Market View

06 Nov 2007 : Consensus amongst market commentators is that the housing recession is set to run longer and deeper than everyone expected and probably only bottom in late 2008.

The most prominent theme at the moment is US Dollar weakness. The US Federal Reserve cut interest rates by another 0.25% at their meeting in late October which now stands at 4.5%. The tone of the announcement was hawkish and as a result the equity markets response was slightly muted after the initial rally.

October was a good month for markets. The JSE Allshare index ended up 4.59% for the month. This was driven primarily by financials with ICBC’s offer to purchase 20% of Standard Bank alerting investors to the very reasonable valuations of our banks relative to their international counterparts. The FINI15 was up 11.42%. The gold Index once again disappointed losing -5.93% despite the USD Gold price reaching a record $790 (and having broken $800 in November).

This can be attributed primarily to the rising cost base as well as a weaker USD. (Although the Rand price of Gold did manage a 1.35% increase). Globally markets were firmer with the emerging Asian giants leading the way. The Hang Seng index climbed another 15.5% clearly breaking through the psychological 30,000 although this area is being tested again in November as I write this.

The Dow Jones managed just 0.25% as housing issues still weigh on the broader US economy and more banks announced billion dollar plus sub prime write offs. The exception in the US was the NASDAQ (+5.83%) as technology stocks once again begin to draw investor’s attention (but this time thankfully on more reasonable valuations).

Brent crude continued higher to $90 as tensions mounted in the Middle East with Turkey on the verge of entering Iraq. Base metals were mostly softer with the benchmark, copper, losing 3.68%.

As mentioned above ICBC’s bid for 20% of Standard bank (11% from shareholders and the issue of a further 11% in shares) pushed local financials higher and allowed the FINI15 to break its recent downtrend (see above). This is a clear signal to keep a close eye on banks.

Although the recent movement is very bullish, negative sentiment is weighing on the global banking sector as sub prime write offs continue to grow. Announcements of write offs and losses of between $5 and 10 billion seem to have become daily occurrences for Wall street banks and the graph of the S&P financials index below is quite worrying.

I would therefore remain neutral on SA banks until a clear break through 10,000.

The most prominent theme at the moment is US Dollar weakness. The US Federal Reserve cut interest rates by another 0.25% at their meeting in late October which now stands at 4.5%. The tone of the announcement was hawkish and as a result the equity markets response was slightly muted after the initial rally.

Consensus amongst market commentators is that the housing recession is set to run longer and deeper than everyone expected and probably only bottom in late 2008. Although the US Federal Reserve would have you believe they are independent there is understandably a lot of political pressure on them to ensure the ‘average Joe’ doesn’t face foreclosure, especially prior to an election year.

The market therefore sees to be drawing the conclusion that despite these hawkish comments rates in the US, rates are likely to come lower and as a result we are witnessing record Dollar weakness.

This is bad for countries exporting to the US (and good for US exporters). This explains the subdued performance of European markets in October as well as Japans Nikkei.

During the course of the last month we switched out of Allan Grays Orbis fund because of the reasons highlighted above. Dollar weakness looks set to continue and Japan where the fund does have some exposure seems set to range trade for the time being (although in some point in the medium term will be quite exciting again).

I do believe that it is worthwhile having international exposure but only if there is something exciting to invest in. Due to exchange control regulations the offshore fund universe is limited for our purposes. Ideally a Euro or Yuan based fund investing in China and India ex Japan would be ideal at the moment.

The funds have been switched into Prudential’s Equity Fund run by Gary Quinn who has significant experience. The annualised return over 5 years is 35.86% with much lower volatility than the index.

At this point in time we remain fully invested. Global markets are continually being affected by US financials, US housing and its knock on effects. We still expect emerging markets to lead the way and as such South Africa should benefit although the stronger Rand will continue to weigh on the resources sector.

We expect the recent volatility to continue. Although the theory of decoupling from the US economy is bandied around more often in recent times, risk still remains high.

We will not hesitate to reduce our exposure if required but given the average historic performance over the last quarter of the year we will maintain our current exposure until we see a significant deterioration of the fundamentals and/or technicals.