The dire views on demographic issues in Japan are alarmist, we believe.  In our discussions with investors, the most often cited reason for not investing in Japan, or for being bearish on Japan's long-run outlook, is "demographics".  Apparently, many think an inevitable, open-ended decline in the population will lead to the shrinkage of the economy, profits and stock prices.  We have re-examined this perspective and find it unconvincing. 

Urbanization will likely be a key force in China's economy to 2020 and beyond, as our economists have projected.  We highlight corresponding equity investment themes - from both the investment and consumption angles.  Under the investment theme, sectors such as metals, capital goods and property development should benefit.  Under the consumption theme, sectors including wireless telecom, transportation, Internet, education, medical and financial should benefit.

We see headwinds for the yen, the euro and the pound.  Overall, the recent surprising Fed actions have strengthened our bullish conviction on the dollar, but this has also resulted in a more challenging environment for the yen.  We expect a policy reaction in Japan to recent yen strength either via more aggressive monetary policy or possibly by direct intervention in the FX market.  Recent developments have also highlighted the growing headwinds for the euro and sterling.  

What are the lessons of 1994 and 2004 corrections for investors in 2010?  Right now, we think it is too early to buy and expect the current correction phase to last a few months (or even quarters) longer.  We would like to wait until either fundamentals improve or our valuation and sentiment models give buy signals.  Fundamental headwinds remain from the shift to policy tightening, moderating growth prospects, and higher uncertainty generally (including sovereign concerns).  

We believe commodities' greatest strength is their role as an inflation hedge in terms of portfolio allocation.  This characteristic is even more compelling relative to other asset classes such as real estate if one believes interest rates are going to rise.  But commodities have notable shortcomings, including their performance during periods of economic weakness.  They have also become increasingly correlated to a subset of the equity markets and can add significant volatility. 

*Henry McVey is Head of Global Macro and Asset Allocation for Morgan Stanley Investment Management and is not a member of Morgan Stanley's Research Department.  His views are his own and may differ from the views of the Morgan Stanley Research Department and from the views of others within Morgan Stanley.

In US corporate credit, we still see opportunities in pullbacks.  Until investors have greater confidence that the slow normalization of central-bank policy will not derail the economic recovery, headlines from the Fed and Treasury will likely keep investors cautious.  Nevertheless, we continue to expect fundamental improvement, coupled with still-attractive valuations, to outweigh negative macro headlines as the recovery gains traction. 

Cycle indicators may become more important for equity investors than monetary policy, with the credit super-cycle now finished.  Much of the increase in leverage since the early 1980s was funneled into risk assets.  Those credit flows were heavily influenced by central bank action. ‘Don't fight the Fed' often meant borrowing to buy risk assets when the Fed cut rates.  Interest rates always matter for investors, but the credit super-cycle made rate policy unusually dominant.   

Globally, we have a core strategic view to be long front-end forward rates.  We believe this strategy offers the highest quality of potential returns per unit of volatility - even in the face of discount rate hikes by the Fed.  If we can feel relatively certain about anything in this uncertain time, it is that central banks will likely keep rates lower for longer.  Yet the market is not fully priced that way, which gives us the opportunity to capture the carry that front-end forward rates offer. 

We lifted our 2010 GDP growth forecast for Hong Kong to 4.5% from 3.8%.  But our new forecast remains below consensus, as we have refrained from extrapolating a bounce in domestic demand similar to that in 2009.  The economy reclaimed positive YoY growth (in real terms) of 2.6% for 4Q09, after contracting for four straight quarters.  Both exports and imports of services recovered more strongly than expected, reviving Hong Kong's role as the region's service center. 

Our argument in favor of a rate hike is not about inflation at this point.  It is about "normalizing" the interest rate level in order to align with the growth rate.  Korea's real interest rate is still negative, and if rate hikes are delayed further, real rates will actually go down further with inflation picking up.  This misalignment with growth can cause a misallocation of assets. We think the central bank should take advantage of any chance to start normalizing interest rates before it is too late.

If there was one single message from Budget F2011, it was fiscal consolidation.  The government took the first step towards reducing the deficit to more sustainable levels in the February 2010 budget.  For F2011, the government announced a fiscal deficit target of 5.5% of GDP.  This compares with 6.7% of GDP registered in F2010 (revised estimates).  The budget has confirmed that the government will initiate a meaningful divestment program.  

The V-shaped recovery in Latin America is broadening, but given global risks many investors remain cautious.  And that caution is warranted, in our view.  Don't confuse Latin America's cyclical rebound (helped in part by less fiscal baggage than developed economies) with its limited structural progress.  Latin America remains vulnerable to the globe - something that the current fashion of highlighting emerging vs. developed markets underestimates. 

Patience remains the byword until 2013, but we now see a roadmap for the potential end of deflation in Japan.  We also see scenarios for faster or slower than expected progress depending on policy.  One means of stimulating prices that interests us is the reflationary policy independent of fiscal expansion.  Ultimately the outlook remains grim, but policy still has the potential to alter the path for prices, either upward or downward.  

Over the next decade, urbanization will become China's primary growth driver, we believe.  We expect urbanization to bring about meaningful changes to the structure of Chinese economy in terms of domestic vs. external demand, consumption vs. investment, and service vs. industrial sectors. But the most profound impact, in our view, will be reflected in the regional dimension of the economy: narrowing the gaps among the three economies in one country.

Is another jobless recovery in train?  We see a long road ahead.  In our view, the recovery won't be jobless, but gains will be tepid.  We expect annual job growth to average 1% (110,000 monthly) over 2010-11.  In addition, we see four obstacles to hiring that magnify the normal, early-recovery hesitation: rising benefit costs; mismatches between skills needed and those available; labor immobility resulting from negative equity in housing; and uncertainty around policies in Washington.  

Public and private leverage implies substantial constraints on monetary policy.  The Greek crisis likely marked the beginning of a wider sovereign risk crisis.  And it may well engulf central banks too, as high levels of public and private debt will test monetary authorities' resolve - and ability - to deliver price stability going forward.  Meanwhile, we think investors should hedge against inflation risks. 

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