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A time to reflect - back to basics
Equity market outlook
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China: Recovery, relaxation and rebalancing
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2012 Tactical Investment Opportunities
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A time to reflect - back to basics
Looking back, 2011 was a very unpredictable year. Even though we knew there were a number of concerns out there, political upheavals and natural disasters raised the levels of uncertainty.

We started the year with the knowledge that risk, post the global financial crisis, had increased and that the global recovery was going to be patchy at best. What we may have underestimated was investor nervousness at the lack of clarity and resolution of the many issues facing the global economy. As such, looking forward to 2012 requires one to take a step back, reflect, and move back to basics.

One of the most daunting problems looking forward to 2012, remains the discrepancy between reality and perception in the financial markets. Investors are very much focused on the news flow which has been rather negative and worrying, but at the same time when we look at corporate earnings results and economic data, the outlook is stable. This disconnect is reflected in the global growth outlook, which according to the IMF, remains positive for 2011/12, however the valuations in financial markets are reflecting a global recession.

Europe will remain the main headwind in 2012
The issues are well known but the solutions are fraught with difficulties, and overcoming the debt crisis will require political courage and economic pain.

Europe will most likely see slower growth, if not a recession in 2012 if all the austerity budgets are enforced. We could however see some optimism here if European leaders are able to get coordinated and implement more concrete measures which protect the financial system against contagion beyond Greece. This especially has taken a sense of urgency as contagion spreads to Italy and Spain. The other two issues that will be in focus are the potential slowdowns in economic growth in both the US and China. Recent data have put some of this fear aside as the US is showing growth, albeit modest while the prospect of a hard landing in China is receding.

Thematically, our calls for 2011 were valid from a fundamental perspective but were affected by the nervous sentiment. Emerging markets were sold off in the second half on worries about global growth while developed markets were mixed, with US equities doing relatively well while European markets were whipsawed on the debt issues. Japan on the other hand continued to underperform even though valuations remain very attractive. Fixed income especially Investment Grade did well while there was turbulence in High-Yield and Emerging Sovereign bond markets in the second half of last year. Commodities were volatile and our calls on Brazil and Russia as such disappointed.

So where do we go from here?
Our outlook for 2012 remains uncertain, dependant on how issues in Europe are resolved and if we can continue to get positive momentum from the US and China. Both of these countries also have major political events, elections in the US and leadership change in China. These will dictate how markets perceive risk and policy uncertainty. Hence, we do feel that investors should remain conservative yet nimble in their asset allocation. Thematically, we remain constructive in holding on to Investment Grade bonds as they provide a cushion against market volatility. We also feel that Hong Kong remains a cheap way to play emerging markets, especially China, which has started to ease monetary policy as the economy slows and inflationary pressures decline. In developed markets, core Europe, especially Germany, looks attractive and should benefit from improving emerging market demand, while in the commodity space we still like Brazil which continues to benefit from domestic spending and firm commodity prices. As we still expect markets to remain volatile, Hedge Funds are likely to do well and Long/Short and Macro strategies are our preferred choices.

In conclusion, 2011 was a difficult year and we do not expect 2012 to be any easier. We strongly feel that it is important to revisit your portfolio this year and make sure that it is balanced to withstand volatility. Remain nimble and ensure that your asset allocation meets your needs and goals. This is a time to reflect and move back to basics.

Haren Shah
Senior Investment Strategist
Investment Strategy Group
Wealth Management, Asia Pacific
Citi
General Disclosure
"Citi analysts" refers to investment professionals within Citi Investment Research and Analysis ("CIRA"), Citi Global Markets Inc. ("CGMI") and voting members of the Citi Global Investment Committee.

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