What changes might the New Year bring for investors?

With economic momentum strong, inflation low, and negative catalysts nowhere to be seen; investors are expecting goldilocks environment for stocks to remain in place well into the next year. But with P/E valuations standing at 20 per cent above long-term average in most regions, stocks are expensive and vulnerable to bad news, even a slight shift in expectation could throw the market off-balance. We offer a word of caution and identify four economic themes that could shape investment landscape in 2018.
Post QE: Ultra-low interest rates and relentless liquidity injection from major central banks have kept global stock markets on the steady course upward for the past several years. Volatility has been kept unusually low, on a premise that central banks stood ready to stimulate economy if anything bad were to happen. But as strong economic momentum lessens the need for stimulus, QE will grind to a halt in 2018, resulting in higher volatility especially in bond market.
Delayed reflation: Low inflation throughout 2017 has allowed central banks to withdraw stimulative policies only at a gradual and market-friendly pace. Core inflation in the US ended a year lower due to various idiosyncratic factors such as the price cut in wireless telephone packages. But effects of these temporary factors are about to fade and early signs of inflation recovery are emerging. US core inflation picked up in October and China also saw inflation inching up after strong rise in commodity prices. The implementation of tax cut and other fiscal stimulus in the US will also add inflationary pressure in 2018. Stronger-than-expected inflation could force central banks to tighten more aggressively than anticipated, which would in turn cause stock market correction.
Return of political risk: Political event turned out favourably in 2017 with pro-European Emmanuel Macron beating the far-right Marine Le Pen at the French presidential election in April. 
But political risks could return to the fore in 2018 as Italy goes to polls in March and US mid-term election occurs in November. In Italy, investors are wary of the risk that the eurosceptic Five-Star Movement party could lead the next government. While, in the US the possibility of the Republicans losing majority in the House and/or the Senate could diminish hopes of infrastructure spending and financial deregulations measures that lent support to the stock rally this year.
China tightening: 2017 is an important year in Chinese politics as the twice-a-decade Communist Party Congress (CPC), where the party's top echelons 7-member Politburo Standing Committee are elected, was held in October. As such, China's economic policy in 2017 had been all about stability. Interest rates have been kept relatively low to stimulate the economy; stock market and exchange rate were stable ahead of the Congress. 
Now that the event has passed, policy makers are shifting focus from boosting short-term growth toward long-term stability issues such as containing the risk from rising debt and bubble in property market. Tightening measures in both money market and property market have been rolled out after the CPC and the economy is showing signs of a slowdown. We expect China will maintain tight policy stance and the risk of over-aggressive tightening in China could entail global economic slowdown in 2018.
All in all, we recommend investors to not get carried away with the stellar returns of 2017 and exercise caution in 2018. Pay close attention to signs of rising global inflation and China economic slowdown as they are the most probable causes for market correction, in our view. Italy election in March and US midterm election in November should also be actively monitored.

KOMSORN PRAKOBPHOL is head of strategy at Tisco Economic Strategy Unit. He can be reached via www.tiscowealth.com or [email protected].