Throughout 2012, the daily headlines provided abundant gloom to feed the doubts of individual investors. If nervous traders acted on impulse, they could have missed an opportunity to participate in strong returns across the global capital markets.
The year opened with lingering concern about US recovery, the debt crisis in Europe, and political uncertainty around the globe. Many forecasters predicted a volatile year for the equity markets. Some predicted a euro zone breakup triggered by impending debt defaults in Greece and Portugal. The global economy showed early signs of slowdown, and many investors weighed the potential economic impact of US elections and the “fiscal cliff.”
Despite bad news from media conglomerates, most of the global markets logged strong returns. Major market indices around the world delivered double-digit total returns, and as a group, the non-US developed and emerging markets outperformed the US equity market. The total market value of global equities, as measured by the MSCI All-Country World Index, increased by an estimated $6.5 trillion in 2012; meanwhile global market volatility dropped to its lowest level in six years.
This graph highlights some of the year’s prominent headlines in context of broad US market performance, as measured by the Russell 3000 Index. These headlines do not explain market returns. Instead, they serve as a reminder that individual investors must view the daily news from a long-term perspective, and avoid making decisions based solely on the media.
The world stock market performance chart below offers a snapshot of global equity market performance, as measured by the MSCI All Country World Index. Global headlines show an abundance of negative news during the year, however, the global equity markets had an exceptional year.
Sluggish US Recovery
The current expansion, starting mid-2009, also deemed the weakest in postwar history, reminds us that in past business cycles, strong recoveries follow strong recessions. Yet, the current rebound has produced economic growth of 2.4%, compared with 3.4% postwar average.
In 2012, investors watched eagerly for the US recovery. A weak economy was a central focus in the presidential election. Debates raged over what combination of fiscal, tax, and regulatory policies would lead to higher growth and job gains.
Overall, continued weakness in job growth, real wages, consumer confidence, and spending, however, positive news surfaced throughout the year, including healthy corporate earnings and strong balance sheets, continued low inflation, falling oil prices, historically low mortgage rates, a strengthening housing market, and upticks in auto sales and manufacturing activity late in the year.
Continued European Debt Troubles
The euro zone continued struggling to contain sovereign debt problems of several member nations, including Spain, Italy, and Greece. Inability by governments to pay interest on debt influenced the banks in stronger European countries, notably France and Germany, which have large exposure to these sovereign bonds. European recession prompted banks holding those troubled assets to reduce lending that contributed to lower growth across the region.
During 2012, euro finance ministers agreed on a second bailout package for Greece, which included a 53% write-down for investors in Greek bonds. In May, concern grew over Spain’s fiscal health when a major bank requested a bailout and disclosed troubled assets. Following Greek elections in June, the European central bank pledged to provide monetary support to protect the euro, triggering a rally in stocks and bonds.
Rising Global Economic Worries
According to International Monetary Fund estimates, the global economy grew 3.3% in 2012—down from 3.8% in 2011 and 5.1% in 2010. Concern that worsening euro debt crisis would spread to other economies and markets, because Europe accounts for a large portion of global demand, especially for export-dependent China. Germany’s economy is the fourth largest in the world, followed closely by France. The combined economies of all 17 euro-countries nearly equal the United States in GDP.
During the first half of 2012, China’s economy showed signs of weakening, with growth expected to fall to around 8%—a significant drop from the historical growth rate. China exports heavily to the euro zone. Crisis also threatened to reduce China’s exports to poorer emerging economies in Africa and Latin America, where nations rely heavily on European banks for trade financing. In the latter part of 2012, concerns over slowing growth in emerging markets began to ease as economies appeared to bottom out.
Stabilizing Actions by Central Banks
Many investors didn’t anticipate the degree to which markets would positively respond to central bank actions. Many analysts credit the US and European central banks with boosting investor confidence in both markets, and in the European Union, helping avert a euro breakup. The injection of liquidity into respective economies helped mute volatility between currencies. In September and October, the Bank of Japan announced measures to provide monetary stimulus through 2013 in response to slowing economic activity.
