We hope this is more a matter of judgment than luck but you always need a little of that too in forecasting the future.

Empirical approach

We try to take a very empirical approach and note that what has happened in the past does tend to be repeated and the chance of anything ever being different this time is rather small.

As the great investor Sir John Templeton once commented ‘This Time is Different’ are the four most expensive words in the English language for investors.

From the study of history then we can learn a lot about the likely future course of financial markets because given similar circumstances and events they will behave in a pattern seen before.

This approach to fundamental analysis is not the same as following financial charts or technical analysis. But if the technical analysis supports the deeper fundamental trend then we would consider it useful, otherwise it is most likely wrong as right.

Historical parallels

However, this sort of fundamental analysis is very much an art and not a science. The interpretation of history in real time to project future trends is always going to be tricky to say the least.

You need a wide and not a narrow reading of the subject, or it can be terribly misleading and for investors very expensive in terms of mistakes.

So for asset allocation in 2012 we need to come up with analysis of where we are and what historical parallels apply in this context…

(This article is available only to newsletter subscribers. It contains actionable investment ideas. Why not subscribe as your first investment of 2012 and do so before rates rise on January 9th? click here).

But perhaps it is easier to look ahead into 2012 precisely because we have become accustomed to dealing with the improbable. So where do the major fault lines lie for 2012, the year the Mayans thought would be the end of the world?

1. Syria is the most obvious country facing a possible full civil war in the aftermath of the Arab Spring. It seems unlikely the rather weak and divided Arab League will be able to prevent this happening but this does not have to follow the Libyan model. After what happened to Colonel Qaddafi there is a good argument for leaders to stand down rather than be killed by the angry mob.

2. Egypt is still a mess after its ’successful’ revolution and the danger of a slide into anarchy remains if the military loses its grip on power. Egyptians are well known for an ability to muddle through chaos and this could prove a useful asset in 2012.

3. Yemen is also a powder keg with the competitive anarchy of the city state warlords looking explosive. Somalia is the analogy often used, and not a happy one.

4. Iraq is unstable after the ‘departure’ of the Americans, although tens of thousands of advisers in military uniform remain. The potential for a three-way national split into sunni, shiite and the northern areas is strong – a shame because the potential for a national economic revival is otherwise very good.

5. Iran’s nuclear ambitions continue to run the gauntlet of just about everybody else in the international community except Syria and North Korea, both countries with regime issues of their own to cope with now. A military paper tiger that could be blown away in a puff of wind from the US or Israel, the threat imagined from Iran is always the problem rather than the actual threat. Paranoid minds on either side could escalate this clash into something nasty. Closing the Hormuz Strait is always possible for a few hours.

‘What ever you thought of the old system, at least you could do business with it,’ British hotelier Sir Rocco Forte told ArabianMoney when opening his new hotel in Abu Dhabi this week. Sir Rocco said he had been looking at hotel projects in Syria before the Arab Spring.

Syrian tragedy

‘Syria would be ideal for investment in tourism. It has absolutely everything,’ he noted. But in the current climate? It is not even safe for British tourists to go there.

Sir Rocco says his two hotel projects in Egypt – Shepheard’s hotel in Cairo and The Luxor Hotel – are going ahead. But with the Egyptian government as his business partner deals signed before the revolution might yet come unstuck, although he is publicly confident as the same officials are still in charge.

Yet it is not just difficult for those Arab states affected by the troubles this year. There has been collateral damage. Consider for example the drought for regional mergers and acquisitions. That means no fees for investment bankers, and several top bankers have been withdrawn from Dubai because of the shortage of business. Here is a table showing the slump in regional mergers and acquisitions:

Of course, M&A is just one example. You could point to the bombed-out local stockmarkets. Dubai Financial Market is over 80 per cent off its 2006-high and still falling. That is why a poll of financial institutions recently placed Qatar above Dubai as a regional financial centre. Business is very bad for financial institutions in Dubai.

This lack of confidence risks tipping over into an Arab Winter if the global economy goes into recession next year. Oil prices would doubtless tumble, at least to start with, and it has been oil revenues above all in 2011 that has kept the Middle East afloat.

