Best and worst calls for 2011: Christopher Joye

Best and worst calls for 2011: Christopher Joye
Best and worst calls for 2011: Christopher Joye

It’s that time again.  We are all inevitably turning our minds to what may materialise over the 2012 horizon. The market for predictions is – nay, has always been – characterised by very high demand. And countless so-called "experts" seek to supply it.

Forecasting the future is, however, an exceedingly difficult game, and, in some respects, far more challenging than making money. I explained why here. The Reserve Bank has such little faith in its forecasting ability that it prefers to spend more time engaged in what Glenn Stevens’ recently described as "nowcasting". That is, forget the future – let’s try to work out what is actually happening in the present. I find that it’s useful to reflect on the past. Who got it right. Who got it wrong. And why…

The best calls of 2011

– Anyone who anticipated the extraordinary increase in eurozone sovereign yields, the spectre of the collapse of the eurozone itself and the dire knock-on effects across global debt markets, including Australia’s. Judging from the dismal performance of global macro hedge funds, which recruit the best and brightest geopolitical minds but were, on average, down 3.65% in 2011, few really got this one right.

– Anyone who expected the equally remarkable rise in the value of Australian government bonds to record levels as global central banks diversified away from the traditional reserve currencies – such as the US dollar, Swiss franc, and yen – in order to get access to one of the least risky, yet highest yielding, AAA credits (ie, Australia).

– The four major banks, which convinced Standard & Poor’s that their taxpayer-backed, ‘too big to fail’ status warranted a credit rating that was two notches higher than it would otherwise be, because they are able to rely on a ‘lender of last resort’ (ie, taxpayers) during an emergency. Fannie Mae or Freddie Mac, anyone? To quote Standard & Poor’s, “Our counterparty credit rating on Commonwealth Bank is two notches higher than the [stand-alone credit rating], reflecting our view of a high likelihood of extraordinary government support in a crisis. This reflects our view of CBA's high systemic importance in Australia, and our assessment of the Australian government as highly supportive of institutions core to the national economy.” But bad luck if you are a smaller regional bank, like the Bank of Queensland, which Standard & Poor’s assumed (incorrectly in my mind) would not receive the same taxpayer support. Recent history suggests otherwise.

– Fairfax’s new chief executive, Greg Hywood, who finally bit the bullet, and embraced my manifesto – published by the ABC in this op-ed – on how to revitalise the chronically underperforming Australian Financial Review. A critical part of this plan was the appointment of a new leadership team in the form of young whippersnapper, Brett Clegg, and the leviathan of the hard right, Michael Stutchbury.

– Anyone who went long ‘volatility’. In December 2010 I wrote a column claiming that our ‘new normal’ would be one characterised by far less predictable monetary policy. Specifically, I argued, “Australia’s economic destiny over the next 10-20 years is likely to be much more uncertain and volatile than it has been in the last two decades… One consequence of Australia’s heightened uncertainty will be that the two major levers of economic management, monetary and fiscal policy, will become more complex to set, and thus more difficult for investors to anticipate. Such uncertainty also engenders opportunity. Investors will probably face a wider distribution of potential outcomes, and thus more chances to make or lose money depending on their ability to divine our economic destiny.” And so it proved true. At the start of 2011 no Australian economist was forecasting that the RBA would cut rates twice. Ironically, some of the most hawkish economists this time last year are amongst the most vocally dovish today. 

– The private European banks that persuaded the ECB to give them a new three-year term funding facility at a low 1% interest rate. As soon as the facility was available, European banks immediately borrowed €489 billion from the ECB. In effect, European taxpayers are stepping into the breach left by private capital markets and directly funding their own wobbly banks via magic money (ie, the ECB’s printing press). The genius behind the ECB initiative is that it opens up a near riskless ‘carry trade’ to European banks, whereby they can borrow for up to three years at 1% and immediately reinvest that money in eurozone government bonds yielding between 2-6% per annum. This satisfies both the banks’ ‘liquid asset’ requirements under Basel III and European governments’ desire to stimulate demand for their liabilities.

