Five Economic Forecasts for 2011

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Here are the most important trendsto watch in the year ahead …

After these last couple of years, which has left a mark on all of us, I did my best to step back again and examine what’s happening in our world, looking forward, to see what trends might affect our investment lives in the year ahead. You will notice that real-estate is absenct from this review, my next month’s newsletter will exclusively deal with my housing forecast. I will make one housing comment, that November of 2010 marked the 53rd consecutive month (4.5 years) that home values have fallen. The Great Depression was five years long; if we are tracking along at the same speed then we could very well be nearing the end of our current housing depression… More on that next month, so until then, here are the five big non-housing themes I see playing out in 2011 …

Forecast #1: Bigger, fatter dividend payments.
Dividend stocks will rebound in paying out dividends. We have seen gains in the second half of 2010 and I believe companies will only increase their payments more aggressively going forward, here are a few reasons why:
First, corporate coffers are stuffed with cash. In fact, according to a recent report from the U.S. Federal Reserve, non-financial firms had total cash and other liquid assets of $1.93 trillion at the end of September vs. $1.8 trillion just three months earlier … making up 7.4 percent of total assets held by corporations, the highest since 1959.

Second, the recent extension of the Bush-era tax cuts creates another reason for executives to dole out excess cash via dividends. Because of the tax deal in Washington, dividend payments will continue to be taxed at very favorable rates in 2011 and 2012. And let’s not forget that — since many executives receive substantial dividend income from their large ownership stakes — these tax implications likely benefit them more than even average shareholders!

Third, should interest rates rise later in the year, America’s board rooms will only feel more compelled to attract investors with bigger dividend checks. I’ll get to why I think rates could rise in a minute. For now, suffice it to say they certainly aren’t going much lower. That means dividend payments will have to rise to stay competitive with other investments in the marketplace.

Forecast #2: Modest capital appreciation from U.S. stocks …at the very least!
There’s no doubt about it: Stocks have already had a pretty strong run from their March 2009 lows.
But let’s note a few other things:
#1. U.S. shares have yet to regain their previous highs, which would translate to gains of at least another 20 percent from current levels.
#2. With corporate cash at record levels, there will be plenty of M&A activity going on over the next year.
#3. Share buybacks should also accelerate, further boosting prices.
#4. And fundamentally speaking, most people are still far more bearish on the U.S. economy than other parts of the world. In my mind, that leaves plenty of room for upside surprises in the market. There are also historical precedents like the Presidential Cycles, which I’ve written about in past issues. So at the very least, I think we will see broad stock market gains between 5 percent and 10 percent in 2011 … with the chance for an even higher rise depending on momentum.

Forecast #3: Bigger currency battles.
Given economic stagnation in most of the Western world, and simmering inflation in many Asian countries, the so-called “currency wars” are heating up.

Put simply, this means nations around the world are all jockeying for position via their local currencies, trying to keep their exports competitive … balance their economies somewhere between growth and overheating … and in some cases, dealing with fiscal irresponsibility by devaluing their debts. Overall, I expect currencies to be a dominant theme in 2011 … which should create many investment opportunities.  And if I had to name the most at-risk currency going into next year, it would be the euro. I think there’s a real possibility it will implode as “have” countries like Germany and France attempt to disassociate themselves from struggling “have not” members like Ireland and Spain.

Forecast #4: Higher interest rates within a year.
We have already seen the “bond vigilantes” start battling against the Fed’s second round of quantitative easing and Washington’s tax deal. The 10-year Treasury yields (and most other longer-term rates) have been rising in spite of Ben Bernanke’s best efforts. Essentially, the world’s investors are getting concerned that fiscal deficits in the U.S. are nearing the point of real danger … so they’re demanding more interest on the loans they make. Now, I do think we will see rates dip at least one more time in the first half of 2011 — driven by deepening woes in Europe and the Fed’s aggressive efforts. However, by the end of the year I expect a more stainable, longer-term trend of rising rates to take over.

 
Forecast #5: Social Security reforms coming.
Last but not least, I believe 2011 will be the year that lawmakers get serious about “fixing” Social Security again. In addition, the tax deal will actually mean less money going into the system in 2011 because the nation’s workers get a two percentage-point holiday. (No, I don’t buy lawmakers’ “we will make it up by taking money from the general fund” hype.) The system’s last major overhaul came in 1983. This time I think we’ll see a big impact on both “wealthier” recipients and anyone farther away from collecting.

 
Until next time, be well…

Philip Hamilton is a long time contributing writer for CBN. You may contact him phamilton@bendcable.com, 541-480-7580, or his office: 235 SE Yew Lane, Suite 210, Bend, OR 97702

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