Global Markets

Financial markets closely watch central bank meetings, not just the Federal Reserve's — and last week was no exception in Australia, Europe and the UK. But markets are also on vigil for another event — the U.S. employment situation report which is released usually on the first Friday of the month. The markets move on a single number whether it's an anomaly or not. For example, last month’s initial estimate of a decline in U.S. employment shocked investors and they bailed out of securities. This month that same number reversed direction and was revised from an August decline of 4,000 to an increase of 89,000 — a 93,000 job swing. Needless to say, equities were cheered by the reversal of fortune and the dollar initially rallied against the euro, but later in the day lost momentum.

Equities had shrugged off bad news during the week. For example, on Monday, two giant financial groups revealed the damage to earnings by the credit crunch. Stock markets rallied on the belief that they now knew the extent of the damage. The Dow soared above its record high that was reached on July 19. Tighter credit hasn't hurt exuberance in stock market. The rally also comes in spite of continued exceptionally tight conditions in the money market, which suggest that the big banks at the heart of the world's financial system are still anxious. Further, gold has just touched a 27-year high. Normally, when investors rush for the perceived safety of gold, it is because they are anxious about other securities and fear inflation.

On the week, all indexes followed here were up. The gains ranged from 3.1 percent (STI) down to 0.6 percent (All Ordinaries).

Global Stock Market Recap

Europe and the UK

The FTSE, DAX and CAC continued their positive ways for the fourth week. The indexes were bolstered on Thursday by the decisions of the Bank of England and European Central Bank to keep rates unchanged at 5.75 percent and 4 percent respectively. And on Friday they were helped by the largely positive U.S. employment situation report that erased August’s employment losses and eased investor recession fears. London stocks were helped by banking sector strength as reports of interest in beleaguered lender Northern Rock surfaced. An analyst said that investors were encouraged by the absence of any new disaster stories. The three indexes were up four of five days. On the week, the FTSE gained 2 percent while the DAX was up 1.8 percent and the CAC, 2.2 percent.

Central banks hold their fire

ECB

No change in the European Central Bank’s interest rate was anticipated and no change was made. The interest rate remained at 4 percent as the Bank’s governing council weighed the impact of the global credit squeeze on the European economies. The September flash harmonized index of consumer prices was slightly above the inflation target of 2 percent for the first time since August 2006. M3 money supply growth has consistently been above the reference target of 4.5 percent. M3 growth soared by 11.4 percent for the three months ending in August when compared with the same three months a year earlier. While recent economic indicators have been weaker, the economy continues to grow, generating new jobs while unemployment continues to shrink. A stronger euro and increased financing costs resulting from the global credit squeeze have had the same tightening effect as higher ECB interest rates.

At his press conference following the meeting, which took place in Vienna, Austria rather than at the Bank’s home office in Frankfurt, ECB President Jean Claude Trichet said that while the outlook for inflation was judged to be on the upside, the outlook for growth was on the downside. He said that the “downside risks relate mainly to the potential for a broader impact from the ongoing reappraisal of risk in financial markets on confidence and financing conditions, concerns about protectionist pressures and possible disorderly developments owing to global imbalances, as well as further oil and commodity price rises.”

That the ECB would not let up in the battle against inflation was clear in Mr. Trichet’s remarks. But at the same time, changes in the wording of the post-meeting statement hinted strongly that the central bank saw reason to increase borrowing costs. The ECB's task has been complicated in recent weeks because prices have started to increase and are expected to stay above the Bank’s inflation target of below 2 percent into 2008. However recent economic data have pointed to  slower growth, probably exacerbated by a combination of the global credit squeeze and the stronger euro. Mr. Trichet said that the ECB would act swiftly to ensure that inflation expectations remained “anchored.” It should be noted that for the first time since November 2005 he did not describe monetary conditions as “accommodative,” a word used when interest rate levels were seen by the ECB as boosting growth yet permitting scope to increase interest rates.

Bank of England

As expected, the Bank of England left its key policy interest rate at 5.75 percent. Expectations were high that the Bank would increase interest rates again this fall to cool demand and inflation. However that was before the credit crunch, the bail out of Northern Rock and the ensuing difficulties that some institutions had in securing funds. Inflation is down from its peak of 3.1 percent in March to below the Bank of England’s inflation target of 2 percent. The Bank last increased its key rate in July by 25 basis points to its current level. Some analysts think that the rate increases that have already occurred have yet to exert their restraining effects on spending given the time it takes for a rate change to work its way through the economy.

