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Provided by Mercer: 17/2/10

Global share markets lost ground in the first month of 2010. Speculation on policy tightening in China, European sovereign risk concerns (the ability of a country to repay its debt) and US President Obama's proposal on banking regulation change put pressure on markets around the world, overshadowing some upbeat economic developments over the month.

The Australian equity market was one of the worst performers within developed markets in January, as the index heavyweight resources sector saw a substantial sell-off. Both global and domestic bond yields moved lower, with safe haven flows to lower risk assets driving the rally in these markets. The Australian dollar continued to depreciate against the US dollar and the yen but appreciated against the weaker Euro. The weakness in the broader market weighed on domestic listed property trusts, which were down in line with their global peers.

Significant developments over the month were:

The Reserve Bank of Australia Board did not meet in January, so the official cash rate remained at 3.75%.
Domestic economic data released over the month was largely positive. The employment figures maintained a strong upward trend, with the December job change number moving up 35.2k and the unemployment rate dropping to 5.5% versus a market expectation of 5.8%. November retail Sales surged 1.4% while the Westpac-Melbourne Institute Consumer Sentiment Index shot up 5.6% in January. Private sector credit also saw a 0.3% gain in December. In contrast housing figures disappointed, and Housing Finance was down 5.6% in November largely due to the removal of the first time home buyers grant and the uptick in interest rates in Quarter 3 2009.
US economic data released over the period was mixed. The FOMC maintained the Federal Funds rate at 0-0.25% and the unemployment rate remained steady at 10%. Q4 GDP climbed up to an annualised rate of 5.7% against the market expectation of 4.8%. The ISM manufacturing index (55.9), Non-manufacturing index (50.1) and Industrial Production (+0.6%) were all positive in December. Retail Sales fell in December (-0.3% month on month) but Consumer Confidence as measured by the Conference Board Consumer Confidence Index (55.9) remained strong. The housing market was subdued with housing starts sliding 4.0% month on month and existing home sales down 16.7%. The trade deficit continued to widen by 9.7% in November to close at $34.6bn.
US President Obama proposed the introduction of limits on the size of proprietary trading operations by banks and the banning of proprietary trading by deposit taking banks in order to curb banks risk-taking.
The Greek debt crisis deepened as Stand & Poors downgraded its sovereign risk credit rating, citing that the country’s current account deficit was far above prudent levels. Greek bond yields hit 10-year highs of 7.25% and traded 365bps over the German benchmark.
The Chinese Authorities announced a set of measures to tighten monetary policy, including raising the reserve requirements of banks by 0.5%, lifting the official interest rate and curbing bank lending.
The International Monetary Fund (IMF) upgraded its global economic forecast for 2010 from 3.1% to 3.9%, and also lifted its Australian GDP growth forecast to 2.5% in 2010 and 3.0% in 2011.
Crude oil (WTI) tumbled 8.0% on the month to finish at US$73.31 per barrel. The stronger US Dollar and a high inventory level contributed to the sharp fall.
Gold lost 1.4% to finish at US$1081/oz, largely attributable to the appreciation of the US Dollar.

Australian shares

The Australian share market was pushed to a 16-month high in early January, buoyed by upbeat domestic and global economic data. The market reversed downward thereafter, with a sell-off across the cyclical and defensive sectors. Despite positive domestic economic readings released during the month, global developments played a dominant role, with concerns over the Chinese authorities tightening lending policies, more sovereign risk issues emerging in Europe and US President Obama's proposal to curb banks risk-taking all causing a sharp decline in the domestic market. The S&P/ASX 300 index gave up 6.2% for the month, making it the worst monthly return since December 2008.

All sectors posted negative returns over the month, with the resource sector suffering the most severe losses as commodity and oil prices tumbled. Energy (-9.8%) and Materials (-9.0%) were the worst performers, followed by Consumer Staples (-8.4%) and Healthcare (-5.5%), which are traditionally considered as defensive sectors. Conversely, the sector comprising the smallest weight in the index, IT posted the smallest loss (-1.1%). Heavy weight stocks across resources, financials and consumer sectors provided a significant drag to the index, with the exception of Macquarie Group (+4.0%) and Westfield Group (+1.5%) which managed to limit the index fall and post positive returns.

Overseas shares

The MSCI World ex Australia index lost 3.5% in local currency terms. Small Cap (-1.3%) stocks outperformed the broader market while Value stocks (-2.0%) did better than their Growth (-3.7%) counterparts as well as the broader market in AUD terms. In the US, the S&P 500 index returned -3.6%, the Dow Jones -3.5% and the NASDAQ -5.4%, all in local currency terms. In Europe, the FTSE 100 (UK) returned -4.1%, the DAX (Germany) -5.9% and the CAC (France) -5.0% in local currency terms. Results from the Asian markets were also poor. The Chinese Shanghai Composite returned -8.8%, Hong Kong’s Hang Seng -8.0%, the India BSE 200 Index -5.3% and the Nikkei (Japan) returned -3.3%, again all in local currency terms.

Property

Domestic listed property trusts (A-REITs) declined 3.0% for the month, bringing the 12 month return to 17.6%. Global Listed Property (FTSE EPRA/NAREIT Global Hedged Index) was down by 5.2% for the month but still posted a gain of +43.4% over 12 months as investors anticipated improvements in overall operating conditions.

Fixed interest

The UBS Australia Composite Bond index gained 1.3% for the month and is up 1.7% over the year. The Citigroup World Government Bond (ex-Australia) Index and the Barclays Capital Global Aggregate Bond Index returned +0.9% and +1.4% respectively, on a fully hedged basis over the month.

Currency

The Australian Dollar lost against most major trading partner currencies. The local currency depreciated 1.2% against the US Dollar, 3.8% against the Yen , 0.4% against the Pound Sterling and 0.7% on a trade weighted basis, but appreciated and 2.0% against the Euro.

Investment commentary - 31 January 2010