Worldwide: Outlook - March 2012

Last Updated: 12 March 2012
Article by Smith & Williamson


Sentiment continues to improve

The positive start to the year by global equities and commodities has continued as markets move into 'risk on' territory.

The key drivers behind markets remain improving investor sentiment, strengthening stream of encouraging economic data and the injection of liquidity keeping the global banking sector alive.

The oil price has risen to the highest level since 2008 as US and European sanctions on Iranian oil continue to add to supply concerns. In Europe, the 'can' appears to have been picked up and thrown down the road as eurozone finance ministers, private sector bond holders and Greek politicians finally come to an agreement that will see Greece receive a second €130bn bail-out package that will avoid a Greek default when €14.5bn in debt is due to be repaid on 20 March. What's next on the agenda for the eurozone? Germany is now likely to face pressure from fellow euro members, former allies and the International Monetary Fund to allow the size of the eurozone's permanent bail-out fund, the €500bn European Stability Mechanism (ESM), to increase in size and provide further support to stem the eurozone's debt crisis, a move the Bundestag have insisted is not necessary.

The US continues to provide a guiding light through continued uncertainty from all corners of the globe. While high beta, small cap stocks have outperformed recently, we continue to believe the best long-term equity strategy is one that focuses on companies with robust business models and global franchises (the New Nifty Fifty). Good quality corporate bonds will also benefit from the increased liquidity that has been driving markets.


Bank of England push the QE button

As expected, the Bank of England increased its asset purchase programme (quantitative easing(QE)) by another £50bn in February, which was voted through unanimously by all nine MPC members.

This decision was supported by inflation falling for the fourth month in a row in January to 3.6% (because QE can have an inflationary impact). However, minutes from the most recent MPC meeting were slightly more dovish than February's Inflation Report suggested with two committee members (David Miles and Adam Posen) voting for a £75bn increase. This leaves the door open for further QE, especially if inflation continues to fall back down towards the Bank of England's 2% target by the end of the year.

The release of the public finance figures in February shows Government borrowing remains on track. January's budget surplus of £7.8bn was the largest in four years, with overall public sector net borrowing falling to £120bn which is already better than the OBR's estimate for the 2011-12 financial year. While the Chancellor, George Osborne, is likely to claim his 'Plan A' is still working at next month's Budget, he is likely to face pressure from the market and industry groups to do more to stimulate growth in the economy, particularly with unemployment at a 17-year high.


Labour market gaining traction

Economic data released this month provides further evidence that two of the United States' main Achilles heels, the housing market and unemployment, may be on the road to recovery, albeit at a steady pace.

Unemployment continues to stabilise with the overall level falling to a three-year low of 8.3%, still uncomfortably high but certainly improving. Non-farm payrolls and jobless claims have consistently beaten analysts' expectations, with the latter falling to the lowest level since April 2008. More encouraging is that employment growth seems to be spread across most sectors; manufacturing jobs are up 50,000, construction up 21,000 and retail up 11,000 to name but a few.

The improving labour market conditions appear to be having a positive impact on the nation's ailing housing market. This, combined with falling house prices and borrowing costs at record lows, means we are likely to see housing activity continue to gain traction. Indeed, house purchases climbed to an annualised rate of 4.6 million in January, a marked pick up from the lows of 4.1 million seen in 2008. The US seems to be on the road to recovery.


Greek debt taken off the table, for now It looks like Greece lives to fight another day, for now at least. After countless renegotiations and growing mistrust, eurozone finance ministers and Greek politicians have agreed terms that grant Greece a much needed second bail-out package, with the ultimate goal of bringing Greece's debt-to-GDP level down to 120% by 2020.

The key hurdle has been the growing mistrust, especially in Germany, towards Greece and doubts about whether the Greek Government will honour its part of the deal and implement the tough austerity measures after elections in April. Germany has certainly been suffering from euro fatigue. Indeed, the disapproving whispers from the Bundestag have become louder and there had been growing concern whether a deal would be done at all. While the Greek debt issue may have been taken off the table for the next six months or so, the core issues of a lack of competitiveness and growth have yet to be addressed. The growing divergence between the eurozone's Northern core and Southern peripheral nations looks set to continue as the recipients of the eurozone's bail-out packages embark on years of tough austerity.


China – domestic demand needs to pick up China's export-driven economy continues to fall victim to sluggish demand from the Western world. Exports fell 0.5% YoY in January, the first decline since late 2009, while imports fell 15.3%, increasing the trade surplus to a six month high of $27.3bn. Clearly we have seen seasonal factors at work here (mainly the Chinese New Year at the end of January), however, domestic demand has been genuinely weak and exports have remained on a gradual downward trend. Given the impact of Chinese New Year on both output and inflation, forthcoming data in the next few months should show the true extent of China's slowdown.

India – economic growth slowing

Elsewhere in Asia, India's economy grew at the slowest pace in two years as domestic demand weakened and export demand remains subdued. The Reserve Bank of India has signalled its readiness to join other fast-growing emerging economies such as Brazil and Indonesia in cutting interest rates. With inflation falling to a two-year low in January and seemingly under control, the central bank will face pressure to react as India manages its own soft landing.

Japan – falling Yen easing the pressure

Despite the annualised 2.3% contraction in GDP growth in the fourth quarter, the Japanese economy has shown signs that it may return to growth this quarter. Clearly the strong Yen is exerting pressure on exports and corporate margins, the current account surplus fell to a 15-year low in 2011 shrinking 44% from a year earlier. However, we have seen a concerted effort by policy makers to control the runaway Yen and stimulate domestic demand. The Bank of Japan has increased its asset purchase programme by 10trn Yen ($128bn) and has stated it will target an inflation level of 1%. The Yen has declined significantly against the dollar recently and this will clearly benefit Japan's large exporters.

Moreover, domestically there have been further signs of improvement. Retail sales rose for the second month in a row in January, increasing by 4.1%. This was driven by a 24% increase in auto sales, a result of the Government re-introducing it's subsidy for energy-efficient cars.

Factory output rose by 2% in January as manufacturers recover from disruptions caused by Thailand's floods last year. Japanese equities continue to perform well and could drive on further if the Yen continues to decline.

Smith & Williamson Investment Management, a trading name of NCL Investments Limited (Member of the London Stock Exchange) and Smith & Williamson Investment Management Limited. Both companies are authorised and regulated by the Financial Services Authority. Disclaimer: This document contains information from sources believed to be reliable but no guarantee, warranty or representation, express or implied, is given as to its accuracy or completeness. This is neither an offer nor a solicitation to buy or sell any investment referred to in this document. Smith & Williamson Investment Management documents may contain future statements which are based on our current opinions, expectations and projections. Smith & Williamson Investment Management does not undertake any obligation to update or revise any future statements. Actual results could differ materially from those anticipated. Appropriate advice should be taken before entering into any transactions. No responsibility can be accepted for any loss arising from action taken or refrained from based on this publication. Smith & Williamson Investment Management is a trading name of NCL Investments Limited and Smith & Williamson Investment Management Limited. Authorised and regulated by the Financial Services Authority.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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