On the Markets 9 Feb 2010

• Overnight, the Dow broke the 10,000 points psychological barrier for the first time in 3 months, falling 103.84pts to 9908.39pts. The market was led lower by financials which saw a decline of 2.2% led by names like Bank of America, on lower earnings visibility. The KLCI today opened lower -0.65% to 1227.25, while the rest of Asian market’s trading is mixed.
• On macro terms, the global economic outlook is improving: moving from recovery to expansion phase. Equity markets which have seen significant gains since last year on high liquidity from the stimulus plans introduced by governments worldwide, are now pricing in the Fed’s and other central banks tightening their purse strings. Hence, we can continue to expect equity markets to be choppy up ahead.
• However, on the longer term, the secular trend is still intact: we are in the expansion phase with the possibility of a full-fledged business cycle expansion later this year. Profit growth for companies in US and globally should be robust with GDP forecasts of 1-2% for US and 6% for developing markets in 2010. We continue to emphasize the preference for equities over cash and bonds at this juncture.
• Going forward until we see clear signals of a rate hike in the US and other developed markets, be prepared to endure volatile markets. Although central banks in developing economies like China and Australia in Q309 have started to raise interest rates, it is still at accommodative levels.
• The Feds and the ECB are likely to move rates up in 2H 2010. Clear signals of a hike from the Feds are not yet evident at this point from its policy statements. Equity markets are likely to see impressive returns before the 1st hike: 1-yr average returns before the hike historically have been in the teens, while 1-yr average returns after the hike it averages 8% and 12% for US and global equities respectively.
• We believe the globalization secular trend is also in tact: with every bust comes a boom, and this will be no different in emerging markets like China, post-2008 financial crisis. MSCI Emerging markets earnings growth is forecast to be 28%, and MSCI World is +28% providing a strong basis for stock valuations going forward. Forward P/E are near historical levels globally but inflation and interest rates are well below historical levels at this point. Stocks continued to be preferred as valuations do not appear stretched.
• Sentiments which are contrarian indicators suggest that investors are still less than bullish (i.e. we are not close to the top of cycle). Generally low confidence in the market equates to market bottoming while euphoria signals a top. Although investor confidence has improved over last one year, we are not yet bullish. In U.S, latest survey of investors confidence reveals that 35% are bullish while 37% are bearish; the 2% different is not significant to point to markets being at the peak.
• In terms of asset allocation, we maintain the views presented earlier this month, with an increasing allocation to global equities and other risky asset. Given that the low cash yields currently and higher upside in equities, bonds and cash remain underweight.
• For equity: the preference continues to be for emerging markets vs. developed markets, with India and China leading the pack. The scenario of a two speed growth in 2010 & beyond for emerging countries/developed countries of 6% and 2% respectively provides support for this view.
• In terms of alternatives, commodities should continue to do well with the robust growth expected in emerging countries. Energy and resources rich countries like Canada and Australia would be main beneficiaries of the continual strong demand from its major consumers namely, China and India.