For the Oil States 2011 will be a historic year for production and oil revenues. Without that cash flow an economic Arab Winter would be inevitable, and generally where economics go politics are headed next.

The write-offs largely accounted for a $21 billion loss in 2009. Nakheel’s assets are now carried on its books at $21.8 billion compared with $42.5 billion, in line with the fall in Dubai property values since the crash three years ago.

Abandoned palms

These assets include two abandoned palm-shaped islands, the stalled Waterfront project and the largely empty map of The World picked out in man-made islands.

The document obtained by The National also reported a 74 per cent drop in staff from 3,818 to 986 by the end of March this year. Land reclamation has stopped while work on a limited number of other projects is said to be going ahead.

Nakheel’s ownership and financial liabilities are now with the Dubai Financial Support Fund, the body established to administer the $20 billion bail out from Abu Dhabi two years ago. The prospectus is for an Islamic bond issued to contractors in part settlement of outstanding payments.

The big question in financial circles is whether this restructuring is sufficient or whether Nakheel will be forced back to the refinancing table again.

It is certainly true that under the assumptions made at the time of the current settlement that the write-offs went far enough, and the remaining debt is serviceable on the proposed Nakheel business plan. But if the global economy is blown off course by a debt crisis in Europe then a highly indebted company like Nakheel is still vulnerable to the changing environment.

Inflation scenario

On the other hand, the money printing expected by central banks in response to another financial crisis is inflationary and if this increases the oil price will likely be a prime beneficiary, and that could return the region to economic health more quickly than anything else imaginable.

Muddle through remains the core scenario for Nakheel but there is still that $7.6 billion debt to carry which will become a great burden if times to not improve. Meanwhile, the company has a lot to do to regain the confidence of its trade contractors and customers that remains low.

It was probably a historic day for the unification of Europe with Brussels gaining wider powers to deal with economic crises and the core nations bailing out the periphery again.

Brussels wins

You always have to stand back from eurozone deals and try to think in the wider context. The detail is generally very confusing and often meaningless over time anyway.

Basically the Germans and French are not abandoning Greece, Portugal and Ireland. There is now cheap, 3.5 per cent money for these three countries to help them roll over their debt. But Greece is finally defaulting.

This much is clearly inflationary. Hence the bounce in precious metal prices. The first-ever default by Greece also begs the question who is next?

There is a long queue of candidates. Spain and Italy are not included in the 3.5 per cent list. How long before they also require a bailout? It is less likely to be refused now the precedent is set.

What emerges is not an Armaggedon with the Parthenon handed over to Brussels as collateral as the Finnish demanded yesterday but another euro-fudge and a highly inflationary one.

Investors who have put their trust in precious metal were amply rewarded again yesterday and from here the only way is up as the European Union spends its way out of another crisis at the cost of higher general levels of inflation.

The other winning asset class will be the energy complex with demand maintained against falling supply options. Oil and gas ETFs and stocks will do well.

Consumers lose

European and US consumers who pay up at the petrol pumps may not feel so happy about life.

That also bodes extremely well for the United Arab Emirates stock market which offers a leveraged play on rising oil prices from a low base. Currently the Arab revolts of 2011 are obscuring this opportunity but it will become clearer as the dust settles and the UAE emerges not only untouched but booming again.

This is the argument that ArabianMoney editor and publisher Peter Cooper will present to the annual Agora Financial investment conference in Vancouver next week.

Portugal has collapsed under the weight of austerity measures to meet debt reduction commitments. In the non-oil Middle East the recession is worst of all with political instability bringing key economic sectors like tourism grinding to a halt and also hitting almost everything else.

Japanese contraction

The Japanese Economic Planning Association expects the economy to shrink by 3.3 per cent this quarter and then bounce back with an increase in government spending to clear-up the earthquake damage. However, its car makers are unwilling to give projections for 2011 because they are so uncertain about the outlook.

Production of car parts and steel have been severely reduced due to damage by the earthquake, and there is a power supply crisis with the shutdown of nuclear plants and the loss of generation capacity. The latter in particular will not be quickly restored.

