Investment Focus - Issue 33 - January 2010

UK

 

• Set against UK public finances being in their worst state since World War Two, Alistair Darling delivered his third PBR on Wednesday 9 December 2009. The attached Legal & General Profile highlights the main points as they affect investment and retirement provision.
  Click here to view the Profile
  
  
  In a widely-expected move the Bank of England’s Monetary Policy Committee voted unanimously to keep interest rates on hold at 0.5%. It also said it has no plans to change its quantitative easing programme, which was increased by £25bn to a total of £200bn in November. 
   
• Higher petrol prices helped push up UK inflation by more than expected in November. The consumer prices index rose to an annual rate of 1.9%, from October’s 1.5%. Meanwhile, the retail prices index, which includes housing costs, increased from -0.8% to 0.3%.
  
  
• The rise in unemployment in the UK continued at a slower pace with an increase of 21,000 between August and October, the smallest rise since the period from March to May 2008. Office for National Statistics (ONS) figures show the jobless total has now reached 2.49 million with an unemployment rate of 7.9%. However, the number of unemployed 16-to-24 year olds rose to 952,000, the highest figure since 1992 when records began.
   
  
• Revised figures from the British Chambers of Commerce show the UK economy shrank 0.2% during the third quarter, compared to previous estimates of a 0.3% contraction. The data confirms the recession has yet to end, but analysts have forecast that the economy will return to growth in the fourth quarter.
  
  
• The ONS reported that the UK’s trade deficit with the rest of the world widened to 3.2bn in October, compared to 3.1bn in September. Considering the weakness of the pound, making foreign-made goods more expensive in the UK, the rise in imports over exports had not been expected by analysts. 
  
  
• Public sector net borrowing in the UK climbed to £20.3bn in November, the highest figure since records began in 1993, but less than the £23bn experts had predicted. ONS figures also showed that public sector net debt hit a record £844.5bn during the month, or 60.2% of UK annual GDP.
  
  
• According to the ONS, UK retail sales suffered a surprise fall of 0.3% in November from the previous month when sales were up 0.6%. The pound fell to a two month low following the news.
  
  
• The Society of Motor Manufacturers announced a 57.6% rise in UK car sales in November, from a year earlier, with 158,082 cars being registered. November 2008 was a particularly poor month but the scrappage scheme has helped boost sales this year.
  

• Nationwide Building Society reported a 5.9% rise in UK house prices in 2009, a considerable improvement from 2008 when house prices fell by 15.9%. The average cost of a home rose for the eight consecutive month in December and now stands at £162,103. Despite the recovery, Nationwide said it expects little change in house price movement for 2010.
  
  
• The board of the UK Payments Council has announced that cheques will be phased out by October 2018, as long as adequate alternatives are developed. This will encourage the use of other forms of payment and draw an end to cheques after 350 years of use.
  
  
• A record £82.5bn was raised from investors in 2009 by companies listed on the London Stock Exchange; this is up 16% from 2008 and was largely due to some of the biggest rights issues launched by banks during the year.
   

  
Global
 

• The European Central Bank announced plans to withdraw some of its cheap short-term loans that were introduced to support the economy. The Bank also decided to keep interest rates at their 10-year low of 1%.

  
  

• Eurozone’s annual inflation rate for November turned positive for the first time in seven months with consumer prices rising 0.5%, impacted by a rise in energy costs.
  

   

• Standard & Poor’s has downgraded its credit outlook for Spain from stable to negative. The ratings agency said it expects the country to experience further declines in public financials and that the weakness of the country’s economy will continue for longer than it previously thought. Three major rating agencies, Standard & Poor’s, Fitch and Moody’s have downgraded Greece’s debt rating. At the same time, the deputy finance minister of Greece Philippos Sachinidis announced the country’s debt had hit £272bn, the highest level in its modern history; the Greek parliament has subsequently voted for large budget cuts and is preparing an economic plan for the European Commission to consider.
  
  
• After becoming the first eurozone nation to enter recession last year, Ireland’s GDP grew 0.3%% during the third quarter meaning it has now emerged from recession. However, compared with the same three months last year, GDP contracted 7.4%, but this was better than the previous quarter’s year-on-year drop of 7.9%. 
  
  
• Italy’s tax amnesty to bring funds held illegally overseas back into the country has been a huge success yielding some £86bn so far.
  
