Market Outlook – 13 April 2010
It has been another good month for financial markets. The FTSE-100 index hit a new 18-month high of 5,780, thus exceeding the 5,700 level we projected last September, basing our estimate on the reverse head and shoulders pattern that the market had just completed. Both sterling and the gilt market held up well despite the continuing political and economic uncertainty – the 10-year gilt yield actually shaded from 4.15% to 4.06%. Markets were buoyed by increasing evidence that the US economy is continuing to recover. The economic news here has also surprised on the upside – the GDP growth for Q4 2009 has been revised up from 0.3% to 0.4% and strong manufacturing indicators and recovering service sector activity have raised hopes that Q1 2010 will show similar growth. This despite disruption caused by the worst winter for 30 years.

The markets, and the economy, appear to be confounding the more pessimistic commentators. The equity market appears to be looking for a Conservative victory in the forthcoming election, followed by credible measures to deal with the appalling public sector deficit, sufficient to reassure international bond investors and avoid a downgrade to our credit rating. We can only hope that this rosy scenario will pan out. A lot could still go wrong, as the current travails of Greece remind us. It is likely in any case that, whoever is in Government after 6 May, the cutbacks in public sector spending that will have to take place will be met by strong opposition from the public sector unions – even the teachers are already breathing fire and brimstone. It is difficult to envisage British public sector workers accepting the 13% average pay cuts their Irish counterparts have been forced to accept. Many in the UK private sector have already suffered much worse. As we pointed out last month the public, like the present Government, seems to be unaware just how serious the public sector deficit is, and none of the major parties is prepared to spell it out this side of the election.

Assuming that we will somehow muddle through, we believe that the run up by the FTSE- 100 to 5,780 will be seen as the first leg of a bull market. Many stocks and sectors look overbought short term and due for a correction, and the market could come back on profit taking, but we see it entering a broad consolidation phase which could last until the autumn. We continue to invest primarily in the leading international stocks which are deriving the bulk of their earnings abroad and are therefore investments in the world, rather than the UK economy. They also constitute a hedge against any fall in sterling resulting from a credit downgrade or perceived failure to get to grips with the public finances. With base rate likely to remain very low, defensive stocks offering good yields will be retained as well. With the sharp recovery in profits likely this year, the likely forward PE ratio for the FTSE-100 is below 12, which is undemanding, and we still expect the index to end the year around 6,000.

Reproduced with permission from Miles Moseley of Balkerne Asset Management