The investment market is always challenging. Up to the present day, a diversified portfolio has generated sufficient returns in the long term. But the road is bumpier when it comes to short-term investments. While the prospects for 2021 inspire confidence in a better tomorrow, the starting point is full of challenges.
The investment markets have recovered from the 2020 COVID-19 crisis better than the rest of the economy, which is evolving at the same pace as the virus. The equity market, however, has led a life of its own in anticipation of a vaccine. Judging from the confidence in future prospects reflected in the steady market, one might think that everyone has already been vaccinated.
High valuation levels
The equity markets have been driven by low interest rates, expansionary fiscal policies and efforts by companies to improve efficiency. Business operations have suffered less than most people believed, and many companies are doing better than expected. This should not be taken to mean that all is well. Air travel, tourism and a large number of other industries are still struggling.
Owing to low interest rates, alternative investments often lose appeal and so money flows into stocks. In light of several fundamental indicators, stock prices appear high. Despite all of this, even the distinguished “bubble professor” Robert Shiller stated recently that compared to current low yields equities look attractive and stock market valuations are not as absurd as some people think.
Low interest rates
Traditionally, government bonds have provided a safe haven for equity investors. When share prices fall, government bonds increase in value. Now that central banks have driven interest rates down and even purchased sovereign debts, institutional investors seek risk-filled papers. They tend to correlate with shares.
At present, there are negative-interest debt instruments in the world worth EUR 17,000 billion. They are hard to avoid by investors. At the same time, they are a tell-tale sign that something is amiss.
Concentrating markets
The equity markets continue to concentrate. The weighting of the USA in the world stock market index is already 55% and of this, technology accounts for over 25%. While industry or country concentration is nothing new, investors would prefer greater diversification. In the world of index investing, concentration is often a self-fulfilling cycle.
Will expansionary policies bear fruit?
Risks will not necessarily be realised in the fall of stock prices. Conceivably, growth-oriented monetary policies and the stimulation efforts of governments may prove effective and give results. They may generate growth.
Aging population brings in a number of challenges because the wheels of society are being turned by a falling number of working-age people and consumers. At the same time, the dependency ratio increases.
Challenges for 2021
Institutional investors have a tough nut to crack. While the risks described above are by no means new, they have only been augmented by the COVID-19 crisis. As in the past, the current trend may be sustained even if many markets are high-priced and recent returns may have eaten some of the future returns. The forecasts published by the world’s leading analysis houses predict a predominantly positive year for investments in 2021, despite the risks.
The writer is VER's CEO Timo Löyttyniemi.
