Henderson Global Investors: Economic & Market Update (1 Sept 2008)
Highlights
US real GDP increased at an annual rate of 3.3% in the second quarter of the year – beating expectations.
The IFO survey in Germany showed business expectations dropping to
their lowest level since the 1992/93 recession.
Japanese inflation was 2.3% in July, but only 0.2% if food and energy
prices are excluded.
The Bank of Thailand raised its key policy rate from 3.5% to 3.75%.
Sterling fell to its lowest rate against the US dollar in over two years.
Views
US economic growth is being supported by strong growth in exports,
which is boosting activity in manufacturing.
The depressed outlook for Germany may, in part, be due to
manufacturers losing share in world markets to US companies.
While inflation in Japan is mainly due to food and energy prices, it is still
too early to conclude that the economy has escaped from deflation.
Higher interest rates in Thailand were probably necessary to prevent
weakness in the Thai baht.
Sterling's decline reflects a growing view that the UK economy will
underperform over the next 12 to 18 months.
Revised figures show that US real GDP
increased at an annual rate of 3.3% in the second
quarter – good going for an economy that is
supposed to be close to recession.
During this period, US households benefited from
sizeable tax rebates, and these helped support
consumer spending. However, arithmetically,
almost all the growth came from net exports. The
cheapness of the dollar is allowing the US to
increase its share of global markets.
Other indicators of manufacturing activity –
including durable goods orders, which again beat
expectations in July – are consistent with this
conclusion.
The German IFO survey of the business climate
declined for the fifth month in the last six in
August.
The headline measure fell to 94.8 from 97.5. The
assessment of current conditions and
expectations components were both lower on the
month. Expectations fell to their lowest level since
early 1993, when Germany was just emerging
from recession. All industry components fell
except for wholesale trade.
The industrial sector, which has been a strong
point in the German economy, was hit particularly
hard as its sub-index registered a nine point
decline.
The flash estimate for Euro-zone consumer
prices showed that inflation fell to 3.8% in August,
from 4.1% the previous month.
Softening growth is likely to lead to a continued
easing in resource utilization which, based on
historical relationships, means that inflation is
likely to continue to fall.
As inflation is the European Central Bank's
paramount concern, the low inflation numbers
should allow the Bank to lower interest rates
eventually in response to a slowing economy.
The aforementioned trends make recent hawkish
commentary by ECB members Bini Smaghi,
Liebsher and Weber look increasingly misplaced.
Most of this month's important Japanese data
were released on Friday of last week. The
economic picture was not pretty with rising
inflation and a deteriorating labour market.
Some argue that any inflation in Japan should be
welcomed. It is difficult to understand why this
could be the case if the inflation is not born of
stronger domestic demand. Higher imported oil
and food prices are as bad for Japan as they are
for other developed economies.
With the jobs-to-applicants ratio having
deteriorated for the sixth consecutive month and
real wages stagnating, the Japanese economy is
looking like it's heading for recession.
Japanese headline inflation reached its highest
level in almost eleven years in July with a 2.3%
y/y print. Core inflation, excluding food and
energy, also rose to a more modest 0.2% y/y.
With four consecutive prints above zero on the
core measure, many pundits are sounding the 'all
clear' on Japanese deflation. But the
aforementioned trends in various economic
indicators point to a possible recession and return
to deflation.
Certainly, resource utilization, which appears to
drive broad trends in inflation, has turned down
as capacity constraints have eased and
unemployment has risen.
The Confederation of British Industry reported
more grim economic news when it released its
distributive trades survey for August.
The sales component hit its lowest level ever
(survey began in 1983) as it fell to -46 from -36
the previous month. The overall optimism
diffusion index plummeted to -38 in the quarter
ended August 2008, from -17 the previous
quarter.
On a positive note, reported and expected selling
prices both eased for the first time in four months.
On a separate note, the Nationwide house price
index showed that house prices fell 10.5% y/y in
August.
The Bank of Thailand (BoT) increased its 1-day
repo policy rate from 3.5% to 3.75% last week –
the second such move within the last two months.
With political tensions not diminishing and the
Thai baht already falling against the US dollar,
the BoT had little choice but to act to shore up
confidence. It has probably been using foreign
exchange reserves to support the currency but
this could only ever be a temporary measure.
There may have to be further rate hikes. Inflation
in Thailand has soared over the last year from
close to 1% to over 9% at the last reading. Real
interest rates are, therefore, heavily negative.
Sterling dropped to a 2-year low against the US
dollar last week and it also fell a little against the
euro.
There is a growing view that the downturn in the
UK economy could be worse than that in other
major economies – in part because of the
weakness of the housing market and in part
because the government has very little room to
cut taxes or boost public spending.
Sentiment was not helped by David Blanchflower,
a member of the Monetary Policy Committee,
who gave a very gloomy assessment of the
outlook in an interview with Reuters, warning of
the risk of a deep and prolonged slump.