  
• Public debt in France rose to a fresh high of 76% of economic output as a result of increased state spending during the economic downturn. According to the national statistics office INSEE, government debt hit £1.3tn at the end of September. 
  
  
• The world's longest-running trade dispute has finally drawn to a close after the European Union agreed to cut tariffs on banana imports. The deal will benefit banana producers in Latin America who hope the lower EU import tariff with make them more competitive with producers in Africa and the Caribbean, who pay no tariff.
  
  
• As had been expected, the Federal Reserve held US interest rates at their record low level of between 0% and 0.25%. The announcement came despite signs that the US economy is recovering and led to the government reiterating that they expect rates to remain low for some time. The latest US GDP estimate was revised downwards from 2.8% to 2.2% for the three months to September. Meanwhile, US President Barak Obama urged banks to increase lending to small and medium-sized businesses.
  
   
• The US Treasury has unveiled plans to extend the £425bn US financial bail-out fund until October 2010. The scheme was due to expire at the end of the year but has been extended ‘to assist American families and stabilise financial markets’.
   

• The unemployment rate in the US fell to 10% in November, from October’s rate of 10.2%. The Labor Department figures showed the lowest number of job cuts since the recession began in December 2007; there was a total of only 11,000 jobs lost during the month, far less than the 130,000 experts had predicted.
  
  

• Helped by the weak dollar, US exports for October rose to their highest level in nearly a year causing the US trade deficit to narrow unexpectedly to £20.2bn, down 7.6% from September’s revised figure of £21.9bn.
  
  
• The Commerce Department reported US retail sales biggest rise in four months of 1.3% in November, more than the 0.7% increase analysts had been expecting and better than October’s gain of 1.1%.
  
  
• The sale of new homes in the US suffered a sharp fall in November, down 11.3% to an annual rate of 355,000 homes from October’s revised figure of 400,000.
  
  
• Japan has approved a stimulus package worth £48bn to be used to prevent the country’s economy from falling back into recession. Meanwhile, Japan’s central bank said in a statement that it promised to fight deflation and announced that interest rates would be kept at 0.1%.
  
  
• Japan’s economy grew for the second quarter in a row during the third quarter of the year; however this was revised down to an annualised rate of 1.3%, considerable lower than the initial estimate of 4.8% growth.
  
  
• Japanese exports dropped 6.2% in November, from the same month in 2008. This was the smallest decline in 14 months and considerable better than October fall of 23%.
  
  
• Despite the ongoing effects of the global downturn, China’s government has said it is targeting economic growth of 8% in 2010. This has been the country’s targeted growth for the last few years and has yet to fall short.
    
   
• Chinese industrial output jumped 19.2% in November year-on-year, its best performance since June 2007. With the slump in exports easing, it is further evidence of economic recovery in China. Consumer prices also increased in November from a year earlier; the rise of 0.6% was the first growth seen in 10 months.
  
  
• Car sales and production in China both climbed above 12 million from the start of the year to the end of November. It is now expected to reach 13 million for the full year, making it a record high as China has never produced more than 10 million cars in one year before.
  
  
• Australia’s jobless rate dropped unexpectedly to 5.7% in November from 5.8% in October, continued signs that Australia’s economy is recovering. Analysts have lowered their forecasts for Australia’s interest rate to 4.5% in 2010, from initial predictions that it would rise to 5%. This came after a statement from the country’s central bank said they were ‘back in the normal range’.
  
  
• Abu Dubai is providing its United Arab Emirates neighbour Dubai with financial aid of £6.13bn to help pay off its debts. It has agreed that £2.5bn of the loan will be used to bail out the government-owned investment company Dubai World.  
  
  
• The World Bank has announced its largest loan to Vietnam of £313m. The South East Asian country will use the money to strengthen its public investment reforms programme. It was later reported that Vietnam’s economy expanded 6.9% in the final quarter of 2009, its fastest rate in two years thanks to government spending.
  

 

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Dates for your diary
 

 

• 6 January – Bank of England monetary policy committee meets to set interest rates. 
• 14 January – European Central Bank meets to set interest rates.
• 26 January – The Federal Reserve meets to set US interest rates. 

 

A Stock Picker’s Market

 

 

Looking to 2010 – A view from Legal & General Investment Management

 

 

The global economy has come out of intensive care during 2009. After enduring a global recession, credit crisis and a synchronised financial market meltdown, we are now experiencing a very different investment backdrop. Governments and central banks throughout the developed world have injected the global economy with huge sums of money, the economic data has begun to improve and financial markets have responded with enthusiasm.

