Will Global Markets Look Up?  

With the repeated hikes in U.S. Interest rates in the past two years and the soaring of oil prices, many investors have experienced mixed feelings about the outlook of the markets for the past few months. Market volatilities unleashed since May this year added on to the negative market sentiments, leading investors to re-think the potential of markets for the rest of the year. How will global markets perform in the months to come? What are the opportunities and pitfalls to look out for when investing? We spoke to Thomas Poullaouec, Product Manager of BNP Paribas Asset Management, to find out more.

Market Volatilities Unlikely to Sustain

Due to market volatilities, the MCSI World Index (S$) has, since 1 May 2006, seen a dip of 3.78% (as of 7 August 2006). According to Poullaouec, BNP Paribas had earlier predicted the market correction in the second-half of this year, and have made the necessary adjustments in their investment strategies in tune with it.

In his view, these sharp increases in volatilities, which has mainly affected markets like Asia and Europe within a very short period of time, will not be sustainable in the medium-term. In fact, he expects that the volatilities will peak soon. However, the emerging markets may not see a strong inflow of funds too soon, owing to the risk-averse behaviour of the private investors in response to the market’s instability for the past two months.

U.S. Equity Market Bodes Well

Despite negative market sentiments hovering over the markets, Poullaouec believes that the outlook for the U.S. Equity market will remain positive for the rest of the year.

Although consumer spending in the U.S. Had slowed down sharply in the 2nd Quarter, and could have an impact on the overall performance of the U.S. Economy for this year, he is still optimistic that the U.S. Economy will score a positive performance for this year, instead of a feared drastic slowdown, and will still remain attractive to the investors. In his view, the U.S. Economy will post a 3% to 3.5% growth in the Year 2006, and a 2.6% to 2.7% growth in the Year 2007.

On the U.S. Bond market, BNP believes that the U.S. Economy will still be driven by a strong flow of pension funds and funds from the insurance companies. Nevertheless, Poullaouec maintains that without strong conviction on the positive performance of the bond market, BNP will not be keen on bonds in the remaining months of the year.

The market correction in the second-half of this year had prompted BNP to switch to investing in longer-duration bonds of a maturity period of around two years, as a move of risk prediction. He advised investors against investing in short-term U.S. Bonds, in the coming months.

“For investors who target at positive performance (while investing in the U.S. Market), we would not recommend especially to be positioned in bonds or in very low-duration bonds, for the remaining of the year”, he pointed out.

On the U.S. Inflation, Poullaouec expresses that although inflation is one of the factors which BNP considers in their asset allocation assessment, they do not wish to attribute too much concern arising from it, in their investment strategies. Despite high labour costs, he feels that the U.S. Companies do not have a strong urge to increase prices due to the strong worldwide competition. In addition, U.S. Wages are also coming under control, as wages are not rising more than productivity gains, contributing to the alleviation of inflationary pressures. These observations are also, in one way or another, congruent with BNP’s view that the tightening of the U.S. Monetary policy is near to an end soon.

On 8 August 2006, the U.S. Federal Reserve’s Federal Open Market Committee (FMOC) voted favourably to maintain the benchmark U.S. Cost of borrowing at 5.25%. This marked the first time after 17 consecutive hikes, since June 2004, that the Federal Reserve has not raised the federal interest rates. It was also an indicator that the Fed perceives that inflation has come under control, for the time being.

On oil price hikes, BNP feels that although the Middle-East tension will affect oil prices, and in turn affect the U.S. Economy growth, it should not have an extremely strong impact on the market. Oil prices recently struck a new high of US$78.64 a barrel on 7 August 2006 in London, after a pipeline spill forced British energy giant BP to announce the closure of America"s biggest oil field in Prudhoe Bay, Alaska. Nevertheless, the price was still within BNP’s investment scenario of US$80 per barrel.

On sectorial investments in the U.S., Poullaouec favours more defensive sectors, e.g. Energy, Insurance, Healthcare, Utilities sectors, etc., moving away from the Telecom and more cyclical sectors. Poullaouec specifically points out that a slowdown in the U.S. economic growth could have adverse affects on its real estate sector.

In terms of the perspectives on the Dollar, BNP reckons that the USD will enjoy good performance and will set to see a continued appreciation this year. It is, at the moment, weaker due to the re-balancing of assets of the Central Banks towards including more Euros in their portfolios.

Europe Attractive Too

The European equity market is also another market which BNP holds positive views of, for the rest of 2006. In Poullaouec’s view, cash-rich European companies raising levels of dividends for their shareholders, instead of investing profits into the expansion of their businesses, is good for the current market and economic mood in Europe. This may spell good news for the European equity market.

Although the Euro’s strong performance over the last year had constituted a barrier for competition for the European companies, relentless efforts have been made by these companies to improve their profit margins by increasing exports to other countries and regions in the worlds, e.g. Central Europe, Africa, etc. These have helped to ward off the negative effects arising from the appreciation in the Euro.

Energy Investments & Other Commodities

Touching on the prospects of the Commodities market, BNP points out that it is not advisable to invest too much in energy commodities as global political factors are affecting the market (which is not driven by fundamentals at this point in time). Instead, Gold and Soft Commodities are more favoured by BNP.

Where Gold is concerned, Poullaouec views it as more of a medium- to long-term investment, as an alternative to the USD. Although current global demand in Gold is still high, investors should still invest with caution.

“It (refers to investing in Gold) is not something that could be sustained in a stable way, and it is a matter of taking decisions at the right moments”, says Poullaouec.

For Soft Commodities, BNP sees strong demand coming from the Asian market, particularly from China and India. However, their investments in Soft Commodities have not reaped them a high level of profits at the moment, and they are carefully monitoring to assess if exposure to it should be reduced.

Conclusion

The U.S. and European equity markets look set for positive performance for the remaining months of the year, notwithstanding pressures from the rising oil prices and interest rates movements. In BNP’s view, investors may wish to consider investing in U.S. equities, in the coming months. For those who are interested to invest in U.S. bonds, BNP recommends longer-term bonds instead of the short-term U.S. bonds. The market volatilities unleashed since May this year are perceived to be unsustainable and might be peaking soon. However, the risk-averse behaviour of investors will still hamper the return of inflows of funds into the emerging markets, in the short-run. However, with global demand still favouring the emerging economies, Asian growth will still maintain its strong growth. For Commodities investments, investors may wish to invest in Gold and Soft Commodities, but with caution.