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ITEM PF6E
PENSION
FUND COMMITTEE – 15 NOVEMBER 2002
OVERVIEW
AND OUTLOOK FOR INVESTMENT MARKETS
Report by
the Independent Financial Adviser
General
- The OECD leading
indicator for economic activity has come back further in recent weeks,
signalling that the recovery in economic growth is faltering.
Consensus
forecasts for economic growth have been reduced, but are still probably
far too optimistic.
| Consensus
GDP Growth forecasts |
2002 |
2003 |
| UK |
1.6% |
2.6% |
| US |
2.4% |
3.1% |
| Eurozone |
1.0% |
2.3% |
| Japan |
-0.8% |
1.0% |
- The problem is
that most growth in the developed world is being generated by final
demand, principally the consumer (who is already heavily borrowed) in
the USA and the UK as the following chart shows.
- However, US consumer
confidence is now at a nine year low, while there have been indications
that the growth in UK consumer expenditure might be slackening. The
US, and to a lesser extent the UK, have reduced interest rates sharply
and more recently have substantially increased government expenditure,
whereas the European Central Bank with its inflexible inflation target
of 0-2% has only reduced interest rates modestly, while countries in
the Eurozone are constrained from increasing government expenditure
by the stability and growth pact. Japan, the second largest developed
world economy, is still mired in recession though political gridlock.
Thus, the possibility of a double dip recession cannot be excluded.
Markets
- Equity markets
have fallen very substantially since their peaks in the year 2000, and
there has been a modest bounce since the lows of this cycle around 9
October 2002 as the table below shows.
| |
Fall
High to Low
|
Bounce
From Low
|
|
| UK |
-45% |
+
9% |
|
| USA |
-49% |
+16% |
|
| Germany |
-68% |
+19% |
|
| France |
-62% |
+15% |
|
| Japan
(Peak 1990) |
-78% |
+
4% |
|
| |
|
|
|
| UK
Techmark |
-96% |
+28% |
(but
from a
very
low base)
|
| |
|
|
|
US
NASDAQ
(Proxy for Technology)
|
-78% |
+19% |
|
- However, it is
difficult to say that the market low for this cycle has occurred with
economic recovery faltering and so pressure on profits being resumed,
and with continuing international uncertainty over Iraq. Further, while
the UK and Eurozone markets are now reasonably valued, the US market
is still overvalued on a longer-term basis as the following two charts
show.
- If the US market
falls back to a more reasonable valuation, it will inevitably tend to
drag other western markets down with it. However, some technical analysts
who study charts are beginning to call for a new bull market starting
early next year.
- Government bond
yields in the UK and USA have fallen from around 12% in the late 1980’s
to the current 4%- 4½%, as the following chart shows, and there has
been a similar move in the Eurozone.
- Unless the world
moves into deflation, it is difficult to see yields going much lower,
particularly if economic recovery becomes more firmly established next
year.
- The following
charts of individual country equity indices show western equity markets
developed an asset bubble in the late 1990’s well above the long-term
trend. As with Japan, which developed such a bubble in the 1980’s, it
may take some time for the distorting effects to be worked off.
A
F BUSHELL
Independent
Financial Adviser
November
2002
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