 

 

Equities

 

 

Policy rates remaining on hold throughout 2010 will, we believe, provide strong support for equities. However for markets to make meaningful progress, investors will need to see evidence of sustainable economic growth in order to absorb comments by policy makers surrounding exit strategies and a gradual removal of liquidity from the financial system.

 

Against this backdrop we believe there are two key opportunities for equity investors. Firstly, in a world where interest rates remain low for an extended period of time, areas of the equity market offering a yield premium are a great investment opportunity. Twelve months ago the dividend yield on the UK market reached over 5%. This looked fantastic, however at the time we believed this level of dividend yield was not sustainable. After falling 20% over the course of this year, the dividend yield in the UK is now around its long-term average of 3.25% to 3.5%. We now believe this yield is sustainable into next year, with a number of companies either growing or reintroducing their dividends over the next few months.

 

Another theme which clearly emerges from our macroeconomic outlook is a focus on the East for revenue generation. However this does not only mean that equity markets in the Emerging Market region will hold up fairly well. Investors should ensure they have revenue exposure to the higher growth potential from developing economies. This can be achieved through their developed market exposure either via individual stocks or sectors.

 

These two themes support a positive stance on larger, blue chip stocks. The FTSE 100 offers a higher dividend yield over the smaller companies index. In addition larger companies have a higher proportion of their revenue generated overseas, which will take advantage of our higher than consensus view on Emerging Market economic growth.

 

 

Fixed income

 

 

Government Bonds

It seems unlikely that the UK market will be able to absorb the huge amount of new issuance likely to occur over the next few years without higher yields. We don’t expect the BOE to sell any of its gilt holdings over the next couple of years as this would probably prove disruptive to the market. Much hinges on the fiscal plans presented by the next government. They will need to be credible to prevent a more abrupt move higher in gilts.

 

 

Corporate Bonds

For credit to perform well in the coming year, we need to maintain an economic goldilocks scenario of ‘not too fast and not too slow’. If interest rates rise rapidly under a strong economic rebound, all bond assets will come under pressure. On the other hand, a double dip recession could undermine investors’ fragile risk appetite, leading to credit underperforming cash and government bonds. Broadly, the outcome we believe most likely in 2010 treads a middle ground, allowing us to be constructive on the outlook for credit. But we do not expect an easy ride and investors need to be ready to take advantage if conditions change throughout the year.

 

 

Cash

With the global economic recovery gaining traction, optimism over the outlook for corporate earnings has continued to underpin investors’ appetite for risk over recent months. However, recent  concerns over some southern European countries’ finances in the wake of a surprise default by a leading state-controlled Dubai company, coupled with debate over whether the global economic recovery is yet sustainable without massive government-backed support have raised questions over whether the risk-based rally has been overdone. We retain our view that the UK economy will return to growth in the near term, though we believe that the prospect of tighter government spending, rising taxes and stretched consumer finances will act as a brake on economic activity in 2010.

No responsibility can be accepted by Legal & General Investment Management Limited or any of its employees for harm suffered by any person as a result of relying on the general information or views contained in this article. The views expressed in this article are not necessarily those of Legal & General Investment Management Limited and Legal & General Investment Management Limited may or may not have acted upon or in accordance with them.

 

Please note that the value of investments can fall as well as rise and past performance is not a guide to the future. Investments into funds, which include overseas equities and bonds, involve exposure to a currency other than sterling. Investors are warned that changes in the rate of exchange prevailing at any given time may cause the value of investments in those funds to go down as well as up.

‘Fundamentals’ is a Legal & General Investment Management monthly publication. It includes topical investment related articles together with views on the major world economies and markets.

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The Dow Jones continued on its upward trend and finished 2009 on 10428.05, up around 20% over the year.

OPEC oil producers left output targets unchanged. Saudi Oil Minister Ali Naimi said ‘At between $70 and $80, everyone is happy. The current price is good for consumers, producers and investors’. Oil finished 2009 at $79.31 a barrel.  

The weakness of the US dollar contributed to gold jumping to a new all-time high as investors continue to see the metal as an attractive investment. Gold finished the month on £1177.7 an ounce.

Generally disappointing UK economic data led to the pound falling against the dollar during December. It finished 2009 at $1.59.

Source - Datastream

Past performance is not a guide to the future performance.