2011 Forecast Mid Year Update

At the beginning of the year we posted the basics of our Economic and Investment Forecast for 2011.  Since we have passed the halfway point for the year, I thought we’d take a look at the Forecast to see how we have done and what adjustments should be made.  The current mess in Washington is certainly not helping the situation but must press on….

ECONOMIC FORECAST

We expected modest GDP growth at a rate slower than Federal Reserve estimates of 3.0% to 3.6%. Our estimate was in the range of 2.5% to 3.5% but we expected mid-range at best. Current projections would be for growth to come in at the low end of that range at best.  In fact, we will likely see a rate closer to 2% than 3%. 

Our expectations for 2011:

  • GDP will grow around 3.0% for the year; now lowered to 2.4% or less.
  • Policy makers will continue to deal with the current economic situation and will begin to focus on long term fiscal issues in the second half of the year; certainly they seem to be talking about things but as of today nothing has been resolved for the short or long run.
  • The economy may face some headwinds should policy makers focus too much, too soon on long term fiscal issues; the fact that nothing has been accomplished is a headwind in and of itself.
  • Unemployment will likely drift lower to 9.25% to 9.5%; Interest rates will hold relatively steady due to little or no Fed action; Unemployment did drop below 9% briefly but I will stick with our forecast for both unemployment and rates.
  • Core inflation will increase slightly too around 1.5% while food and energy prices will see more significant changes; Core inflation is currently at 1.5% and food and energy prices have been, and will continue to be, very volatile.
  • The U.S. dollar will decline slightly against foreign currencies but the threat of a currency war will help soften the decline; this has held true and has helped forge an export boom.
  • Consumer and business spending will pick up slightly.  Haven’t seen this to the degree we would like.

EQUITY MARKETS

Our expectation was high single digit returns for the S&P 500 and for other averages to post similar returns. Current returns are in the mid-single digits and hopes for greater returns rest on earnings and some sort of resolution coming out of Washington.

Our forecast for 2011:

  • Most financial planners and investment managers bullish on stocks; Seems to be holding true although less so than earlier in the year.
  • S&P 500 end of year target of 1373 which is approximately a 9.2% gain; could still happen if things fall into place.
  • Corporate earnings will grow by approximately 10%; So far so good.
  • Earnings comparisons will be difficult; have been less difficult than forecast but will likely be so as the year progresses.
  • Large, multinational corporations will lead the way; has been a mixed bag.
  • Tech, energy, and industrials will be leading industries; True, especially for tech stocks.
  • Commodity prices, including oil, will increase; anybody been to the pump lately?
  • Dividend paying stocks will outperform.  Will stick with this forecast as well.

FIXED INCOME MARKETS

Our expectations were for firming rates as the economy continued its improvement.  This spring it looked like this might hold true but then the economy began to weaken again and rates have fallen and stayed low.  It is likely we won’t see significant movement in rates until 2013 barring a big change in the economic outlook.

We expect the following in 2011:

  • Interest rates not likely to move dramatically higher; has held true.
  • Upward ticks in inflation and interest rates will occur later than earlier; actually occurred earlier but rates have fallen back.
  • Fixed income return expectations should be lowered and returns will primarily be determined by yield; For the most part has held true.
  • Slowly growing economy should prevent a bond bubble bursting scenario; No one is talking about the bubble right now but that doesn’t mean it couldn’t come back.
  • Corporate bonds preferred over treasuries; true for the most part, although with the recent fiscal mess in Europe, there has been a flight to quality (treasuries).
  • High yield securities will be main source of additional yield; True.
  • Opportunities will be available in muni markets but budget problems do pose some risk;   true, in fact this has been an area of some new product development on the fund front.
  • Extending duration may be more valuable than taking on more risk; True, but less so than expected.
  • Use of alternative tools such as TIP’s and floating rate securities provide some protection.  Working, but worked very well earlier this year.

Our forecast has been fairly accurate but expected volatility over the course of the remainder of the year could challenge our expectations.  First and foremost, the federal government needs to get its act together and make some progress in dealing with fiscal issues.  Until that happens, volatility is likely to rule the day.

Stay cool!

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