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Hung drawn and quartered

April 20th 2010

And so we are closer to Election Day and none the wiser about its likely outcome. The date has now been confirmed as 6th May, but both the major parties seem more intent on avoiding doing anything silly than on coming up with anything constructive. With neither party appearing to have any policies of substance this has all the hallmarks of a campaign that will be unedifyingly fought on personality defects and meaningless sound-bites.

And as far as the equity markets are concerned, who cares? In the grand scheme of things the election is a small local affair of almost no relevance. What actually matters is the state of the American economy. And the evidence is growing that the States are in much better health than anyone might have dared hope a mere six months ago. GDP growth in the fourth quarter has been revised down a smidgeon but is still running at an annualized 5.6%, while corporate profits in the same period were up over 50% over the same three months of 2008. This week we shall see the latest Manufacturing ISM survey, with this expected to show the 8th consecutive month of robust expansion.
 
This brings us back to one of our persistent themes of the year, bond yields. Despite Ben Bernanke’s insistence last week that the fed funds rate will stay at exceptionally low levels ad infinitum, the bond market is caught between a rock and a hard place. On the one hand, if the economy continues to grow at its current clip, markets will look to the inevitability of an inflationary boom over the next couple of years. But if it doesn’t, then the government’s inability to cut the budget deficit will pour fuel on the kindling wood of the looming loss of the United States’ AAA credit rating. Either way, the risk that U.S. and global bond yields move quite substantially higher over the next twelve to twenty-four months is growing by the day.
 
This just leaves us to reflect on what has been a very good first quarter to the year for investment. True, equity markets are overbought and we could lose a chunk of the gain as investors take profits, but the FTSE 100 is 5% up since the turn of the year and the FTSE 250 by 9%. The pound’s fall means that the S.& P. is up around 12% in sterling terms, as is the Nikkei 225. European returns have been lower however, as the euro is just as much in the global doghouse as the pound. Emerging Markets, still everyone’s darling, have barely moved over the quarter, in what we can optimistically describe as a quarter of consolidation.