sitecontent

Global growth set to remain below trend in 2010 – fair level for DAX is 5,900 points

According to WestLB's Head Economist, Holger Fahrinkrug at the presentation of this year's outlook for the economy and the equity markets, global economic growth is expected to be 3% next year and therefore below the longer-term trend. With China leading the way, growth is likely to be the most dynamic in Asia’s emerging markets. However, WestLB does not expect to see a self-sustaining upswing with strong capital expenditure and significant increases in employment. On the contrary, employment will initially fall yet further. We estimate that average economic growth in the industrialised nations will stand at 1.6%, slightly higher in the USA, and slightly lower in the Eurozone and in Germany.

For the next few years, the US economy will display much weaker growth than is usual in the aftermath of a recession. It will be essential to overcome the country's extreme dependency on consumption and develop a new, viable growth model. The repercussions of the financial crisis on the real economy are likely to be with us for some time to come and bear down upon public finances, private consumption and investment activity.

In Germany, extensive cost cutting and restructuring are likely to give rise to a noticeable increase in unemployment. This will dent private consumption as much as the decline in demand for new cars since the phasing-out of Germany's car scrappage premium. Since much of existing production capacity lies idle, capital expenditure – regardless of the fact that business expectations have improved significantly – is likely to stall as a growth engine for the foreseeable future. Ultimately, the German export sector will need to adjust to a less dynamic demand trend than in past boom years; Germany too urgently needs a more balanced growth model.

The inflation rate will return to normal and increase to an annual average of 2.0% in the USA and 1.2% in the Eurozone. However, for some time to come the major central banks will probably make some allowances for the financial sector and the weak state of the economy. The US Federal Reserve took the first step in Q3, followed by the Bank of England. While the ECB may well fine-tune interest rates in Q4, the Bank of Japan will probably leave things as they stand for 2010. Given the substantial amount of idle capacity still in evidence, there is no reason to hastily increase the cost of refinancing.

"New normality" for margins, earnings, and equity risk premiums
Martin Gilles, WestLB's Head Equity Strategist, expects a "new normality" to apply to corporate earnings. He believes it will be marked by lower trend growth and structural changes in the quality of economic growth. Regional growth models may well be more focused on the domestic economy on a lasting basis. Unlike market expectations, WestLB does not believe that 2010 will see the start of a strong, multi-year recovery phase in earnings and margins. WestLB estimates suggest that earnings will increase by 13.5% (consensus: 21%). Although margins could improve, costs burdens remain considerable and in some cases have the potential to increase further. The ongoing pressure on selling prices means that sales growth may well squeeze margins to a certain extent.

The cyclical variance to the downside in risk premiums is at a level. This first upturn of the post-crisis period will probably be very different to the one seen prior to 2008. For this reason, the discount to the (economically neutral) risk premium trend level should also be lower at 50 basis points.

Target prices, trend pattern & top picks for 2010
We consider 2,900 points to be a fair level for the DJ EURO STOXX 50 at the end of 2010; our target for the DAX is 5,900 points. The macro-economic data available still initially suggests there will be a V-shaped recovery. At the same time, there is the possibility of surges of up to 10% above the fair values before doubts about the quality of the economic recovery rein the markets back in. More attention will then focus on the question of an appropriate risk premium, but monetary policy could once again become a risk factor for the equity markets.

The WestLB Top Picks List for 2010 consists of companies that: (1) in the currently recessive economic situation show potential for top-line improvements in addition to earnings growth as a result of restructuring programmes; (2) have comparatively good access to the capital markets or have favourable refinancing conditions, thus allowing them to implement corporate strategies and make future investments; and (3) have a high degree of transparency with regard to their sales and earnings situation and that we feel are in a good position with respect to the consensus. The top picks for 2010 include Bayer, Credit Suisse, Ericsson, Fraport, HeidelbergCement, Munich Re, Pfeiffer Vacuum, Roche, Symrise and United Internet.