UAE. Markets have enjoyed a strong quarter. Global equities have risen 11%, strong gains in banks and technology shares (apple +50%) have provided a boost to the markets. Japan was the strongest equity market up 19%, although gains were less in dollar terms as the yen came under pressure.
Developed market government bonds by contrast had a mixed performance. US government bonds gave a -1% return as yields rose to reflect the stronger economic data. However some bond markets have continued to perform well US high yield bonds gave a return of 3.2%.
Higher markets don't however mean significantly higher convince in the future. Some investors bought early but many have remained skeptical and most were reluctant buyers as markets rose. Confidence remains fragile but that won't necessarily stop the markets from making further progress. With recent economic data more moderate it will remain the driver of liquidity that will provide the mainstay of support for the markets.
The major challenge to the markets in the coming quarters is the performance of the euro zone. Ministers have agreed at their latest meetings to set up a war chest of €800 billion to support any euro zone country that may struggle to get access to the financial markets to raise capital. However, the sum falls short of the €1 trillion the markets wanted to see.
Spain and Italy alone need more than 800 billion to fund their bond issuance over the next three years market sentiment is not helped when official EU reports still paint a poor picture when it comes to the outlook for the debt crisis.
Leaked EU reports allude to the fact that the underlying problems of the crisis have still not been resolved and that the financial sector still needs shoring up. The Spanish government against the backdrop of a general strike introduced an austerity budget that looks for cuts of €26billion in its budget deficit in the coming year.
Even though the measure will inflict significant pain on the economy with a for example 16% cut in government spending e on its still believe that the cuts do not go far enough. S&P this week also alluded to the potential need for Greece to further restructure its debt in the future. The eurozone will remains a dark and threatening cloud over the markets.
Offsetting the woes and fears of Europe is the still plentiful amounts of liquidity that central banks still commit to the markets. Federal Reserve Chairman Ben Bernanke outlined in a speech that the Fed is still concerned at the outlook for the US economy and remains committed to providing further monetary stimulus to economy should it need it.
Just a few weeks the markets were starting to discount an early rise in US interest rates - something the Fed is clearly not comfortable with. To our mind Ben Bernanke is just talking sense, the US economy has still many challenges ahead of it not least major fiscal tightening in 2013 when taxes are likely to be raised and government spending cut. Monetary policy will have to remain accommodative with interest rates close to zero and the Fed providing ample liquidity for the markets.
Low interest rates and floods of liquidity are the mainstay of the current rally in risk assets, Ben Bernanke is committing the Fed to maintaining support for buoyant markets.
At least some parts of the Eurozone remain vibrant and competitive. This week I have had the pleasure of spending a few days in Munich Germany. Munich the capital of Bavaria has always had its place at the luxury end of Germany however the feel of vibrancy in the local economy also reflects a broader confidence in the country.
Munich city centre is a vibrant place with upmarket shops displaying the highest quality goods from around the world but also the very best of German manufacturing. I didn't see one vacant retail property. Encouragingly strong German retail spending can help the rest of Europe, imports of Spanish wine are up 20% year-on-year. Munich is buzzing as is Germany. The unemployment rate has fallen to 6.7% of the working population, the lowest level since reunification in 1990.
18,000 people found work in just the last month. There is a huge contrast with woes of Spain where the unemployment rate is heading for 26% and youth unemployment is 50%. Germany gets it right; productivity growth is consistently strong, the economy is managed with prudence and it delivers where it promises. German equities and the German economy are likely to continue to offer long term investors good returns.
As we peer into the second quarter we see more modest returns but still upbeat markets. There are challenges; after the strong start to the year we suspect that growth will moderate. Investors are nervous and any sign of trouble and investors may be prompted to take their profits and hide back in cash and bonds. We remain committed to the emerging markets where are favourite market remains Russia and China looks interesting after its recent setback.
Emerging market debt will remain well supported by the flood of liquidity chasing yield around the world. Local markets should remain well supported by the low dollar interest rates and high oil prices. We see increased international investment in the MENA region providing a good prop to the markets.
We continue to urge investors to invest prudently, buying into any weakness and maintaining a good balance between cash equities and bonds. At different stages of the next quarter we believe you will need all three asset classes.