– Again, credit must go to Australia’s four major banks, which, having astutely retained the services of one former RBA governor and two former Treasury Secretaries (and RBA board members), managed to convince APRA, the RBA, and Treasury to lobby furiously on their behalf for exemption from holding the extra capital required of the world’s 30 largest banks, which Australia’s majors all rank amongst, under Basel III. The only explanation local regulators could offer their overseas contemporaries was that they were not systematically important global institutions because they have no significant overseas exposures (with a wink and a nudge to Mike Smith and ANZ’s pan-Asian expansion plans).

– Kudos also to the four majors, for persuading APRA, the Treasury and the RBA to permit them to be exempted from the standard ‘liquid asset’ test that will apply to all other global banks under Basel III. Instead, Australia’s banks will have the unique benefit of a direct ‘line-of-credit’ from taxpayers, which they can tap during any emergency. Specifically, the RBA is supplying them with a new ‘Committed Liquidity Facility’ (instead of the standard Basel III requirement of holding sovereign debt), which for a tiny cost of 0.15% per annum local banks will be able draw on if they face a funding crisis.

– Of course Westpac’s Bill Evans, who pulled off the forecasting coup of the year. On the July 15, Evans turned 180 degrees from projecting further RBA rate hikes to a total of four cuts, commencing in December. It is one indication of how difficult forecasting really is that while Evan’s switch is universally hailed as highly prescient, the timing and magnitude of the forecast itself were wide of the mark. (In the article Fighting a false forecasting war, published November 17, I explained the poorly understood differences between forecasting and investing.) Immediately after Evans’ radical change of tune, which was triggered by an overseas trip, the second quarter inflation numbers printed at a stonkingly high 0.9% (after a similarly high first quarter result). Were it not for the US debt ceiling crisis, the RBA would have hiked rates in August. Instead, the RBA ended up lowering rates in November and December. The first cut was rationalised by the RBA’s willingness to shift monetary policy back to ‘neutral’ on the basis of the one (anomalously low) third-quarter CPI print. The December cut, which tipped policy into stimulatory territory, was justified not by a weak domestic economy, which the RBA repeatedly claimed was tracking ‘at trend’, but rather by the desire to give financial markets some insurance against a deterioration in the European situation. 

– Anyone who had the foresight to express concerns about the durability of the ‘independent’ central banking and inflation-targeting models that had prevailed for 15-20 years prior to the GFC, and, more particularly, voice apprehension about the likelihood that sovereign states would seek to politicise (or ‘fiscalise’) their central banks by compelling them to monetise government debts. The RBA is, for the time being, one of the last remaining examples of a nearly extinct species. 

– Anyone who acted on Rismark's now fashionable yet long-standing portfolio construction advice of reducing exposures to listed Australian and global equities, and increasing portfolio weights to Australian government bonds and cash. Over 2011 the Australian sharemarket, including the reinvestment of dividends, declined by about 15%. In comparison, the UBS Composite Bond Index, which proxies for the broad Australian fixed-income market, rose by a stunning 11% while bank bills returned over 5%.

– Those economists who held firm on their optimistic economic and household income growth forecasts in the face of numerous 2011 storms. In the second and third quarters of 2011, real GDP growth has averaged a way-above-trend 4.8% (annualised). And the flood-affected fourth quarter of 2010 has been consistently revised up, with real GDP growth now estimated to have been a trend-like 0.8% even with a 0.5% drag attributed by Treasury to natural disasters. Real per capita disposable income has been similar impressive, expanding at an 8.8% annualised pace over the six months to September.

– Anyone who rejected the relentless lobbying by vested commercial interests and those pushing doomsday scenarios about the so-called ‘retail recession’ and weak consumer spending. It turns out that Australian consumer spending has been rising at a healthy rate. Based on the latest ABS national accounts data, consumer spending averaged 4.4% over the half-year to September, and 3.7% over the past 12 months. The RBA has noted that consumer spending, which is the single largest driver of economic growth, has merely substituted towards services and away from traditional retail goods. The chart below shows the quarterly pace of Australian consumer spending in real terms, which is currently expanding at a rate well-above its long-term average since the end of 1989.

– Rismark’s September 2010 forecast for ‘modest’ declines in Australian house prices if the RBA lifted rates – we got a double hike in November 2010 – combined with ‘de facto’ hikes in 2011 care of extreme consumer hawkishness (documented in numerous surveys) with the average family budgeting for two to three rate increases. Over the first 11 months of 2011, Australian capital city dwelling prices only fell by 2.8% (in actual raw terms), and by 3.7% on a seasonally-adjusted basis. The November house price data released on December 30 shows the first actual rise in both capital city and regional dwelling prices since December 2010.

