1st Quarter of 2012 in Summary

After an inspiring first quarter, investors across the board are now on the lookout for what may be yet another sell off. The FTSE 100 - the UK's leading index of shares - ended the first quarter of the year up 3.5% - wiping out about two-thirds of the losses investors suffered in 2011. The Dow rose 994 points, or 8.1%, and the S&P 500 rose 150.87 points, or 12%, during the first three months of 2012, amid signs of a strengthening US economic recovery. However, 2010 and 2011 both similarly saw an early rally in the markets which was then followed by a dramatic downturn which begun in the spring.

With Chinese growth looking increasingly uncertain and the Eurozone crisis festering quietly in the background, investors are beginning to be wary of the second quarter despite having the comfort of accommodative central banks to reassure investors.

Central banks are performing balancing acts as the markets remain fragile despite current cautious optimism. The current rally in risk assets seems due to the liquidity provided by central banks, and a withdrawal of liquidity or even a slight increase in interest rates would trigger a sell off. As governments make progress towards restoring sound fiscal positions and implementing structural reform, they will have to move cautiously in order to maintain the delicate growth picture and contain the European crisis, as well as being wary of contagion.

European equity markets rallied following the cheap Euro and diminishing bad news, however these countries are likely to experience a mild recession in 2012. The US, on the other hand, has been showing some strength in terms of technicality and this is supporting their equity markets. As far as the US is concerned, inflation is an important factor; however a broad-base rise in core inflation over 3% seems unlikely at least until the economy is closer to full employment. An oil shock would temporarily increase inflation, but this will be a technical increase and will stop growth even before it affects inflation.

Emerging markets were one of the worst performing sectors in 2011, falling over 20% in comparison to the US markets which reported a 2% gain. The MSCI Emerging Markets index reported a first quarter gain of 13.2%. In terms of opportunities, it appears that last year’s worst-performing emerging markets (India and Russia) are turning out to be this year’s best performers with the iPath MSCI India index and Market Vectors Russia index both reporting quarterly gains of 21.1% and 15.9% respectively. However, they are still far away from the 2010 closing levels, and to get back to these levels the Indian stock market would have to rally another 37.6% and the Russian markets would need increase by another 22.7%. This represents opportunity which comes with high levels of risk!

Going Forward

 

Recent job number reports from the US showed that the private-sector non-farm payrolls for March rose by a disappointing 121,000 on a seasonally adjusted basis. This number was far below what most economists expected, as in the previous 3 months payroll employment had risen by an average of 246,000 per month. However, the unemployment rate still managed to slip a bit to 8.2% last month from February's 8.3%, but this is meaningless in context with the latest evidence of weak job growth. This causes a sense of déjà vu, as last year’s slowdown was spurred by a substantial rise in initial jobless claims in April 2011 – however so far there seems to be no signs of trouble in the claims data.

On a positive note, the US is now in its third year of expansion and is better equipped to overcome a slowdown in Europe and rising fuel costs. Growing sales and profits may give business leaders the confidence to take on staff at a faster rate than last month and may prove that the March setback in hiring was temporary.

The latest Eurozone PMI manufacturing data for March painted a bleak picture for some Eurozone states. French manufacturing slumped to a 33-month low last month of 46.7, moving below the 50.0 level that separates growth from contraction. Overall manufacturing in the Eurozone slipped to a three-month low of 47.7 in March, down from February’s 49.0. Moreover, in the recent Spanish bond auction, the government only managed to sell €2.59bn worth of debt – well short of the maximum target of €3.5bn. This reignited the Eurozone debt crisis causing all major European stock markets to fall over 2%.

 

The failure of the Spanish bond auction may be caused by official unemployment rates released earlier in the week indicating Spain's unemployment rate to be 23.6% rising from 23.3% in January. The only European countries which reported a decline in the unemployment rate were Germany and Finland.

Emerging markets continue to look attractive, however as mentioned earlier, this sector comes with high levels of risk as they are high beta and sensitive towards market sentiments.

Bonds and Mixed Assets remain the core portion of our portfolios, enabling us to achieve attractive gains though we are cautiously positioned.

 

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