| INVESTMENT REVIEW THIRD QUARTER 2007
After a volatile period equities closed mixed at the quarter
end led by Asia and Emerging Markets. Whereas in recent quarters
market sentiment had been dominated by takeover activity the focus
during this period was upon concerns emanating from credit markets
and, especially, cross-over from the US housing market into the
wider economy. The rising cost of borrowing and growing imbalances
at the consumer level regarding the degree of personal debt gave
rise to comment at the end of the last quarter. Against this backdrop
the decline of the US housing market led to write-downs in the
value of packaged loans extended by banks to the sub-prime market
held by a range of institutions and hedge funds including Bear
Sterns, BNP Paribas and Goldman Sachs.
Uncertainty over who was holding these loans and the extent to
which possible write-downs may affect their overall creditworthiness
resulted in the inter-bank lending (LIBOR) rates rising globally.
In the UK this rose to over 1% above the Bank of England base
rate of 5.75%, the widest spread in over 20 years and a reflection
of the growing concern between banks over the extent of the problem.
Being more dependent on market liquidity to fund their daily business
requirements, Northern Rock succumbed to market circumstances
and this quarter experienced the first run on a UK bank for over
140 years. Not surprisingly among the larger equity market sectors
it was the financial stocks that led declines, with the FTSE-350
Banks index falling 8.51% during the period, significantly underperforming
both the FTSE-100 and FTSE-250 indices that fell 2.14% and 4.25%
respectively. But it was the smaller cap stocks which fared worst
over the quarter, declining 8.75% as investors sought to take
profits made over the previous 12 months.
In the US equity markets performed well over the period, in local
currency terms, perhaps surprisingly closing higher than they
were before the credit crisis unfolded in early August. Late in
the quarter a 0.5% interest rate cut to 4.75% provided a rally
that lifted the market to less than 1% below its all time high.
The Dow Jones closed 3.63% higher, on a par with the NASDAQ (up
3.77%), but in a similar trait to the UK it was the smaller companies
that lagged with the Russell 200 index closing down by 3.39%.
European markets consolidated during the quarter after a period
of strong gains earlier in the year. In Germany the DAX index
fell 1.8% and the French CAC-40 dropped 5.6%. Across the continent
the broader Eurotop-300 index fell by 3.41%.
Gains were led over the quarter by Asia and Emerging Markets
as the credit crisis affecting the developed markets seemed to
have little impact upon equity investor sentiment in these regions.
The Shanghai Composite index rose a further 45.32% over the quarter,
an increase of 216.8% for the year to end-September. Although
outstanding compared to its peers there were material gains across
the region with the MSCI Asia-Free and Emerging Markets indices
rising 16.54% and 13.70% respectively.
Bond markets, which had performed poorly in recent quarters as
a result of the inflationary outlook, rose sharply as investors
sought a safe haven from equities. The 10-year UK Gilt rose as
the yield fell from 5.463% to 5.011% and the comparable US Treasury
yield fell from 5.026% to 4.588% denoting a similar rise in its
price. European government bonds (as measured by the 10-year German
Bund) rose with the yield declining from 4.574% to 4.329%. Although
inflationary concerns have not abated it is the security of capital,
particularly in light of concerns within the financials sector,
which continues to dominate this asset class.
Further weakness in the value of the US Dollar remained the ongoing
theme in the currency markets over the period. Sterling rose to
close at $2.0473 and the Euro broke into new territory closing
at an all time high to the Dollar of 1.4267. Even the Yen reversed
earlier weakness to close at ?115.03 against the Greenback, a
rise of 6.68% during the quarter.
Commodities benefited from the continued Dollar weakness with
Gold and Silver rising 14.24% and 10.30% respectively and supply
worries brought on by sabre-rattling between Iran and US, combined
with Hurricane’s Dean and Felix, led to a rise of over 9%
in the price of Brent Oil to close at $79.40, just off an all-time
high. Growing concerns over the supply of foodstuffs to developing
economies led to rises in soft commodities such as Wheat, Sugar
and Maize.
October 2007
(Data source: Bloomberg) - All returns in local currency terms
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