SUMMARY. Volume 8, Issue October 2008 ECONOMIC OVERVIEW

Transcription

1 Volume 8, Issue October 2008 SUMMARY ECONOMIC OVERVIEW US EUROPE JAPAN ASIA US EUROPE JAPAN ASIA BONDS US EUROPE JAPAN ASIA CURRENCIES US EUR JPY GBP AUD Fed may cut policy rates by at least another 50 bps by year-end ECB likely to play active part in stabilizing the market BOJ doesn t join coordinated rate cuts Financial turmoil constrains China credit and trade growth S&P 500 year end 2008 target trimmed to 1,200 Overweight Health Care, Telecoms and Insurance Despite falling equity prices, little expectation of government action Valuations close to average but risks remain Favour high grade corporate bonds Cautious on Euro government bonds Less fiscal discipline may undermine Japanese government bonds Remaining cautious on the corporate bond outlook Financial stress to weigh on near-term outlook Euro expected to remain volatile in near term Upside potential appears limited Pound likely to remain weak AUD may feel some pressure in the near term Page 1 of 9

2 ECONOMIC OVERVIEW Fed may cut policy rates by at least another 50 bps by year-end Last week, the Federal Reserve (Fed) revived its rate cutting effort with a 50 bps reduction in the funds rate to 1.5% in an attempt to stabilize financial markets. While the current round of rate cuts are not likely to forestall serious damage to the economy, Citi analysts regard it as a signal that the Fed is now putting emphasis on growth rather than inflation, and they anticipate additional easing of at least another 50 bps rate cut by year end. In addition, Citi analysts believe that policy actions designed to boost aggregate capital in the financial system through direct public injections now appear imminent. US Leading Indicators Jan 2005 Jul 2008 Source Bloomberg S&P 500 year end 2008 target trimmed to 1,200 Week ending Oct 10, 2008 Dow % S&P % Nasdaq % Citi analysts are trimming their S&P 500 and Dow Jones Industrial Average year-end 2008 targets to 1,200 and 10,800 respectively. Nonetheless, Citi analysts believe that a fourth quarter rebound may still remain a possibility as central banks act more aggressively, given that inflationary pressures are easing rapidly. Going forward, Citi analysts are also establishing their initial year-end 2009 S&P 500 and Dow Jones Industrial Average forecasts of 1,300 and 11,700 respectively. These forecasts assume improving earnings by the latter part of 2009 and much lower levels of volatility. FIXED INCOME Favour high grade corporate bonds As at Oct 10 vs. Oct 03, yr Try 1.64/ yr Try 2.76/ yr Try 3.87/3.61 Treasuries Citi analysts remain underweight US Treasuries as current rates appear over-valued. However, for long-term investors seeking exposure, Citi analysts favour the 2- to 10-year portion of the yield curve. High-Grade Corporates Citi analysts prefer high-grade corporate bonds given that the risk/reward trade-off seems more attractive and valuations appear compelling. High-Yield Corporates Citi analysts are cautious on high-yield bonds, as high yield spreads have typically risen further during recessions. EMD Citi analysts remain neutral on emerging-market bonds. For investors who are seeking exposure, Citi analysts favour countries which have sound economic fundamentals and minimal amount of political risk. S&P 500 Source Bloomberg US Treasury Yield Curve Oct 10 vs. Sep 10, 2008 Source Bloomberg Page 2 of 9

3 ECONOMIC OVERVIEW ECB likely to play active part in stabilizing the market Measures by euro area governments to end the financial crisis have so far been uncoordinated and insufficient. However, in the face of rising economic risks, Citi analysts expect that governments may likely set up more coordinated and comprehensive measures soon. In particular, the European Central Bank (ECB) may probably loosen collateral rules to provide extra liquidity. Furthermore, the ECB is likely to play an active role in stabilizing the market with further rate cuts. In particular, Citi analysts believe the ECB seems to be willing to bring down policy rates quickly, suggesting that the 2% mark for interest rates might be met in mid 2009 rather than the end of EURO 15 Leading Indicators Jan 2005 Jun 2008 Source Bloomberg Overweight Health Care, Telecoms and Insurance Week ending Oct 10, 2008 CAC % DAX % DJ Euro STOXX % Poor investor sentiment along with deteriorating fundamentals continue to dominate recent headlines and Citi analysts expect further earnings downgrades. Nevertheless, given that European equities appear to be trading on historic Price-to-Earnings ratio (P/E) of 8.5x, attractive valuations may be supportive to some extent. Nonetheless, Citi analysts continue to stick to their strategy of favouring high dividend yielding companies with strong balance sheets and positive earnings trends. In terms of sectors, Citi analysts remain overweight Health Care, Telecoms and Insurance, while they underweight Utilities, Construction and Autos. Meanwhile, given severe underperformance and increasing levels of government support, Citi analysts have raised Banks from underweight to neutral. FIXED INCOME Cautious on Euro government bonds As at Oct 10 vs. Oct 03, yr Eurobond 3.04/ yr Eurobond 3.56/ yr Eurobond 4.00/3.92 Citi analysts expect the yield curve to steepen as inflation concerns keep long-term rates elevated and weak growth leads the markets to price in policy rate cuts. Dow Jones Stoxx Source Bloomberg Euro Yield Curve Oct 10 vs. Sep 10, 2008 Source Bloomberg Page 3 of 9