Financial markets are now most focused on the
outlook for growth. Bond markets have been
rallying and equity markets have been drifting
higher.
Most economic indicators over the last few
months have suggested that global economic
growth has weakened – and probably by more
than the consensus expectation. This has helped
bring oil and other commodity prices down, eased
inflation fears and contributed to the fall in bond
yields.
Meanwhile, equity markets have made some
gains. Weaker growth is bad news for earnings,
but reduced inflation pressures may be
accompanied by lower interest rates.
Economic Outlook
GDP growth (%)
2007
2008*
2009*
US
Japan
Euro-area
UK
G7
Asia ex Japan
World
2.2
2.0
2.6
3.0
2.2
8.6
4.9
1.5
1.8
1.9
1.6
1.6
7.5
4.0
1.5
1.3
1.2
1.1
1.4
6.8
3.4
Global economic growth is likely to slow in
2008 and again in 2009, reflecting the lagged
effects of higher interest rates, the credit
squeeze and higher food and energy prices.
There is a risk that, as the slowdown becomes
synchronised, it deepens into a global
recession.
However, if this risk is avoided, growth should
be recovering by the middle of 2009.
Inflation (%)
2007
2008*
2009*
US (core)
Japan
Euro-area
UK
G7 (headline)
Asia ex Japan
World
2.3
0.1
2.1
2.3
2.2
4.6
4.1
2.3
1.4
3.6
3.5
3.6
6.6
5.9
2.4
1.3
2.6
2.8
2.5
5.0
4.5
Higher food and energy prices are likely to lift
headline inflation rates across the globe in
2008. Weakening economic growth should prevent
core inflation rising in developed economies,
allowing inflation to drop back in 2009.
There is a risk, though, that somewhat higher
inflation becomes more established in
emerging economies.
Interest rates (%)
29 Aug 08
Jun 2009*
US
Japan
Euro-area
UK
2.00
0.52
4.25
5.00
2.00
0.50
4.00
4.50
If inflation rates are moderating in the first half
of 2009, any hikes are likely to be reversed
and rates could also fall in the UK.
In the US, interest rates are unlikely to rise
before the second half of next year.
Policy is on hold for an extended period in
Japan.
Currencies
29 Aug 08
Jun 2009*
Yen/$
$/euro £/euro
$/£
109
1.47
0.81
1.82
100
1.45
0.82
1.77
Over the next twelve months the US dollar is
expected to recover some ground against the
Euro and sterling.
The yen is now close to fair value against the
dollar but could make some gains if other
Asian currencies are allowed to appreciate.
* Henderson Global Investors' forecast
Financial Market Outlook
Govt 10-year bonds (%)
29 Aug 08
Jun 2009*
US
Japan
Euro-area
UK
3.80
1.41
4.17
4.47
4.25
2.00
4.25
4.80
In the short-term bond markets are likely to be
volatile, reflecting the confusing combination of
lower growth and higher inflation.
If interest rates are cut next year, yields could
well fall in the UK and the Euro-zone.
US yields may be rising in a year's time if the
outlook for the second half of 2009 is better.
EPS growth (%)
2007
2008*
2009*
US
Japan
Euro-area
UK
Asia ex Japan
-3
7
15
8
45
2
5
-5
5
8
8
5
5
5
5
Weaker global growth and the effect of buoyant
commodity prices on margins are likely to
combine to produce disappointing earnings
growth in 2008.
Any recovery in earnings in 2009 will also be
modest, in line with expectations for output
growth.
P/E ratios
2007
2008*
2009*
US
Japan
Euro-area
UK
14.9
14.1
10.1
11.4
14.6
13.4
10.7
10.9
13.6
12.8
10.2
10.4
Equity markets appear cheap, in part because
they are discounting weak earnings growth in
2008 and 2009.
Valuations should, therefore, offer some
support if the economic downturn turns out to
be moderate and inflation eases.
Equity markets
29 Aug 08
Jun 2009*
US (S&P 500)
Japan (Topix)
Euro-area (DJ Eurostoxx)
UK (FT All Share)
MSCI Asia x Jap US$
MS emerging markets US$
1283
1255
319
2869
443
956
1475
1550
370
3250
550
1200
Equity markets are likely to remain volatile in
the short-term and could fall on bad news from
the financial sector, more inflation worries or
signs that economic growth will be
disappointing.
By the middle of next year, assuming the
outlook for 2009 is brighter, equities might be
staging a more sustained recovery.
* Henderson Global Investors' forecast
This document has been produced based on Henderson Global Investors' research and analysis and represents our house view. The information is made available to clients
only incidentally. Unless otherwise indicated, the source for all data is Henderson Global Investors. Any reference to individual companies is purely for the purpose of
illustration and should not be construed as a recommendation to buy or sell or advice in relation to investment, legal or tax matters.
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upon individual circumstances.
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