Although there have been signs that the economy could be cooling from its torrid pace, there are few signs that the financial markets dislocations have hit the real economy as yet. The economy is expected to grow just below 3 percent, above the long-term trend yet consistent with stable inflation.

As usual, Bank watchers will have to wait for two weeks for the meeting minutes. This was a return to normality from last month when the MPC broke with tradition and issued a statement while keeping rates unchanged.

Asia/Pacific

The six indexes tracked here — Nikkei, Topix, All Ordinaries, STI, Kospi and Hang Seng — were up last week as investors awaited the U.S. employment report. Most were not particularly volatile — with the notable exception of the Hang Seng — taking their cues from U.S. and other regional markets. And on Friday, markets were mixed as investors hedged their bets before the U.S. employment report. All Asian/Pacific equity markets are closed for the week when the report is released. After closing for three days at record setting highs, the STI retreated on Wednesday on profit taking. But the index regained its positive stance and closed on the plus side for Thursday and Friday and at a record high on the week. The index is up 28 percent so far in 2007.

The Hang Seng however gyrated after hitting a new all time high above the 28,000 mark on Tuesday. The index promptly gave all of the gain and than some back on Wednesday and Thursday. It recovered on Friday with a gain of 3.2 percent after reports said that the government may lower corporate taxes. After gaining 6.7 percent in a three-day run, the Hang Seng sank 2.6 percent on Wednesday and followed with a decline of 1.8 percent on Thursday. The index had been on a tear since the start of trading on August 20, when China said it will allow some citizens to invest directly in Hong Kong's stocks.

RBA rate holds at 6.5 percent

As expected, the Reserve Bank of Australia kept its key interest rate unchanged at the 11-year high of 6.5 percent as it carefully monitors the economy to see if there is any fallout from the turmoil in global financial markets. The RBA increased the key rate to 6.5 percent at its August meeting for the first time in 2007 to curb consumer price gains as economic growth gathers pace. The Bank has been trying to find the appropriate policies to keep inflation contained while still ensuring sufficient liquidity in the banking system. Second quarter gross domestic product jumped by 4.3 percent from a year earlier, the biggest increase in three years. And recently, the IMF raised its forecast for 2007 growth to 4.4 percent from an April estimate of 2.6 percent. The RBA does not explain its verdict when interest rates are kept unchanged.

Currencies

The dollar gained ground against the euro last week as an improved employment report and unchanged European interest rates combined to ease the pressure on the dollar. And ECB president Trichet, in his post-meeting press conference, noted that excessive currency market volatility was “very counterproductive.” He did not refer to problems surrounding the euro’s strength but said that “disorderly developments” were a risk to growth. Mr. Trichet, according to some analysts, was preparing the ground for the G7 finance ministers’ meeting in two weeks where currencies could be an agenda item. However, Mr. Trichet continued his strong words on inflation even though he did not use what the markets refer to as his code word, vigilance — nor did he describe monetary policy as accommodative. The dollar, which stood at $1.4125 against the euro before the employment report release, rallied to about $1.4030, as expectations of further imminent interest rate cuts evaporated. However, investors changed their minds and the dollar not only retraced its gains but ended the day with virtually no change from Thursday’s close.

The dollar was virtually unchanged against the yen for the week. The yen is being pressured by the rally in equities and a renewed appetite for risk.

Canada's dollar soared to a 31-year high after the Canadian employment report showed that the unemployment rate dropped to a three-decade low, bolstering prospects that the Bank of Canada will keep interest rates unchanged at 4.5 percent when they meet on October 16. The dollar climbed to $1.0217, the highest since November 1976, during intraday trading. The currency reached parity with the U.S. dollar on September 20 for the first time since 1976 thanks to the commodities boom. The Canadian dollar has gained almost 19 percent again the U.S. dollar so far in 2007.

Indicator scoreboard

EMU — August producer price index slowed to an increase of 0.1 percent and 1.7 percent when compared with last year thanks to low energy prices. Core producer prices were up 0.2 percent and 2.9 percent on the year. Energy prices declined 0.7 percent and dropped 2.2 percent on the year. The respite from lower energy prices will be short-lived however because of soaring energy prices. On the month, capital and durable consumer goods prices were unchanged while nondurable goods prices accelerated 0.5 percent and somewhat offsetting the impact of the energy price drop.

September unemployment rate remained at 6.9 percent for the third month and at its lowest since the inception of the series in 1993. Unemployment reached a high of 8.9 percent in May and June 2004. The unemployment rates declined for Germany and France but edged up in the Netherlands. It remained steady in Spain, Austria and Finland. Unemployment remains relatively high when compared with the U.S. with an unemployment rate of 4.6 percent and Japan with a rate of 3.8 percent. The national unemployment rates differ from those calculated by Eurostat for this report even though they use the same raw data. Eurostat uses its own adjustment process.