4 ECONOMIC OVERVIEW BOJ doesn t join coordinated rate cuts Last week, the Bank of Japan (BoJ) chose not to join other major central banks in cutting interest rates, as the BoJ reconfirmed it assessment that Japan s financial markets are relatively stable compared to the U.S. and Europe, with financial conditions generally remaining accommodative. Citi analysts believe that the BoJ is likely to maintain the status quo in policy rates over the next year, unless there are sustainable declines in Japan s exports and/or significant tightening in financial conditions. Going forward, Citi analyst believe that the net impact of both positive and negative factors, such as the slowing U.S. economy, receding inflation pressures, and easing monetary policies in some countries, is likely to determine the degree of downside for the Japanese economy. Citi analysts believe that the global economic slowdown is unlikely to end in the short-term, and project the Japanese economy to recover only in the second half of Despite falling equity prices, little expectation of government action Week ending Oct 10, 2008 Nikkei % Over the past week, Citi analysts note that the decline in Japanese equities has been more severe compared to U.S. equities. Citi analysts believe this is because U.S. companies have stronger international competitiveness, and stand to benefit from a weaker dollar. Japanese companies, in contrast, are under pressure from the strength of the yen, and this inhibits their ability to compete internationally. Another key factor, in Citi s view, has been the policy response. U.S. policy makers have implemented both fiscal and monetary policy responses to the situation, whereas Japanese policy makers have yet to address any effective policy measures at all. Despite the need for Japan s central bank to join a coordinated global effort at monetary easing, Citi analysts believe that the Japanese government is unlikely to implement policy responses at this time, as policy makers remain focused on the dissolution of Japan s legislature and the general election. FIXED INCOME Less fiscal discipline may undermine Japanese government bonds As at Oct 10 vs. Oct 03, yr JGB 0.85/ yr JGB 1.11/ yr JGB 1.53/1.46 Over the near-term, sluggishness in private domestic demand in the wake of higher raw material prices may likely continue to dissuade the BOJ from hiking interest rates. Citi analysts anticipate that the new Prime Minister of Japan, Taro Aso, may not pay as much attention to fiscal discipline as the former Prime Minister, Yasuo Fukada, and that the basic thrust of economic policies may shift going forward. Moreover, Citi analysts are concerned that the upcoming general elections may intensify this tendency, thus undermining the long-term government finance outlook and also the outlook for Japanese government bonds. Japan Leading Indicators Jan 2005 Aug 2008 Source Bloomberg Nikkei 225 Source Bloomberg Japan Yield Curve Oct 10 vs. Sep 10, 2008 Source Bloomberg Page 4 of 9

