Investors looking for strong earnings as markets start to roll

Global markets took a breather last week, falling off on Friday on poor disappointing payroll figures out of the United States. But the declines failed to wipe out four mostly upbeat sessions earlier in the week, leaving most markets up for the week. Monday was a better day as a technology-led rally propelled stocks higher, pushing the NASDAQ to a fresh 2-1/2 year high to close at 2112 (up 1.2 percent on the day). The Dow and S&P 500 also moved up on Monday, ahead of a slew of earnings reports due later in the week. The US unemployment rate dropped to 5.7 percent from 5.9 percent in December, a bigger drop than had been expected. However, only 1,000 jobs were added to non-farm payrolls in the last month of the year, when economists were expecting employers to create 148,000 new jobs. In addition, the previous month’s payroll number was downwardly revised. Notwithstanding the recent disappointment, the increased economic activity is still expected to generate improvement in employment figures so we will continue to monitor this very critical area with vigilance.

We had discussed over the past few articles, the increasing supply of cash to fuel economic growth, particularly in the USA. This week we learned that, according to research from Citigroup’s Smith Barney, the European banks will generate 84bn of surplus capital over the next three years (40 percent higher than the past three years) as profits rise across the sector. The research suggests that during the next three years, 24 percent of the sector’s net profit will be required to fund loan book growth and 46 percent to fund ordinary and preference dividends, which leaves 30 percent of profits generated as surplus. In other news around the world, the European Commission is expected to back legal action against France and Germany, the two biggest trouble spots in the Euro economic world. The Euro zone finance ministers decided to suspend the single currency’s budget rules in these countries. During November 2003, both France and Germany faced penalties for failing to cut their budget deficits to below 3 percent of gross domestic product. Commission officials commented that the Brussels body would back legal action as part of a drive to strengthen the euro zone’s economic governance.

Japan, as many would know, has been an economy unable to jump start a recovery for coming on ten years. Now it seems, economists feel China may be providing  the necessary inflationary push. Strong demand in China is helping absorb excess capacity in Japanese paper, glass, steel, cement and similar industries assisting in the flourishing Chinese investment and construction areas. In November, Japan’s exports to mainland China rose by 21 percent over the same month in 2002. There is a slew of economic reports due out over the later part of the week on producer prices, consumer prices, manufacturing, retail sales, and consumer sentiment, among others. Earnings reports will also be fast and furious over the next few weeks. On a philosophical note, we continue to see little downside in equity investing as compared to the other asset classes. The US continues to be the global leader in economic recovery with only three notable risks to their recovery; a slowing of consumer spending (not likely), failure to generate new jobs (still an issue) and further collapse of the US dollar. We remain comforted by the fact that consumer debt is low and most financing has been in the form of equity loans on housing and not credit cards or leasing.

Although the US consumer asset base has not improved much over recent times, the ratio of debt to GDP and debt to income remain positive. The weakening of the US Dollar has helped on the US foreign account trade imbalance and will bear fruit through increase exports over the near term. Countries such as Canada may well have to encourage a weaker currency in order to re-establish their markets into the US. We expect the continuation of the cyclical rebound so far experienced in the leading economies, bringing with it, increases in corporate profits, equity pricing and improvement in lifestyle. The risk premium on equities, estimated at 3 percent, is in line with historic levels and valuations are attractive for stock pickers considering the forward growth expected.
Email : darcy@investments-intl.com