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INVESTMENT REVIEW FOURTH QUARTER 2007
The final quarter of 2007 proved as volatile as the previous three
months with some bond and equity markets oscillating in a range
of over 10%. Market returns were impacted by concerns for the
strength of the financial sector due to the implosion of investment
products emanating from the US sub-prime housing market. This
was evidenced through the elevated LIBOR rates, a sign of the
continued lack of confidence between the banks. For investors,
this led to a material rise in short term deposit rates and significant
volatility in the shares of many financial institutions. A series
of asset write-downs over the quarter arising from exposure to
US sub-prime related credit instruments, led to a number of significant
stakes being taken in some of the large investment banks by Middle
and Far Eastern sovereign wealth funds such as Abu-Dhabi ($7.5bn
into Citigroup), Government of Singapore ($11bn into UBS) and
China Investment Corporation ($5bn into Morgan Stanley), amongst
others.
UK equity returns were mixed over the quarter. The FTSE-100 index
closed marginally lower (0.2%) but losses were more severe across
the mid and small cap indices, down by 3.4% and 13.0% respectively.
This trend was consistent with the movement over the full year,
the FTSE returning a capital gain of 3.8% against falls of 4.7%
and 20% for the mid and small cap indices. Gains were led by the
Mining sector, partly in response to higher commodity prices and
also buoyant M&A activity where the £70bn equity bid
for Rio Tinto by BHP Billiton provided the icing on the cake.
Should the deal be successful this would represent the 2nd largest
corporate deal in history after Vodafone’s purchase of its
rival Mannesmann in 2000.
US equity returns were generally negative over the quarter as
the fallout from credit concerns widened, with more institutions
acknowledging exposure through further write downs on mortgage-related
credit securities. The Dow Jones and S&P 500 indices fell
by 4.5% and 3.8% respectively, with the NASDAQ and Russell 2000
indices lower by 1.8% and 4.9% over the period. Over the year
US indices followed a similar pattern to that of the UK: large
cap providing superior returns to small cap as measured by the
Dow’s rise of 6.4% against the Russell’s decline of
2.7%.
European stocks provided mixed returns with German stocks driving
performance in response to economic reforms attracting investors
back to the market. Whilst the Eurotop-300 index fell by 1.2%
over the quarter but rose by 4.8% during the year, the German
DAX climbed 2.6% and 22.3% for the same periods. This was led
largely by heavyweight constituents Eon, Siemens and Daimler as
a result of restructuring plans to enhance shareholder value.
Globally, Asian and Emerging markets led the gains for the year
although performance was more mixed during the quarter. Following
a stellar performance in 2006, China built on those gains in 2007,
rising a further 96.7% despite a decline of 5.3% over the quarter.
Indian equities also performed well rising 17.3% during the quarter,
a gain of 47.1% for the year. The more broadly based MSCI Asia-Free
and Emerging indices grew 0.7% and 3.4% during the quarter, higher
by 34.7% and 36.5% on the year. Across the region the notable
exception was once again Japan, where the world’s second
largest stock market fell by 8.7% over the quarter and by 11.1%
over the year, resulting in the yield from equities overtaking
that from 10-year government bonds for the first time since the
summer of 2003.
Much has been written of the insatiable demand for resources
from China and India necessary to supply the construction projects
underway in that region such as homes, power plants and transport
infrastructure. This demand can be translated into the rise in
the price of commodities which have risen substantially over recent
years. Oil rose by a further 18.3% during the quarter to close
at $93.89 per barrel, a rise of 56% over 2007. Precious metals
also rose substantially: Gold, often considered a barometer of
global sentiment and a hedge against inflation, rose by 12.0%
to $833.05, up by 30.8% over the year. The broader CRB commodities
index rose by a more modest 7.4% and 16.7% over the quarter.
Interest rates were cut in both the US and UK during the quarter.
The Federal Reserve Bank of the US, in response to the threat
of a faltering economy resulting from the weak housing market,
reduced rates for the first time in four years in October by 0.5%
and a further 0.25% in November to close the year at 4.5%. Having
anticipated an easing in policy the previous quarter, the 10-year
Treasury yield was lower by just 0.14% to close at 4.45%. In the
UK rates was decreased by 0.25% in early December (to 5.5%) and
the 10-year Gilt yield fell substantially from 5.01% to 4.51%.
Rates in the Euro-zone were left unchanged and the 10-year German
Bund yield fell marginally to close at 4.31%.
In currency markets, US Dollar weakness remained the key feature
during the quarter and dominated 2007. Despite reaching a 26-year
low of 2.11 against the pound in early November, a late rally
left the currency marginally stronger against sterling during
the quarter to close a $1.98, a fall of 1.2% on the year. Against
the Euro and Yen weakness was more pronounced, with the dollar
falling by 2.2% and 2.9% respectively over the quarter, 9.5% and
6.5% for the year as a whole.
January 2008
(Data source: Bloomberg) - All returns in local currency terms
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