5 ECONOMIC OVERVIEW Financial turmoil constrains China credit and trade growth As a result of the global financial crisis, Chinese policy makers reversed efforts to drain liquidity from the financial system, partially reducing the reserve requirement, which likely release RMB 150 billion into the market. However, Citi analysts believe that credit expansion is likely to be limited due to a sharp increase in credit risk and tighter bank lending standards, and as a result, the growth rate of money supply is likely to be uncertain. Trade activity growth is likely to slow as a result of the worsening global economy. But amid this slowdown, Citi analysts also note that the outlook for inflation in September is likely to improve to 4.5% year on year. In Singapore, Citi analysts believe that nominal retail sales growth in August likely slowed to 4.8% year on year, from 11.8% in July, due to depressed consumer sentiment, an easing labour market, and falling visitor arrivals. Non-oil domestic exports are expected to remain weak in September with a forecast of negative 13% year on year. China Business Climate Index Jan 2005 Jun 2008 Source Bloomberg Nb The China Business Climate Index ranges from 0 to 200. When the Index is higher than 100, it indicates that the economic performance is improving. Valuations close to average but risks remain Citi analysts note that price to book value (P/BV) of Asian equities, as measured by the MSCI Asia ex Japan index, is currently at 1.7 times, only slightly below the 10- and 30- year averages of 1.8 times. As such, Citi analysts believe that any rally in the short-term may still be in the confines of a bear market rally. At the same time, Citi analysts note that investor sentiment is poor with many stocks trading below their 200-day moving average. With only 11 months into the current downturn, Citi analysts believe that Asia equities may be halfway through a month slide from peak to trough valuations. However, Citi analysts note that the period from October to February has historically been a good period for equities. At the same time, the prospect of a weaker USD may be positive for Asian markets. Citi analysts continue to favour banks, telecoms, utilities and tech sectors, and prefer large caps to small and mid caps. In terms of markets, Citi analysts favour Hong Kong, Korea and Taiwan. FIXED INCOME Remaining cautious on the corporate bond outlook Citi analysts remain cautious in the near-term about the Asian credit outlook, mainly on concerns about potential pressures within specific sectors in the region and macroeconomic weakness. Citi analysts as such suggest that investors stay defensive and focus on investment grade corporate bonds from issuers that have a stable or positive fundamental outlook. Whilst Citi analysts do not foresee a significant weakening among investment grade Asian bonds, they do believe that the macro backdrop points to further downside risks among high yield Asian bonds. Taiwan Weighted Index Source Bloomberg Hang Seng Source Bloomberg Page 5 of 9

6 USD [USD] Financial stress to weigh on near-term outlook According to Citi analysts, the dollar s appreciation over the summer reflected, in part, evidence that economic weakness was not solely concentrated in the US. Nonetheless, near-term uncertainty about the US economic outlook as well as recurring financial stress is likely to weigh on the dollar. However, over the longer-term, given that the current financial stress remains a global phenomenon, Citi analysts do not expect the consequences of financial stress to fall uniquely on the USD. Euro [Eur] Euro expected to remain volatile in near term With ongoing uncertainties regarding the measures by the US authorities to improve financing conditions, the euro may likely continue to remain volatile in the near-term. At the same time, Citi analysts expect the European Central Bank to bring down the policy rate to 2% by mid 2009 in a bid to stabilize financial systems. As such, Citi analysts continue to expect a significant weakening of the euro against the USD in coming quarters because of a prolonged period of weak gross domestic product (GDP) growth. Japanese Yen [JPY] Upside potential appears limited According to Citi analysts, the yen is likely to remain rangebound over the next couple of quarters, given that the US economy is facing significant challenges. However, the Bank of Japan (BOJ) is unlikely to hike interest rates as renewed weakness in economic activity continues to accumulate. As a result, this status quo in Japan s policy is likely to limit the upside potential for the yen. In 2009, a shift of Japanese households portfolio into foreign currency denominated assets may probably generate a modest depreciation of the yen. British Pound [GBP] Pound likely to remain weak The pound is likely to remain weak, reflecting the deterioration in UK economic prospects and the lack of an early recovery. Furthermore, the Bank of England (BOE) is also likely to lower policy rates to 3% in 2009, with the first 50 bps cut in 4Q08. Under these conditions, the pound is likely to continue to underperform against other major currencies. Australia Dollar [AUD] AUD may feel some pressure in the near term The AUD appeared weak last week as investors cut holdings of higher-yielding assets on speculation that the global economy is unlikely to avert a recession. Meanwhile, Citi analysts now expect the Reserve Bank of Australia (RBA) to cut policy rates by 125 bps over the course of Indeed, lower official interest rates, concerns over global economy and a reduction in risk appetite are likely to continue to weigh on the AUD in the near term. EUR/USD Apr 11, 2008 Oct 10, 2008 Source Bloomberg USD/JPY Apr 11, 2008 Oct 10, 2008 Source Bloomberg GBP/USD Apr 11, 2008 Oct 10, 2008 Source Bloomberg AUD/USD Apr 11, 2008 Oct 10, 2008 Source Bloomberg Page 6 of 9

