs -200 -400 -600 -800 http://www.russell.com/Helping-Advisors/Markets/BusinessCycleIndex.aspx 9V810

We are far below where we expected to be by now  Nonfarm payroll employment changes Nonfarm payroll employment changes (in thousands of jobs): Data and forecasts as of Dec. 2008 and actual data and forecasts as of Nov. 2011 400 Source: Actual employment data from St. Louis Feds FRED database 200 Data and forecasts as of December 2008 and actual 0 data through June 2011 Source: Actual employment data from St. Louis Feds -200 FRED database This analysis is not meant Forecast Dec 08 to serve as a direct -400 Data Dec 08 prediction regarding the Data Nov 11 future results of any -600 Forecast Nov 11 economic or financial market. Similarly, they are in no way intended to predict or guarantee future -800 results of any sort. Other economic or financial market indictors not considered in this analysis may produce different results. http://www.russell.com/Helping-Advisors/Markets/BusinessCycleIndex.aspx 10V810

A forecast of 2.5 pct GDP growth in 2012 makes us raging bulls? The consensus is moving towards us though  GDP growth forecast GDP growth forecast 3.5 3.0 2.5 2.0 Source: Russell Investments. Data as of Russell 12/31/2011. 1.5 Blue Chip The Blue Chip is a panel of approximately 50 top economic forecasters. 1.0 Forecasting represents predictions of market prices and/or volume patterns 0.5 utilizing varying analytical data. It is not representative of a - projection of the stock market, or of any specific 2011Q3 2011Q4 2012Q1 2012Q2 2012Q3 2012Q4 2013Q1 2013Q2 investment. 11V810

Inflation expectations seem more entrenched in 2012  In early 2011, the 10-year break-even inflation rate between TIPS and conventional Treasury bonds reached 2.6 percent, as commodities prices were bid up.  This year we expect inflation expectations to remain more closely rooted near 2 percent.  Commodities should be less susceptible to speculative price increases in 2012 also, although some price rise is justified if global growth meets expectations. 12V810

Inflation expectations seem more entrenched in 2012 than in 2011: break-even inflation rates Source: http://www.econbrowser.com/archives/2012/01/a_call_for_acti.html 13V810

Inflation never did concern us as an ongoing problem  Consumer Price Index (CPI) forecast Consumer price inflation forecast 3.5 3.0 2.5 2.0 Source: Russell Russell Investments. Data as of 12/312011. 1.5 Blue Chip The Blue Chip is a panel of approximately 50 top economic forecasters. 1.0 Forecasting represents predictions of market prices and/or volume patterns 0.5 utilizing varying analytical data. It is not representative of a - projection of the stock 2011Q3 2011Q4 2012Q1 2012Q2 2012Q3 2012Q4 2013Q1 2013Q2 market, or of any specific investment. 14V810

Eurozone is projected to have a recession; the U.S. is not  Eurozone and U.S. business cycle indices (2007-2012) 3 Sample standard deviations 2 Values shown for the in- 1 sample estimates and out-of- sample forecasts are the median of the simulated 0 values for the quarter. Out-of- sample forecasts were calculated by simulating the -1 time-series model into the future. Source: U.S. recession data -2 from National Bureau of Economic Research. Europe recession data from the -3 Centre for Economic Policy Research. Recession for Europe in 2002 is based on research completed by Mike Dueker, Ph.D., Russell Investments: Euro U.S. In-sample estimates | Out-of-sample forecast http://research.stlouisfed.org/ Forecasting represents predictions of market prices and/or volume patterns utilizing varying analytical data. There is no wp/more/2008-001 guarantee that the stated results will occur. Index performance is not indicative of the performance of any specific Data as of Sept. 30, 2011 investment. Indexes are not managed and may not be invested in directly. 15V810

Fed policy and the possibility of additional easing  Ahead of the fact, a 10-year Treasury yield that lingered below 2 ¼ percent would be an obvious sign of ‘Japan Disease’ and cause for the Fed to undertake additional easing.  Fed policymakers have convinced themselves, however, that the low yields are a risk- off anomaly in the face of European turmoil and not a sign of expectations of deflationary stagnation.  This story might get old in 2012. 16V810

A bridge too far: How much stimulus does the Fed ‘owe’ Implied gaps between target and actual nominal GDP following the Great Recession 9.75 9.7 Nominal GDP (in natural logarithms) 9.65 9.6 Romers proposed linear target path 9.55 Target path w/ rebasing Actual path 9.5 9.45 9.4 2007-01-01 2007-03-01 2007-05-01 2007-07-01 2007-09-01 2007-11-01 2008-01-01 2008-03-01 2008-05-01 2008-07-01 2008-09-01 2008-11-01 2009-01-01 2009-03-01 2009-05-01 2009-07-01 2009-09-01 2009-11-01 2010-01-01 2010-03-01 2010-05-01 2010-07-01 2010-09-01 2010-11-01 2011-01-01 2011-03-01 Source: Data from St. Louis Fed; rebased path from Russell calculations; Romer’s proposal from http://www.nytimes.com/2011/10/30/business/economy/ben-bernanke-needs-a-volcker-moment.html 17V810

Fed transparency and communication  Each Fed policymaker will now provide multi-year forecasts of the federal funds rate under her/his view of what is ‘appropriate’ monetary policy  In the January meeting, this means that we will get a glimpse at when each policymaker envisions a first Fed rate hike  We need to pay attention to the accompanying explanation, however, to see whether the reported number is what that policymaker actually expects to happen, or what the policymaker thinks should happen. These could be two different things. 18V810

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enterpriseSeattle Forecast 2012 - Michael Dueker

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enterpriseSeattle Forecast 2012 - Michael Dueker — Presentation Transcript