August retail sales edged up a disappointing 0.1 percent and were up 0.5 percent when compared with last year. The three-month moving average for June through August was up 0.4 percent. The upward revision to July offset August’s failure to match analyst expectations however. But concerns about high oil prices and the negative impact on other purchases continue to worry as they weigh on confidence and subdue spending. Retail sales account for only part of household final consumption (auto sales, for example, are excluded) and do not always correlate directly with this GDP component.

Asia/Pacific

Japan —Third quarter Tankan business conditions for large manufacturers were unchanged from the second quarter at a reading of 23. The reading implies that manufacturers are bullish on the export market. Small manufacturer’s sentiment, which reflects the domestic sector, recorded a reading of plus 1, down from plus 6 in the second quarter. Nonmanufacturing sentiment slipped to 20 from 22 for large enterprises while small nonmanufacturing sentiment declined to minus 10 from minus 7. The Tankan business sentiment survey is regarded as one of the most important Japanese indicators, particularly because of its importance in policy making by the Bank of Japan.

Australia — August retail sales were up 0.7 and 7.8 percent when compared with last year. Analysts expected sales to increase by 0.3 percent after jumping 0.9 percent in July. Apparently rising oil and fuel prices that were expected to cut into household incomes failed to reduce spending on other goods. Average gasoline prices in the week ending September 23 were the highest in six weeks, according to the Australian Institute of Petroleum. Employment increased by 31,900 jobs in September, almost twice as many as expected and the unemployment rate is at its lowest since 1974. Food sales were up 1 percent and household good sales were up 2.4 percent while hospitality & services were up 1.2 percent. Department store sales sank 4.2 percent on the month.

August merchandise trade deficit widened to A$1.6 billion as the demand for consumer goods vastly outpaced growth exports of iron ore and coal. Imports were up 5.5 percent while exports were up only 1.8 percent. Exports have been slowed as limited capacity at port and rail facilities prevent mining from keeping pace with the growing appetite for resources in Asia. Another contributing factor to the deficit is the rising value of the Australian dollar — up over 12 percent against its U.S. counterpart so far in 2007, making imports cheaper.

Americas

Canada — September employment increased by 51,100 new jobs. The unemployment rate dipped to its lowest level since November 1974, 5.9 percent. Both full time and part time employment were up. Full time added 32,500 jobs while part time added 18.700. Across sectors however, it was not all good news as goods employment dropped by 9,500 and manufacturing was down by 3,200. However, the service sector more than made up for those losses, gaining 60,700 jobs. In 2007 so far, employment is up by 1.7 percent or 283,000 jobs. The largest employment increases were in educational services, up by an estimated 25,000, and in public administration, mostly local and municipal, up 22,000. There were 18,000 more persons employed in professional, scientific and technical services, mostly in architectural, engineering and design services. Agriculture rose by 13,000 persons. In the first nine months, the number of hours worked nationally was up 2.1 percent. Employees on average earned 4.2 percent more per hour when compared with the same month a year ago.

Bottom line

Three central banks met and all three left their key interest rates unchanged. The Reserve Bank of Australia kept its rate at 6.5 percent while the Bank of England kept its 5.75 percent rate and the European Central Bank, its 4 percent rate. The important economic information waited until Friday when the U.S. employment report revealed that employment increased in August rather than decreased and was up as expected in September. In Canada, employment grew at a much greater rate than anyone expected which sparked a rally in the Canadian dollar, pushing its value even higher against its U.S. counterpart.

On the agenda next week, is the Bank of Japan monetary policy board meeting. Analysts think that the BoJ is in no hurry to increase their policy interest rate above its current level of 0.5 percent, given the current economic and political environment.

Looking Ahead: October 8 through October 12, 2007

Central Bank activities
October 10,11	Japan	Bank of Japan Monetary Policy Meeting
The following indicators will be released this week...
Europe
October 8	Germany	Manufacturers Orders (August)
	UK	Producer Input and Output Prices (September)
		Industrial Production (August)
October 9	Germany	Industrial Production (August)
		Merchandise Trade Balance (August)
	UK	Merchandise Trade Balance (September)
October 10	France	Industrial Production (August)
	Italy	Industrial Production (August)
October 11	EMU	Gross Domestic Product (Q2.07 revised)
Octoer 12	EMU	Industrial Production (August)
Asia/Pacific
October 11	Australia	Employment, Unemployment (September)
October 12	Japan	Corporate Goods Price Index (September)
Americas
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