Global Markets Weekly - 7th April 2008

• The rally in riskier assets continued, led by financials....
  Last week saw a continuation of the rally in riskier assets which started around the time of the Bear Stearns bail-out three weeks ago. The S&P 500 was up over 3% on the week, with much of the gain coming from the financials sector. As the principal driver of the rally is the easing of the more extreme fears about the banking sector’s solvency, emerging markets – traditionally high-beta plays on
  developed world markets – have marginally underperformed.
• …as investors' concerns about the banking system abated.
  So the improvement in equity market sentiment is not due to a recovery in expectations for growth but to a reduction in worries about downside systematic risk. As our aggregate risk appetite indicator shows (see next page), concerns have eased over recent weeks, but investors are still far from optimistic.
• US manufacturers remain fairly upbeat, as the weak dollar has boosted exports.
  Business confidence has been more robust. The widely followed Institute for Supply Management (ISM) index in the US rose slightly in March. The breakdown of the survey shows that manufacturing continues to benefit from strong export demand, thanks to the weak dollar. So, for all their talk of a strong dollar policy, US policy-makers are unlikely to want to remove this one remaining source of robust growth. And the dollar’s continuing weakness against the currencies of its main trading partners suggests that investors are well aware of the US’s lack of motivation to address this issue.
• US authorities are acting to ease the impact of tighter credit on the economy...
  Despite the rally in riskier assets, liquidity conditions worsened last week. The spreads payable in inter-bank lending rates remain below the wide points reached in late 2007 but have moved steadily higher over the past month. The emergency liquidity provided by the Fed and the European Central Bank make it almost impossible for these tight conditions to cause a bank failure on the scale of Bear Stearns. Nevertheless, tighter credit will hurt the broader economy. In the US, policy-makers have sought to offset this impact by easing the capital requirements and terms under which Fannie Mae and Freddie Mac – the two government-sponsored mortgage issuers – can make secured loans to home-owners.
• ...whereas conditions in the UK are deteriorating rapidly.
  The UK has undertaken no such off-setting measures. The Bank of England’s credit conditions survey showed a sharp restriction in credit availability, and some UK banks have jacked up mortgage rates to discourage new business or have even explicitly closed their doors to new borrowers. As a result, mortgage approvals have slumped to their lowest level since the early 1990s. The current level of activity in the UK housing market is already consistent with a moderate annual decline in house prices, and this situation is likely to get worse before it gets better.
• With a recession impending in the US, we remain wary of riskier assets...
  Over coming months, we expect economic data to reflect the increasing impact of financial market turbulence and tightening credit conditions on the real economy. If, as we expect, the numbers point to a US recession, that will hit earnings expectations and so could push equities lower. Certainly, the potential for earnings upgrades at the start of a US recession is limited, so the balance of risks remains in favour of being short riskier assets.
• ...as we expect economic data to worsen further in the near term.
  Currently, investors are understandably relieved that we appear to have avoided a destructive hurricane of bank failures. In our view, however, the macro-economic weather still needs to get worse before the clouds hanging over financial markets can clear for good.

Indices, Interest rates and Inflation

	Close 04-Apr-08	1 Week%	1 Month%	3 Months%	YTD %
FTSE ALL Share	3,040	4.1	2.8	-5.7	-7.5
FTSE 100	5,947	4.5	3.1	-6.3	-7.9
S&P 500	1,370	4.2	3.3	-2.9	-6.7
Nasdaq Composite	2,371	4.9	4.9	-5.3	-10.6
DJ Stoxx (Europe)	361	3.8	4.3	-10.1	-13.0
Nikkei 225	13,293	3.7	2.3	-9.5	-13.2
Hang Seng	24,265	5.0	5.0	-11.8	-12.8

Official Rates (%)				Inflation (%)	Rate announcement
	Current	Jun-08 Forecast	Sept-08  Forecast	Current	Next Date
US (Fed Funds)	2.25	1.50	1.50	4.0	30-Apr
UK (Base rate)	5.25	5.00	4.75	2.5	10-Apr
Euro-zone (Repo Rate)	4.00	3.75	3.50	3.5	08-May
Japan (Call rate)	0.50	0.50	0.50	1.0	08-Apr

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