A Search for Higher Yield
Interest rates dropped slightly to near-record lows during the year. The rate move drove up the fixed income market prices and total returns. However, the Board of Governors of the Federal Reserve System (Fed) and other central banks committing to keeping the capital markets liquid for an indefinite period, some investors found appeal in riskier fixed income securities, such as junk bonds, emerging market debt, and collateralized loan obligations that offer higher yields.
Wall Street responded to rising demand with new offerings. Junk bond issuance hit a record $350 billion in 2012, with many of the issues carrying fewer protections for bondholders. Investors also flocked to high-yielding alternative investments, such as energy partnerships and venture capital funds. Observers warned that combining unchecked risk appetites with low interest rates and high bond prices might present danger for individual investors pursuing yield in markets they don’t understand.
n September, the Fed announced its third round of quantitative easing to push long-term interest rates lower and encourage more borrowing and investment. The Bank of Japan also announced an ambitious plan to stimulate its economy. These central bank actions helped drive the markets during the third quarter. The S&P 500 surged 14% from its June 1st low and reached a five-year high on September 14th. US economic indicators sent mixed signals, but the economy reported expansion at a 3.1% rate for the quarter—the fastest pace since late 2011. Mortgage rates reached historical lows, and year-over-year home prices rose for the first time since the 2007 financial crisis. Heightened inflation fears led to a modest decline in Treasury prices, while gold and most other commodities rallied.
In fourth quarter, attention turned to US elections and prospects of gaining certainty regarding government spending, taxes, growth policy, and regulation. Stocks fell in the weeks following the election as investors’ gauged prospects of continued political gridlock and the economic impact of spending cuts and tax hikes (i.e. the“fiscal cliff”). S&P recovered earlier losses by late December, while lawmakers scrambled to reach a compromise.
Turkey, Egypt, and Belgium were the top three performers, with returns of 55.8%, 54.6%, and 38.5%, respectively. Greece (4.1%), Portugal (3.3%), Spain (3.1%), and the Czech Republic (0.2%) had the lowest positive total returns (gross dividends; local currency). The currency markets were relatively stable for the year due to the offsetting effect of US, European, and Japanese central banks. The US dollar lost ground against the euro and many emerging market currencies, which boosted equity returns for US investors. The dollar gained against the yen as a result of Bank of Japan’s monetary easing.
Small cap and large cap stocks had similar performance in the US, but small cap substantially outperformed large cap in both the non-US developed and emerging markets. Along the price dimension, value stocks outperformed growth stocks in the US and non-US developed markets, while slightly underperforming growth in emerging markets.
In the fixed income markets, US TIPS performed exceptionally well, returning 6.9%, and short-term government bonds returned 2.1%. Investors seeking a safe haven from global market uncertainty poured money into US Treasury securities, which pushed down yields.
Real estate securities in the US also had a strong 2012, returning 17.1%. Global real estate had a banner year, with a total return of 31.9%, which was the highest-ranked return of major world asset classes. Commodities were the only group to show negative returns for the year, at -1.06%. The decline was their second annual drop, which had not occurred since the late 1990s.
Russell data copyright © Russell Investment Group 1995-2013, all rights reserved. Dow Jones data provided by Dow Jones Indexes.
MSCI data copyright MSCI 2013, all rights reserved.
S&P data provided by Standard & Poor’s Index Services Group.
The BofA Merrill Lynch Indices are used with permission; copyright 2013 Merrill Lynch, Pierce, Fenner & Smith Inc.; all rights reserved.
Citigroup bond indices copyright 2013 by Citigroup.
Barclays data provided by Barclays Bank PLC.
Remember, indices are not available for direct investment; their performance does not reflect the expenses associated with the management of an actual portfolio. Past performance is no guarantee of future results. This information is for educational purposes only.
Chris Bryant, MBA, RFC® is the founder and CEO of Bryant Wealth Management, Inc. – a Washington State Registered Investment Adviser. Bryant provides independent, fee-only financial planning services for individual investors. Since 1999, Chris has devoted himself to helping people make money, save money, protect money, have convenience and peace of mind. Connect with Chris by E-Mail.
Chris Bryant is an American financial advisor.