S&P Dow Jones Indices Recaps 2012 Financial Market Performance; Identifies Headwinds That Could Impact Returns in 2013

Housing, Commodities, U.S. Equities, and Municipal Bond Market Examined

Dec 06, 2012, 09:30 ET from S&P Dow Jones Indices

NEW YORK, Dec. 6, 2012 /PRNewswire/ -- S&P Dow Jones Indices, the world's largest provider of financial market indices, has released today a review on the performance of the financial markets in 2012 and a look at the factors that could potentially impact asset class and broad market performance in 2013 discussing housing and the economy, commodities, U.S. equities, and the municipal bond market.

Key Takeaways
Housing/Economy Dr. David Blitzer, Managing Director and Chairman of the Index Committee

  • Housing will contribute to U.S. economic growth in 2013.
  • Economically, we can't afford to slide over the fiscal cliff over the short-term.
  • Longer-term, business barometers all look favorable for economic expansion, even if we fall over the fiscal cliff.

Commodities Jodie Gunzberg, Director of Commodity Indices

  • After a tumultuous year in commodities, expect fundamentals to anchor 2013.
  • China's increased need for oil could offset demand declines in the U.S. and Europe.
  • The commodities unknown: the impact of quantitative easing and the Eurozone crisis.  

U.S. Equities Howard Silverblatt, Senior Index Analyst

  • The 2013 market outlook looks very challenging.
  • The U.S. election outcome did little to alleviate uncertainty or encourage investment.
  • Dividend payments should be 6% higher next year even if levels don't change, reflecting hikes made during 2012.
  • Dividends may be the only game in town for investors seeking current income.
  • Expect an accelerated depreciation schedule to be cleared for companies, especially smaller ones.

Municipal Bond Market – JR Rieger, Vice President of Fixed Income Indices

  • The 2013 municipal bond market could hinge on the uncertainty of tax code changes and their impact on the tax treatment of municipal bonds.
  • The market could be influenced by any introduction of recovery bonds following Hurricane Sandy and/or a rising interest-rate environment.


U.S. Housing Prices and the Economy
According to Dr. David Blitzer, Managing Director and Chairman of the Index Committee at S&P Dow Jones Indices:  

"The U.S. residential housing market turned the corner in 2012 with six consecutive months of rising home prices through September, according to the S&P/Case-Shiller Home Price Indices. Count on 2013 to be the year when housing's rebound accelerates and the industry becomes a positive contributor to U.S. economic growth. All major housing indicators point up: home prices, housing starts, sales of existing and new homes, buyer and builder optimism. Mortgage rates remain at or near 30-year lows and foreclosures are retreating. For the first time since the boom went bust, housing looks good.

Anticipate that in 2013, the market will continue to normalize; that location, location, location once again will matter; and home prices across the country won't move in lock step as they did from 2004 to 2008. We could potentially see some strong city-by-city results such as strength in Washington, D.C., even though a party change in the White House isn't occurring, and in Phoenix, which was among the hardest hit cities.

The fiscal cliff – the collection of tax hikes and spending cuts scheduled for New Year's Day – is the biggest risk and largest challenge for 2013.  If the U.S. plunges off that cliff, a recession may start in the first quarter, meaning jobless rises and declines in about everything else – GDP, profits, incomes, and stock prices for a few.  If the cliffhanger ends on a positive note, the economy should continue to grow and by solid numbers. Unemployment would decline slightly; housing starts and sales would expand as well as consumer-related measures."

On the performance of the commodities markets in 2012 and 2013, Jodie Gunzberg, director of commodity indices for S&P Dow Jones Indices, says:

"Despite relatively flat returns, 2012 was far from calm in the commodities markets. The S&P GSCI opened the year with a big rise but by June 21, it had slid 22% from its peak. Then the markets shifted again, driven by natural gas technology as the U.S. looked to become energy independent from the world's largest energy importer. By September 14, the Index had climbed 25% from the trough and just shy of its February peak.

The worst U.S. drought in a half century in the summer destroyed corn, wheat and soybean crops, and prices soared. But as the weather has cooled, so has risk appetite amid global economic concerns, driving down industrial metals and energy prices. Consequently, the S&P GSCI is basically unchanged from the start of 2012.

