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Economic outlook for 2009: deeper, longer and synchronous downturn things may get worse before they improve – DAX at 5,200 points 

Expedition into terra incognita
In macroeconomic terms 2009 may be a difficult year, although we may at least see slow emergence from the global recession as it progresses. However, the path to economic recovery may proceed with many turns – like the way out of a labyrinth. To some extent, we are into uncharted territory here. This is probably no time for forecasters to engage in fine-tuning: it is not about adding or subtracting a few tenths of a percentage point to or from growth forecasts at the moment, but about looking at the overall trend and thinking in terms of alternative scenarios.

Economic outlook for 2009: deeper, longer and synchronous downturn
Economic weakness in the USA will probably last significantly longer than on previous occasions, leading to weakness in various regions to potentially overlap in terms of time. In addition, the financial markets crisis has now evolved into a global phenomenon that is affecting nearly all regions and is reversing the previous liquidity-driven growth trends. Economic performance in Europe too is now more synchronous, as the adjustment processes after introduction of monetary union no longer impact differently on individual states. Overall, we expect a painful global recession that will last about one year, followed by a fairly hesitant recovery in historical terms.

We expect the rate of global growth in 2009 to be 1.6%, the lowest since 1991. Economic output in industrialised countries is likely to shrink by around 0.6% next year. That is unprecedented in post-war history. We put growth in the emerging and developing markets at around 4%, although we think that the risk of that forecast being undershot is greater than the chance of it being exceeded. Once again, a lot depends on China, where we expect growth to slow to 7.8%. Stripping out China, global economic growth will not even reach 1%.

Germany: First a sharper downturn, then a sharper upturn
We believe next year’s downturn will be more pronounced in Germany than in the Eurozone as a whole, even though its property market remains sound. This is primarily due to Germany’s heavy reliance on global growth and the highly cyclical nature of demand for capital goods. However, this does not cast doubt on German companies’ success in restructuring, or on the previous government’s reforms. On the contrary: we expect that growth in Germany will again be somewhat stronger than the average for the Eurozone when the economy recovers in 2010.

German companies: Flexible strategies for challenging times
German companies will have to take a fresh look at their business strategies, which have been so successful in the past. We expect cost-cutting and restructuring to assume a greater role in corporate strategies once again. Cyclical sectors may feel the need for changes in their (growth) strategies that go beyond routine measures such as adjusting capacity and cutting costs. In addition companies with insufficient capitalisation and a high level of debt financing will find the going tough. Flexible strategies will be the key to success in these challenging times.
Corporate earnings in 2009: in the shadow of the global recession

The cyclical patterns of earlier phases of economic weakness may well once again represent a meaningful point of reference for the current downturn. However, of relevance to corporate earnings and margins are not so much the mean values of the historical cycles as the lows. In 2009, we expect earnings generated by European companies to drop by 15%. This is far lower than current market expectations, which are still forecasting single-digit earnings growth. In recessionary periods, cyclical companies alone regularly register earnings declines in excess of 30%. We therefore do not even believe our forecast to be especially pessimistic.

Mark-up on top of risk premiums should return to normal
Investors are demanding substantially higher risk premiums than usual in the current environment dominated by the financial markets crisis and fears of global recession. We believe demands for a higher-than-average risk premium are fully justified by the manifold risk factors. However, the current equity risk premiums are way outside the normal range on a risk map.

Even if we believe that the current crisis is especially severe, we still view risk premiums of more than 10% as a reflection of emotionally charged risk perception. In our view, normalisation from this standpoint is probable. In general we expect that reversion towards the mean for the past five years, which is around 5% for the DAX, will set in over the medium term. We believe an average premium to this mean during periods of economic weakness would be between 150 and 200 basis points.

Trend pattern in 2009: things may get worse before they improve
2008 has been a difficult year from the standpoint of the equity markets and, looking ahead to 2009, there seems likely to be no lack of challenges either. We expect there to be an even greater degree of nervousness in the first half of the year, given the uncertainty of forecasts of how deep the economic downturn and the decline in corporate earnings will actually be. Accordingly, we expect volatility to remain at high levels and we regard it as possible that recent lows in share prices may even be temporarily undershot in the early course of 2009. Consensus expectations for 2009 earnings may be reviewed in this transition phase; we expect substantial negative revisions in the case of the cyclical sectors in particular.

We believe the focus will shift back to fundamentals and market valuations as market participants become more confident that the global economy will (slowly) emerge from recession. The risk perception, which is currently very emotionally driven, will probably return to normal once both risk and return are again considered in an undistorted manner.  Given these fundamental expectations, we believe the DJ EURO STOXX 50 would be fairly valued at 2,600 points at the end of 2009. Our target for the DAX is 5,200.

Top picks: ‘9 for 2009’
Given the changed (economic) conditions and heightened forecasting uncertainty, drawing up a list of recommended stocks for 2009 represents a challenge in our view. We seek out companies that (1) can look beyond the current quarter despite the low (economic) visibility (2) are flexible enough to secure their lead in the race for profitability and competitiveness even under tough conditions (3) operate in economically more stable sectors or niche markets or (4) can credibly represent a sustainable dividend policy.

Our top picks for 2009 are:  BNP Paribas, Deutsche Telekom, Douglas, Fraport, Fresenius Medical Care, Henkel, Roche, RWE and Swisscom.