– The pioneering use of animated cartoons to spoof the decision-making of the RBA and Australia’s major bank oligopoly. To date, there have been over 5,500 unique views of these cartoons, which average over five minutes each. By far the most popular has been this skit of a dialogue between Westpac’s Gail Kelly and NAB’s Cameron Clyne.

Next page: The worst calls of 2011


 The worst calls of 2011

– Wayne Swan’s unprecedented decision to break with 20 plus years of convention and take the pay-setting powers away from the RBA’s independent board members, led by the highly-respected Jillian Broadbent, and put them under the government’s control. Prior to doing this, Broadbent wrote to Swan, arguing "[C]hanging current responsibilities on remuneration would jeopardise the calibre of the Reserve Bank officers and the bank's high standing...The board believes that the current remuneration framework for the bank is crucial to the bank's continuing capacity to carry out its duties to the standards required, and would see any move to unwind it as undermining the capacity of the Bank to do so." Swan’s complaint was that Glenn Stevens gets paid too much – that is, one-fifth what the average top 12 executives at a major bank receives.

– Muammar Gaddafi’s decision to knock back the opportunity to go into exile in Venezuala, Zimbabwe, Angola, Burkina Faso, Chad, or Equatorial Guinea. Likewise, the decision of Egyptian president Hosni Mubarak to resist his Arab Spring. The smarty-pants in the Middle East looks to have been Tunisia’s former president, Zine El Abidine Ben Ali, who simply relocated to Saudi Arabia.

– The chorus of commentators and analysts who claimed the major banks would not be able to pass on the RBA’s December rate cut in full because of higher funding costs.

– The consensus economist projection at the start of 2011, which yours truly subscribed to, that the RBA would raise rates several times over the year on the back of high core inflation. We got the high core inflation in the first six months, but a conflictingly low print in the third quarter. The RBA showed us that it finds lifting rates into restrictive territory hard work, while cutting them on the back of more mixed evidence seems to be an easier decision. This could be related to the fact that the RBA board is dominated, unusually, by six political appointees from the private sector plus a government representative in the form of the Treasury Secretary. Read about how the RBA’s decision-making process really works here.

– Doomsayers who confidently claimed that the eurozone was certain to collapse. (This may yet prove true!)

– News Ltd’s Terry McCrann, who called a certain hike in August 2011, and the AFR’s Alan Mitchell, who argued the RBA would not cut in December unless there was a demonstrable deterioration in European conditions.

– Bill Gross’s decision to sell PIMCO’s holdings of US Treasuries on the basis that money printing by the Federal Reserve (hit) would stimulate inflation pressures (hit) and a decline in the perceived creditworthiness of the US sovereign (hit with Standard & Poor’s dutifully downgrading the US to a AA rating), and the resulting surge in US yields (miss) forcing a decline in the value of US bonds (miss). Gross arguably underestimated the power of risk-aversion.

– The Commonwealth Treasury’s 2011-12 budget deficit forecast, which after only six or seven months had to be revised up by another $14.5 billion (between the May budget and the November MYEFO).

– Steve Keen’s mid 2010 prediction of ‘accelerating’ declines in Australian house prices, which have fallen by less than 3% and look to be decelerating based on today’s data.

– The droves of sharemarket spruikers who once again forecast stunning gains for Australian equities. While they are too many in number to list here, representative examples include AMP and UBS’s calls for the ASX 200 to rise to 5,500 and 5,600 points, respectively, by end 2011 (ie, gains of circa 20% before accounting for dividends). Today the bourse is sitting near 4,000 points.

– Finally, the oft-quoted interest rate futures market, which at various times during the year has predicted more than one RBA hike and five RBA cuts. Of course, we got neither. As I explained in this column, market pricing for future RBA rate changes is both highly volatile, and biased by various influences. While economists get panned for changing their views, the truth is that market is far more temperamental.


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Christopher Joye is a leading financial economist and a director of Rismark International and Yellow Brick Road Funds Management. The above article is not investment advice.

This article originally appeared on Business Spectator



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