Will stocks rise in 2011?

Investment banks and fund managers have begun to issue their annual forecasts for the year ahead. The consensus view, says Jennifer Hughes in the FT, appears to be that the global recovery "will continue, with some inflationary pressure, but not enough to force central banks in the US, Europe and Japan to reverse super-loose monetary policies". Forecasters expect European, UK and US stocks to rise by around 10% in 2011.

But this may be a bit much to ask. After all, most of the developed world is struggling with "the most difficult economic circumstances of the post-World War II era", as former Fed chairman Paul Volcker notes. So the recovery in the US, which sets the tone for world markets, looks set to remain "sluggish and fitful", as Capital Economics puts it. Rising food and energy prices, a renewed slide in house prices, and lacklustre employment growth the jobless rate is at a six-month high of 9.8% all bode ill for consumption (now 70% of GDP).

Yet growth "would have to be pretty impressive" to justify a cyclically adjusted p/e ratio well above the historic average, says Tony Jackson in the FT. Especially since profit margins, according to Smithers & Co, are at an 80-year high and thus more likely to fall than rise. So disappointing US profits are a key danger next year. The forthcoming fiscal squeeze in much of Europe won't help either. Meanwhile, the threat of defaults in the eurozone and "uncertainty over the very existence of the [euro] currency will continue to drag onconfidence", says Capital Economics. With the crisis unlikely to be resolved soon, there is ample scope for further jitters to rattle markets.

Try 6 free issues of MoneyWeek today

Get unparalleled financial insight, analysis and expert opinion you can profit from.

Start your trial

Sign up for MoneyWeek’s free twice-daily newsletter.

Join more than 165,000 subscribers and keep yourself informed with latest financial news, insights and expert analysis to help you understand what really matters when it comes to your finances.

Join more than 165,000 subscribers and keep yourself informed with latest financial news, insights and expert analysis to help you understand what really matters when it comes to your finances.

Sign up

A hard landing in China as the authorities attempt to squeeze out inflation is another hazard. According to Albert Edwards of Socit Gnrale, China's leading indicator is pointing to "a very significant slowdown" in growth. That would further cool world growth and put pressure on the commodity-heavy FTSE 100 index. Another danger arises if the Fed's money printing shows signs of triggering a sharp jump in inflation.

Given the potential pitfalls, the defensive stocks we highlight regularly look the best bet many are still good value. And gold remains appealing, given the danger of inflation and further financial turmoil.