2018 was painful for most investors, a year that forced them to learn, or re-learn, a number of important lessons.
First, there was no hiding place in 2018
Diversification was not a winning strategy in 2018. Most developed regional stock markets ended in the red last year, as did US Treasuries and corporate bonds.
For US dollar-based investors, all major asset classes finished underwater, leaving US cash as the best performing asset class for the first time since before 1986.
2019 will remain challenging for investors, requiring investors to seek out selective opportunities rather than broad-based benchmark driven bets for the time being.
Second, central bank stimulus matters
Quantitative easing by global central banks pushed up asset prices after the financial crisis, resulting in a record-breaking bull run in global stocks.
But in 2018 for the first time in 10 years, the world’s major monetary authorities turned net sellers of financial assets. This withdrawal of liquidity has already started to weigh on price-earnings multiples.
Looking ahead, excess liquidity may keep falling, potentially prompting a 10 per cent drop in global equities on a price earnings basis.
Third, geopolitics matters too
2018 reminded us that political tremors can travel a long, long way. President Trump imposed substantial tariffs on Chinese goods while threatening even bigger ones.
So far, global trade has been relatively resilient but how long the real global economy can remain immune is questionable. Trade wars have already had a big impact on business sentiment. Look at Apple’s recent downgrade.
This isn’t an issue that’s likely to go away soon. At its heart is the tug of war for global supremacy between the US and China, something that will play out over years to come.
“We do still favour China. Overt pessimism looks difficult to justify when Beijing is taking various steps to support growth.
Fourth, a stronger US dollar is always bad news for emerging markets
Emerging markets looked good on paper at the start of 2018 but one fly found its way into the ointment: the US dollar, which climbed 8 per cent against a trade-weighted basket of currencies.
That dealt a sharp blow and total USD returns on developing market equities lagged the global benchmark by around 7 per cent.
Going into 2019, the dollar could well reverse course as US growth slows, Fed tightening loses some steam and fiscal stimulus effects fade. High valuations and very bullish sentiment are additional challenges.
Whichever way the wind blows, it seems likely that returns from emerging markets will remain closely tied to the path of the greenback.
Finally, never under-estimate Europe's ability to disappoint
The poor performance of European stocks proved that the region’s troubles are far from over.
Italy was the chief concern, politically and economically. While its government clashed with Brussels over an expansionary budget, the country’s economy stagnated, dragging down growth for the eurozone as a whole.
That pegged back European equities which hit an all-time low relative to their US peers in December. We continue to see limited upside for eurozone stocks in 2019.
Luca Paolini is chief strategist at Pictet Asset Management. The views expressed above are his own and should not be taken as investment advice.