**07/09/10 - 8.20am - by James Gerrish**
A quite night in overseas markets with the US closed for a public holiday. In Europe, stocks were flat to marginally higher with most buying focussed in the commodity markets. The FTSE 100 added +11 points or +0.2% to close at 5439. Locally, the SPI Futures were matching just 1 point lower after a lethargic overnight session.
Risk was thrown back on the table last week with a clear move from defensive assets such as Treasuries. This pushed Yields higher with the 10 year T Note now yielding more than 2.7% - up from 2.4% which to me was a ridiculous level - and still is. Think about it - would you be happy to have your money working at 2.4% for the next 10 years in an asset that has no capital growth potential - or would you rather buy a quality Australian Resource stock, paying yield of 4+% with a high chance of capital appreciation linked to strong growth in China and other emerging markets?
On the 10th of last month I wrote the following Note to Clients. I still firmly believe in this view and although we are likely to see volatility - as we've seen over the last 3 weeks or so, evidence that I read gives me confidence in a gradual recovery in the market.
...."Here's some of the reasons why I think we're likely to see this market trade higher over the medium term.
1. US economic conditions are improving - I know its tough going and there are whispers coming from Washington that more stimulus is in the pipeline but we are seeing an improving jobs situation with a lift in private sector employment. I think this trend will start to build momentum over the coming months and this will provide further support to the rally.
2. Corporate profitability is also on the mend - The recent US reporting season was positive and we saw the vast majority of companies beat earnings expectations. Yes, there were some concerns around revenue however the fact that earnings improved showed the benefits of aggressive cost reduction strategies. I particularly liked to results from the transport stocks which shows goods are moving around the US and Tech companies that showed IT spend was improving.
3. Emergency Fiscal Policy settings - In both the US and UK interest rates are at emergency settings. 0-0.25% in the States and 0.5% in the UK. Capital is cheap so institutions can borrow money and invest in higher yielding assets such as equities and bonds. Why not borrow at 1.5% and invest in Treasuries that are yielding 3% or equities with a yield of 4 - 5%? The US Fed have indicated that interest rates will be kept on hold for an extended period of time and I'd argue that they need to be given they're running a record Govt Debt which needs servicing.
4. Strong (& sustainable) growth in emerging markets - There was a lot of concern that China was going to stifle growth. This has so far proved incorrect and we've seen a measured approach by Chinese officials to gradually manage its expansion. If we look across the emerging markets space, with Asia being central to this theme we see India growing at 9.4%, China at 10.5% & Other Asia at 6.4%. In Latin America Brazil has GDP growth of 7.1%. If we compare this to the US at 3.3% and the Eurozone at 1% and ask ourselves 'what economies would we like our money exposed to' and the answer to me is pretty clear.
5. This is why we're conscious of whats happening in the US and Eurozone as they have such as a significant bearing on the global markets but when we invest, we focus on stocks that are exposed to this theme of emerging markets growth".......
Looking at the price action on the local market, it would be very encouraging to see the S&P/ASX 200 close above resistance of 4600. This would prompt some technical buying in the market and offer further confidence for a more sustained move. As we said yesterday, conviction, as determined by market participation is not there yet and for this reason we suggest smaller initial position sizes in the market.
HITTING THE HEADLINES..... RBA rates decision today and we expect the official cash rate to be held at 4.5% this month and for the remainder of the year.
We may get a Prime Minister by mid afternoon (2pm) with the Independents expected to pledge their loyalty by then. Labor are favorites at this stage however Abbott is still in with a chance if all three Independents swing to the Liberals.
James Gerrish
(02) 9375 0117