It is also notable that the Japanese economy was heading back into recession before the earthquake struck on March 11th. The world’s third largest economy was already faring badly in the post financial crisis era, and you have to wonder how its indebted national balance sheet will stand up to this further extreme trauma.

Anarchy

At least Japan and Portugal still have coherent governments that are in charge of their countries. The same cannot be said for large parts of the non-oil Middle East and North Africa.

In Tunisia and Egypt the democratic transition process keeps business fearful; in Libya, Yemen and Syria there is a virtual state of civil war; Lebanon is locked in a political impasse; and Bahrain is a city under military control.

However, it is very hard to say how long recession will last in all these countries. More likely they will first be joined in their misery by other countries. The UK is perilously close to another recession, so must be Greece, Spain and Ireland. US growth is also much lower than it should be after the massive bailouts and money printing.

That financial markets remains relatively strong with this outlook is either encouraging or madness.

Certainly several hundred protestors have been arrested, and several sentenced to death for killing security forces. British expatriates were told to leave at an early stage of the protests that ended in a violent military clampdown with the arrival of security forces from Saudi Arabia and the UAE, albeit at the request of the government.

Demolished Pearl

Bahrain’s Pearl Roundabout where the protests gathered was symbolically dismantled as a part of the crackdown. It is also a metaphor for the impact on the local economy.

The tourist trade has been at a standstill during this period with hotels virtually empty. Many foreign bankers left the city which is a regional financial hub and some with families moved to nearby Dubai.

The question now is whether ‘business friendly’ Bahrain can get back to business quickly. That is less certain. Foreign banks are prevented by insurance considerations from putting their staff at risk, and they may be unwilling to return anyway.

Tourists from Saudi Arabia who come to party at the weekends may be persuaded back. They have found alternatives like Dubai a bit expensive. But if there are still tanks and soldiers on the streets they may not like Bahrain either.

Business implications

Besides everybody in the region is still asking what all this unrest means in the long run. Can it all just be brushed under the carpet as though it never happened? If that is what Bahrain is trying to do then this will be an interesting experiment to watch.

Bahrain is obviously already in a deep recession this year as a consequence of the unrest and state of emergency, and getting out of such a deep hole is going to be difficult.

GCC aid of $1 billion a year is already promised and will clearly help to kick start the local economy. However, there are limits to what handouts can achieve, and they are no substitute for genuine business activity which will much harder to revive.

Yesterday it was revealed that Deyaar, Dubai’s second largest property developer had sold property and land worth $600 million to a ‘related party’ thought to be the Dubai Islamic Bank which has a 40 per cent stake in Deyaar. Dubai Government has a 30 per cent controlling stake in the DIB.

Changing strategy

That still left Deyaar with a thumping $625 million loss for the year. Analysts said Deyaar would now be mainly a management company for its 14,000 units, and speculated that the DIB might be buying the assets for its real estate investment trust joint venture.

Only a few months ago Dubai’s third largest property developer, Union Properties was bailed out by a fire sale of its Ritz-Carlton Hotel in the Dubai International Financial Centre for $400 million to a still unnamed Abu Dhabi buyer.

Earlier this week Dubai jewelry giant Damas signed a $817 million debt restructuring agreement with its 25 creditor banks. This followed the scandal last year when the founders were fined for ‘unauthorised transactions’ involving two tons of gold and $99 million in cash.

But the banks will take priority over shareholders’ dividend payments for the next five years, though Damas only made $1 million profit last year anyway.

Investment opportunity?

For potential investors recapitalizations are always an interesting moment to weigh up a company. If the banks overdo it then there is the possibility of a rapid turnaround, and the shares are underpriced. If the banks have not taken sufficient action then there could be a second day of reckoning and even more pain for shareholders.

So it also comes down to making an assessment of the recovery prospects of Dubai as much as the recovery prospects of individual companies and their new strategies.

The next issue of the ArabianMoney newsletter will consider in detail how the outlook for Dubai is stacking up and whether shares in this city are really cheap or just marking time before another leg down.

