Market View - February 2010

Bull markets supposedly climb the walls of worry, while bear markets will ignore even the most positive data flurry!

January saw a return of market volatility and uncertainty as worries over a Chinese bubble and a Greek tragedy amongst other things unsettled bond, equity and currency markets! However many commentators would have expected the S&P 500 to rally at the end of the month on the back of the surprise fourth quarter US GDP numbers showing the economy expanded by almost 6%, a full 1% more than analyst forecasts.

Instead the US equity market fell almost 1% on the last trading day of the month and 3.7% overall in January, while in the UK, the FTSE 100 fell more than 4% despite the economy officially becoming the last G20 country to emerge from recession with growth of 0.1% in the last quarter of 2009. Emerging market indices also disappointed during the month with the MSCI EM index falling 5.6% since the start of the year.

2010 had started brightly for global equity markets, but by mid month uncertainty had returned following the announcement by the Chinese authorities that they were tightening bank lending.  Subsequently in just three short trading days, three months worth of equity market gains were wiped out in London, New York and other major markets, while the Greek sovereign fiscal deficit concerns threw bond and currency markets into turmoil as the market speculated as to whether in the worst case scenario, the Euro would unravel.

Inevitably, the US dollar which until recently had appeared to be in long term decline due to the extent of the US current account deficit (which is expected to be $1.6 Trillion in 2010) was a major beneficiary of the flight to safety. Suddenly the global equity bull market which had gained 70% from the lows of March last year looks increasingly vulnerable to the combined headwinds of Chinese overheating and Greek debt meltdown.

In the longer term the decision of the Beijing authorities to temporarily stop the banks lending, and raise the reserve rate requirement by half a percent (an action replicated by the Reserve Bank of India on the last Friday of the month) will probably come to be seen as having been prudent, and help slow the dramatic increase in property prices seen recently in China’s major cities. However shorter term, the market’s confidence in the global recovery’s ability to continue without full scale Chinese expansion has been dealt a severe blow with the reverberations being felt far and wide including in the commodities market where both oil and base metal prices dropped sharply.

Markets were struck an additional blow when US President Barak Obama announced new measures to try and restrain US banks from speculative lending and trading. Banking stocks fell sharply as the market weighed up the potential impact of the proposed measures if approved by Congress, although many commentators questioned the government’s appetite for taking on the highly influential Wall Street financial community.

Mounting market concerns about possible overheating in the Asian region were given further fuel by famous hedge fund manager James Chanos who suggested that China may be “Dubai times 1000, or worse”, but this was repudiated by long time Chinese bull and legendary hedge fund tycoon Jim Rogers who said “I find it interesting that people who couldn’t spell China 10 years ago are now experts on China”. The Economist magazine in an excellent article titled “China’s economy – Not just another fake” was also dismissive of the concerns of a bubble but did warn that that while Chinese economic health is rather better than the pessimists would have us believe, Beijing must avoid the wrong lesson from the Japan experience by allowing the Yuan to gradually appreciate over time against the Dollar and other currencies, which should help avoid a deflationary slump.

So in the space of one short month, the tea leaves have clouded over somewhat, with some of the gloomier technical analysts revisiting their forecasts that the global equity bull run that began nine months ago is simply a bear market rally that will ultimately fizzle out and see indices plunge once more towards March 2009 lows as the impact of the fiscal stimuli which have artificially held up markets wears off. *While we remain cautiously optimistic on the outlook for global equities and reiterate our view that longer term emerging markets offer the best prospects for growth, we recognise the risks are increasing and more than ever it will pay to tread warily - be mindful of Mark Twain’s immortal line “History never repeats itself but it does rhyme” *