The world’s largest asset management firm, BlackRock, reckons equities and corporate bonds can rise higher in 2014 but warns investors that they should be ready if or when such markets hit a brick wall.

The world’s largest asset management firm, BlackRock,
reckons equities and corporate bonds can rise higher in 2014 but warns
investors that they should be ready if or when such markets hit a brick wall.

The fund giant, with $4.096 trillion assets under
management, sets out a variety of scenarios for next year with a base case – at
55 per cent probability – of tepid economic growth and low global interest
rates. The bullish scenario (25 per cent probability) contains rising growth
and liquidity gradually tightening; the bear case (20 per cent) highlights the “many
things that can go very wrong”.

“2014 is the year to squeeze more juice out of risk assets,”
Ewen Cameron Watt, chief investment strategist of the BlackRock Investment
Institute, said. “But investors should be ready to discard the fruit when it
starts running dry,” he said.

Developed economies should accelerate in tandem for the
first time since 2010, the fund management firm said, but it is worried that
global central bank policies aimed to driving growth may be losing their force.

“Low nominal growth cannot be solved by monetary policy
alone,” the firm said. “Monetary growth does not address skills mismatches,
aging populations, labour market red tape and protectionist policies. Central
banks can ease some of the pain – but ultimately policymakers must deliver
structural reforms to boost growth,” he said.

Under its “base case” scenario, real interest rates and
overall volatility in markets stays low and market momentum could push equities
to higher levels; however, in the case of equities, prices rather than earnings
growth will drive gains.

“Investors have jumped on the momentum train, effectively
betting yesterday’s strategy will win again tomorrow,” it continued. As
correlations between equities and bonds rise, investors must consider other
ways to spread risk, such as hedge funds, it said, as well as hard assets such
as infrastructure.

BlackRock expects US economic growth to be around 2.5 per
cent and stay there while the US Federal Reserve runs down its quantitative
easing programme; equities and housing markets will be challenged by this “tapering”
of QE, it said. By traditional measures, US equities look expensive, it said.

Japan’s headwinds,
China

BlackRock also sounded a cautionary note about Japan.
While the expansionary policies of the Japanese government could work, efforts
to cut the country’s vast public debt could push the economy back into
recession, it said. If the economy does grow more quickly, debt servicing costs
will rise if interest rates increase.

The firm is more sanguine about China, saying the country’s recent
package of reforms unveiled by the ruling Communist Party could set the stage
for a “multi-year bull market in Asian equities”. However, this outcome depends
on whether the government comes good on its promises, the firm said.

Finally, turning westwards, the asset manager said fiscal
austerity and ageing populations will suppress eurozone growth. The firm said
it is “cautiously bullish” on European stocks, arguing that valuations are low,
compared with the US.