(Subscribe here today to get the full story)

But there was a further delay for the trade creditors of real estate development subsidiary Nakheel who will have to wait until mid-year. Last year Nakheel’s trade creditors were offered 40 per cent cash and 60 per cent in a sukuk bond paying a 10 per cent return. Many are struggling with cash flow problems because of the payment delays, and hope payment will not now slip until after Ramadan.

Bank creditors get $4.4 billion over five years, and $10.3 billion over eight years at a fixed rate of 2.4 per cent. There is no haircut in terms of lost principle but clearly the banks have a write off to make for lost interest.

PR disaster

December 2009 saw the so-called Dubai debt crisis when a public relations disaster meant that a decision to suspend the debt was made in advance of a long public holiday, leaving the media to speculate on the fate of Dubai. In the event Abu Dhabi speedily came up with $20 billion to keep Dubai solvent, albeit in low-interest bonds that will have to be repaid.

Fittingly the final debt sign-off announcement was also poorly handled in terms of PR, with journalists confused about the difference between the deal with the banks and the continued problems with the Nakheel creditors.

How much debt is now left to be sorted out is not exactly known. But the IMF ballpark figure is around $110 billion for all government and government related debt. That is a substantial sum for a city the size of Dubai but then again this debt has to be set against the equity value of the assets owned by the government.

These include Emirates Airline  (about to report a $2 billion profit for 2010), Jebel Ali Free Zone (one of the world’s largest ports), listed global port operator DP World and Dubai Aluminium (worth $39 billion if valued like rival Alcoa). The real estate of Dubai is also worth many hundreds of billions (think of the value of the government’s hotels alone), and the airport is busier than Frankfurt’s.

Cash flow strong

The cash flow form these businesses is huge and perfectly able to support the remaining debt. Being one of the world’s premium hub cities, and the only one in the oil-rich Persian Gulf has its advantages as does being a part of a federation that includes Abu Dhabi, arguably the richest city in the world.

Was the Dubai debt crisis all a media invention to fill the dull run up to Christmas? Well actually no. But after the real estate bust of October 2008 it should have been less of a shock. That it is now passing into the history of the emirate will be welcome both to business and the investment community.

The cold logic of the market analysts is that Libya is a minor player in the oil market, while the unrest in Bahrain is a potential catalyst for a breakdown in law and order in Saudi Arabia.

Shia majority

Since abandoning its crackdown on protestors amid widespread international condemnation, the Bahraini authorities have embarked on a high-risk strategy of negotiation. The crowds of dissatisfied shia citizens have grown, and the UK newspaper notes that 70 per cent of the population of the 800,000 population are shia, hardly a minority issue.

The Bahrain shia is apparently split into at least two factions, and the leader of the more extreme faction is due to stage a return to Bahrain shortly. That poses a dilemma: arrest him and the opposition is united in his defence; leave him alone and he may also establish his authority.

ArabianMoney is not interested in politics, except where it impacts on business and finance. In the case of Bahrain as a regional financial and business centre we can therefore hardly ignore this. Indeed those Gulf States stopping their own local media from commenting on Bahrain are making a big mistake.

Letting the media have its say is a much better way to let off hot air than to wait for the crowds in the streets. Debate might not be democracy but it does make people feel involved and words never really hurt anybody.

The Gulf States need to offer big concessions to their disaffected shia now, or Bahrain will lose its wealth, and the shia will be left with whatever remains. In the meantime we cannot be surprised that oil analysts look at what the more extreme scenarios might mean for these are rising from the ranks of the least to most probable outcomes.

Supply crunch

Even without a change in the status quo in the Oil States this whole episode is going to put back exploration and development plans at a time when the world is known to be coming up to a supply side crunch in energy markets. It is all a formula for much higher oil prices, and sooner rather than later.

Financial markets whose bullish sentiment is erected on low inflation and low interest rates are about to find out just what happens when both inflation and interest rates take off.

The blood letting in financial markets of the past few days are as nothing to what lies ahead, and the Fed has set us all up for a massive fall by pushing markets so far ahead of where they should be.

Goldman Sachs had it right earlier this month when it said there was nothing worth buying (click here) though it told investors to buy European stocks a week later – a regrettable error perhaps. Volatile markets can make monkeys of even the brightest insiders.