The main themes that may drive commodity prices in 2013 are China's demand, quantitative easing, and the Eurozone financial crisis. If China develops like Japan and Korea did, its economy may start to transition to a slower economic clip in the next five years. Still, the volume of commodities needed versus today's output of metals, such as copper, build a case that supports high prices; China's copper consumption could double if China's growth trajectory mirrors that of Japan's or Korea's while supply grows by 3.5% annually.

As for oil demand, China's increased needs could offset declines in U.S. and Europe. And while demands by other emerging markets including Africa, Latin Americas, and the Middle East are expected to rise, the overall demand elsewhere may only be slightly above the expected increase in non-OPEC oil supplies."

U.S. Equities
According to S&P Dow Jones Indices Senior Index Analyst, Howard Silverblatt:

"2012 will be remembered for the European debt crisis and recession, as well as the U.S. political situation and its debt levels. Dominating the market and investing were the enormous uncertainty of the times. The typical market reacts to companies, evaluating their future profits and potential dividends.  This year proved atypical as the enormous number of global uncertainties governed the market, with any specific company only able to react and place itself in the environment.  In the U.S., the inability of political parties to work together made tax policy, social spending and debt levels almost impossible to forecast, keeping many businesses from committing to future projects and expansions.  Consumers, who account for 70% of spending, encountered short-term incentives but no idea of what future policy would be or bring. The U.S. election outcome did little to alleviate uncertainty or encourage investment.

The 2013 market situation appears to be very challenging. At best, a political solution to the U.S. fiscal cliff will emerge, although lawmakers may bandage the situation and kick the problem down the road. Still, several scenarios would appear to have a higher degree of certainty for investors, including long-term dividend issues.  With interest rates low, and the (current) Federal Reserve promising to keep them there, income-seeking investors will continue to enjoy few choices: Bank CD rates are minuscule and longer-term bonds, whose rates also are low, require that owners hold until maturity or face principal declines when rates start to inch up.  Yields remain relatively high. While actual dividend payments set a record in 2012, companies still are paying out just 34% of their profits versus an historical rate of 52%. Even if no issue changes its dividend rate through 2013, next year's payment will be 6% higher than 2012. 

Taxes will remain the major issue.  Some adjustment to the dividend tax rate will be made, with the potential for a 2013 modification being made retroactive. Regardless of the tax structure, even at the full 43.4% scheduled rate, dividends may be the only game in town for investors looking for current income.  Expect some type of accelerated depreciation schedule to encourage companies to purchase new equipment and, potentially, hire workers.  While congress will attempt to encourage companies to buy American, international trade agreements limit their ability. We expect some type of change from Congress, especially for smaller companies.  S&P Dow Jones Indices also anticipates continuing declines in European sales that would put pressure on profits and reduce margins.  Today, 46.1% of S&P 500 sales are foreign, with 11.1% coming from Europe."

Municipal Bond Market
On the performance of the U.S. municipal bond market in 2012, JR Rieger, Vice President of Fixed Income Indices at S&P Dow Jones Indices says:

"Reaching historically low nominal yields, 2012 saw the municipal bond market continue as a flight to quality and income-generating asset class.  But, relative to other fixed-income asset classes, municipal bonds have generated higher yields on a taxable-equivalent yield basis.  Low supply of new issues versus high demand for tax-exempt, income-generating assets sustained an imbalance that pushed prices higher.  High-yield municipal bonds saw yields decline the most and outperformed the general municipal bond market as income-driven investors pushed cash into municipal bond mutual funds.  New municipal bond monetary defaults haven't approached some end-of-2010 apocalyptic projections.

For 2013, expect various factors to impact the municipal bond market: The uncertainty of tax code changes and their impact on the tax treatment of municipal bonds.  So, if any new issue would be taxable as opposed to tax-free at the federal level, demand would increase for tax-exempt bonds already in the secondary market or if the tax-exempt status was to be reduced for high income investors that could have the opposite affect; The introduction of recovery bonds following Hurricane Sandy and the increased supply could potentially reverse the supply/demand imbalance; A rising interest-rate environment that affects bonds in general also impacts municipal bonds. An increase in the supply of new issues into the municipal bond market as municipalities begin to exit the long economic cycle and begin to fund long-term infrastructure projects such as schools, transportation, energy, and jobs creation; A dramatic increase in monetary defaults and or bankruptcy filings that might change perceptions of the high-yield municipal bond market. Those bonds could see their prices fall and yields rise at a fast pace relative to investment-grade municipal bonds."

For more information on the contributors of this commentary, please visit: http://us.spindices.com/contributors/.

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