Russell Investments has forecast lower growth, lower interest rates, a lower Australian dollar but improved investment returns for 2013 in what it says will be a “bumpy ride” for the local and international economies.

In the firm’s November Market Commentary, Russell’s global head of investment strategy, Andrew Pease, forecasts that tighter domestic fiscal policy will see Australian GDP slip to 1.8 per cent in 2013, and average 1 per cent over the next three years. In the context of the fiscal tightening, Pease says the Reserve Bank of Australia will be “more open” to easing interest rates further.

“The Australian dollar is still significantly overvalued and these rate cuts should act as a catalyst to reduce components of Australian-dollar demand through decreased bond issuance,” says Pease.

“As a result, we should see a weakening of the AUD.”

Risk-on, risk-off to remain

Despite this scenario, Russell is “cautiously optimistic” about investment returns over 2013, although the risk on-risk off pattern would remain a feature of the markets.

The firm sees positives in improved conditions in Europe, China’s stabilising growth and a “valuation upside” to both Australian and emerging markets, which should deliver improved performance for equities. Even so, the markets would continue to “cycle between pessimism and optimism.”

Australia, he says, will continue to be impacted by the situation in the US, where modest profit growth, low inflation and a recovering housing sector point to single-digit US sharemarket gains.

Bond markets would remain moribund, with yields “unsustainably low” on sovereign bonds, although corporate spreads were attractive with the current global investment grade spread at 150 basis points, close to the 135 basis point long term average.

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