Global Market Overview

Last updated: July 9, 2010 11:19 pm

Equities rebound on fresh wave of confidence

Broadly positive newsflow underpinned sentiment

Global equity and industrial commodity prices staged a strong rebound this week and government bonds fell as investors increasingly took the view that recent concerns about a double-dip recession in the US had been exaggerated.

“Recent market pricing appeared to discount a stagnation of global growth and earnings,” said Larry Hatheway, economist at UBS. “Pessimism was overdone, setting the stage for some consolidation, which now appears under way.”

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Global Market Overview

Broadly positive newsflow on the health of the global banking sector underpinned the more confident mood.

Investors reacted very positively to an upbeat assessment of operating conditions from State Street, the US bank, particularly ahead of the start of the second-quarter earnings season next week.

There was also a growing sense of optimism about the outcome of “stress tests” on European banks – in spite of some doubts about their credibility.

The money markets appeared to give a thumbs- up to the tests as the euribor/eonia spread – a measure of banks’ willingness to lend to each other – hit its lowest level since August 2007.

Dan Greenhaus, chief economic strategist at Miller Tabak, said that, while the stress test details might not be “stressful enough” for the most pessimistic observers, the fact that they included effects of government bond market deterioration – not just the deterioration itself – was encouraging.

On the broader economic front, the International Monetary Fund raised its forecast for global growth this year, although it also noted that Europe’s debt crisis posed a risk to the global recovery.

Furthermore, positive comments from the Reserve Bank of Australia on the outlook for China and Latin America helped soothe recent nervousness.

News of a surge in German exports in May appeared to highlight the eurozone’s resilience – although analysts also said this week’s US data releases, sparse as they were, had offered little in the way of reassurance.

Most notably, the pace of growth in the all-important US service sector slowed last month, heightening concerns about the outlook for the labour market.

Rob Carnell, chief international economist at ING, said: “Despite a number of media headlines this week proclaiming double-dip fears over on the basis of a couple of days of positive equity performance, in our opinion fear of a double-dip or depression – or deflation – remains intense.

“The Federal Reserve has revised down its view of the economy, and the global situation is looking more uncertain.”

But Paul Ashworth, of Capital Economics, said actual double-dips were reassuringly rare.

“And when they have occurred, the downturn can be traced back to overly aggressive policy tightening,” he added.

“This shouldn’t be such an issue this time around, at least not in the US. The Fed is committed to leaving interest rates at near zero for an ‘extended period’ which, with inflation dipping below 1 per cent, could be 18 months or more.”

As expected, policy meetings held by the European Central Bank and the Bank of England this week produced no changes to interest rates and little of note for the markets came out of the ECB’s post-meeting.

Equities dominated the market headlines as they enjoyed a strong run ahead of the start of the second-quarter earnings season.

By close on Friday in New York, the S&P 500 had gained 5.4 per cent over the holiday-shortened week, having tumbled 15 per cent from its 2010 high reached in April.

In Europe, the FTSE Eurofirst 300 rose 5.4 per cent – its biggest weekly gain for a year – and the Nikkei 225 Average in Tokyo added 4.1 per cent, the best performance for seven months. The Vix index of equity volatility – closely watched as a guide to investor risk aversion – fell 5 points to 25, its lowest for nearly two weeks.

The better tone to equities was also reflected in commodities prices.

Buoyed by news of a drop in US inventories, front-month US oil futures climbed above $76 a barrel, having started the week at $73.

Commodity-linked currencies enjoyed a strong week, most notably the Australian dollar following the RBA’s comments and robust domestic jobs data.

The US dollar retreated against the euro as the improved outlook for the global economy dented haven demand for the greenback.

Elsewhere, the South Korean won rallied following an unexpected rise in interest rates.

US and German government bonds also fell from favour. The yield on the 10-year US Treasury was up 10 basis points at 3.05 per cent, having fallen below 3 per cent last week for the first time in 14 months. The 10-year German Bund yield rose 6bp to 2.64 per cent.

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