7 World Markets at a Glance (Data as at 10 October, 2008) Previous Week's Close 12-Mth Weekly High 12-Mth Weekly Low % Return YTD (LC) % Return YTD (USD) Taiwan Weighted Index 5, , , % % Hang Seng 14, , , % % Kuala Lumpur Composite , , % % JASDAQ Index (Japan) % % Straits Times Industrial 1, , , % % Dow Jones Euro STOXX % % CAC 40 (France) 3, , , % % S&P , , % % DAX (Germany) 4, , , % % NASDAQ 100 1, , , % % All Ordinaries (Australia) 3, , , % % Dow Jones Indus. Avg 8, , , % % NASDAQ 100 1, , , % % FTSE 100 (UK) 3, , , % % Nikkei 225 8, , , % % Mumbai Sensex 30 (India) 10, , , % % Thai Stock Exchange % % Indonesia Stock Market 1, , , % % Philippines Stock Exchange 2, , , % % Korea Composite 1, , , % % Global Currency Forecasts and Forwards (Data as at 24 September, 2008) Source CitiFX Views Page 7 of 9

8 Asian Currency Forecasts and Forwards (Data as at 09 October, 2008) Source The Week Ahead Asia Edition Page 8 of 9

9 GENERAL DISCLOSURE Citi analysts refers to investment professionals within Citi Investment Research and Citi Global Markets (CGM) and voting members of the Global Investment Committee of Global Wealth Management. Citibank N.A. and its affiliates / subsidiaries provide no independent research or analysis in the substance or preparation of this document. The information in this document has been obtained from reports issued by CGM. Such information is based on sources CGM believes to be reliable. CGM, however, does not guarantee its accuracy and it may be incomplete or condensed. All opinions and estimates constitute CGM's judgment as of the date of the report and are subject to change without notice. This document is for general information purposes only and is not intended as a recommendation or an offer or solicitation for the purchase or sale of any security or currency. No part of this document may be reproduced in any manner without the written consent of Citibank N.A. Information in this document has been prepared without taking account of the objectives, financial situation, or needs of any particular investor. Any person considering an investment should consider the appropriateness of the investment having regard to their objectives, financial situation, or needs, and should seek independent advice on the suitability or otherwise of a particular investment. Investments are not deposits or other obligations of, guaranteed or insured by Citibank N.A., Citigroup Inc., or any of their affiliates or subsidiaries, or by any local government or insurance agency, and are subject to investment risk, including the possible loss of the principal amount invested. Investors investing in funds denominated in non-local currency should be aware of the risk of exchange rate fluctuations that may cause a loss of principal. Past performance is not indicative of future performance, prices can go up or down. Some investment products (including mutual funds) are not available to US persons and may not be available in all jurisdictions. Investors should be aware that it is his/her responsibility to seek legal and/or tax advice regarding the legal and tax consequences of his/her investment transactions. If an investor changes residence, citizenship, nationality, or place of work, it is his/her responsibility to understand how his/her investment transactions are affected by such change and comply with all applicable laws and regulations as and when such becomes applicable. Citibank does not provide legal and/or tax advice and is not responsible for advising an investor on the laws pertaining to his/her transaction. COUNTRY SPECIFIC Australia This document is distributed in Australia by Citigroup Pty Ltd Citigroup Pty Limited ABN , AFSL For a full explanation of the risks of investing in any investment, please ensure that you fully read and understand the relevant Product Disclosure Statement (PDS) prior to investing. Hong Kong This document is distributed in Hong Kong by Citibank (Hong Kong) Limited ("CHKL"). Prices and availability of financial instruments can be subject to change without notice. Certain high-volatility investments can be subject to sudden and large falls in value that could equal the amount invested. Indonesia This report is made available in Indonesia through Citibank, N.A. Indonesia Branch, Citibank Tower Lt 7, Jend. Sudirman Kav 54-55, Jakarta. Citibank, N.A. Indonesia Branch is regulated by the Bank of Indonesia. Malaysia This document is distributed in Malaysia by Citibank Berhad. Philippines This document is distributed in Philippines by Citicorp Financial Services and Insurance Brokerage Phils. Inc, Citibank N.A. Philippines, and/or Citibank Savings Inc. Investors should be aware that Investment products are not insured by the Philippine Deposit Insurance Corporation or Federal Deposit Insurance Corporation or any other government entity. Singapore This document is distributed in Singapore by Citibank Singapore Limited (CSL). Co Reg. No K Where material is distributed by CSL, investors should note that Investment products are not subject to the provisions of the Deposit Insurance Act 2005 (Act 31 of 2005) of the Republic of Singapore or eligible for deposit insurance coverage under the Deposit Insurance Scheme. United Kingdom This document is distributed in U.K. by Citibank International plc., it is registered in England with number Registered office Citigroup Centre, Canada Square, London E14 5LB. Authorised and regulated by the Financial Services Authority. Page 9 of 9