Global Markets

Stocks were down last week as pressures from the subprime mess resurfaced and financial firms began reporting earnings results and their heavy losses — heretofore only guesses — became hard facts. Only the Shanghai Composite and Bolsa managed to have positive results for the week. Comments by Fed Chairman Ben Bernanke which reassured market participants that the Bank was willing to act aggressively had only a momentary positive impact.

Investors began the year as they ended the last one — in a bearish state. Their worries include the outlook for company earnings, the rising cost and availability of debt given the credit squeeze among banks, and the question of how high corporate default rates could rise in 2008. And the weak December employment report did not ease their worries about U.S. growth.

The deepening gloom surrounding the global economy prompted risk-averse investors to dump equities and drove gold to a record high. Japanese stocks fell to their lowest since November 2005 while European stocks fell to a 13-month low. Fears of a consumer slowdown were heightened after a number of retailers reported slowing sales growth over Christmas.

Although growth in the eurozone is also slowing, the European Central Bank remained more concerned with inflation and left rates unchanged at 4 percent Thursday. With little likelihood of a rate cut in the near future, the euro was well supported on currency markets, particularly against the pound after disappointing UK data. The Bank of England’s decision to leave UK interest rates at 5.5 percent gave the pound some brief support.

Global Stock Market Recap

Europe and the UK

Equities sank last week as poor December retail sales data combined with poor earnings reports weighed on investors. With consumer spending finally hitting the brakes, earnings from key retail companies sank and analysts responded in turn by slashing earnings forecasts. Travel company equities were also hit as were restaurants and house builders. Worries about U.S. growth, which are never on the backburner, contributed to the gloom. On the week, the FTSE was down 2.3 percent while the CAC sank 1.4 percent and the DAX, 1.2 percent.

Bank of England and European Central Bank on hold for now

Will they or won’t they was the question of the week as analysts weighed the pros and cons of a Bank of England rate cut. But in the end, the monetary policy committee left its key interest rate at 5.5 percent. The MPC continues to assess the impact of December’s rate reduction in light of dampened consumer spending and the deepening slowdown in the housing market against inflationary pressures. The Bank joined the Federal Reserve in cutting rates in December in response to the global jump in credit costs sparked by the U.S. subprime mortgage slump.

With the next quarterly Inflation Report due in February, MPC members will have more recent information to include in their forecasts. The Bank’s rate remains the highest among G7 countries. Although third quarter growth was robust, recent data have indicated that the economy may be slowing faster than anticipated as a combination of past rate increases take hold and the global credit crunch shows signs of negatively affecting key sectors of the economy such as housing. The Bank of England has an inflation target of 2 percent and consumer price inflation was above that level in November.

As expected universally, the European Central Bank left its key interest rate at 4 percent for the eighth month. The global credit squeeze forced the ECB to postpone anticipated rate increases to combat inflation that has risen to 3.1 percent on the year compared with the Bank’s inflation target ceiling of below but close to 2 percent. In the post meeting press conference, ECB President Jean Claude Trichet signaled the bank would not cut interest rates and may even raise them to contain inflation even as economic growth slows. Trichet said that the Governing Council was “prepared to act preemptively so that second-round effects and risks to price stability do not materialize.”

The Mediterranean islands of Cyprus and Malta attended their first governing council meeting since becoming EMU members on January 1st.

Asia/Pacific

Stocks ended the first full trading week of the New Year pretty much as they began. All indexes were down in the region with the exception of the Shanghai composite, which managed to gain 2.3 percent on the week. The Nikkei continued its 2007 decline into 2008 and ended the week at its lowest level in more than two years as the rising value of the yen against the dollar and Bank of Japan Governor Toshihiko Fukui's lackluster comments on the Japanese economy contributed to further negative sentiment. The index was down 4 percent on the week. The Topix closed at its lowest level since October 2005. Export oriented stocks such as autos and high technology stocks were hard hit. Major declines were also seen in real estate, marine transport and construction issues.

Asian shares reversed early gains Friday to end the week sharply lower amid a report that a major financial house would have to write down about $15 billion of assets, double its initial estimate. As one would expect, financial stocks took a big hit.

With his term as governor of the Bank of Japan expiring on March 19, Toshihiko Fukui asked legislators Friday to pick as his successor a person with four particular qualifications — the governor should be convinced of the importance of the stability of the (Japanese) currency, to have a keen sense of international affairs, to be alert to the realities of the markets and to be able to lead Policy Board discussions. The question of who will take over as the new governor is under scrutiny in political and business circles. Since the ruling coalition lost its majority in the House of Councillors in last year's election, the main opposition Democratic Party of Japan is expected to have a say. Although the Cabinet has primary authority in the selection of the BOJ governor, any appointment must be endorsed by the two chambers of the Diet.

STI revamped

The FTSE Straits Times Index Series tracking Singapore's equity market replaced the former Straits Times Index mid-week. It was biggest revamp of the city's stock benchmarks in almost a decade. The members of the FTSE Straits Times were selected based on companies' free float, or the percentage of shares available to the public, and trading volumes.

Currencies

Equity market woes have put upward pressure on the yen as investors pare carry trades where they use low cost funds from Japan to buy higher yielding assets. The moves were prompted by renewed subprime credit market losses by the major financial companies. Markets do not like uncertainty and nobody knows how much the banks really lost on subprime mortgages.

Projected interest rate cuts in the U.S. while rates will remain on hold and perhaps increase in the eurozone led to a decline in the U.S. dollar last week. The fed funds target rate is currently 4.25 percent while the key rate for the ECB is 4.0 percent. Should the FOMC acquiesce to market clamor for a 50 basis point cut, the fed funds rate will be under that of the ECB for the first time since October 2004 when both banks had their key rates set at 2 percent.

The pound sterling has been declining against both the U.S. dollar and the euro. Against the euro, the pound is at an all time low since the euro’s 1999 introduction. Sterling dropped to the low against the euro and to its weakest level in six months against the dollar on Wednesday as bad news from the UK retail sector heightened fears about the economy. Sterling fell again to another record low as the gloom surrounding the UK’s manufacturing sector deepened. The pound gave back any support it received from the Bank of England’s decision to leave interest rates at 5.5 percent.

Indicator scoreboard

In the plethora of data last week, there was some good news. In Australia, retail sales continued to be vigorous, unlike those released elsewhere. International trade data was also mixed, with the Canadian and German surpluses improving while the deficits in the U.S. and France continued to grow. Orders soared in Germany but at the same time, industrial production disappointed. Concerns about inflation remain as food and fuel prices remain stubbornly high.

EMU — November producer prices were up 0.8 percent and soared 4.1 percent when compared with the same month a year ago. The deterioration reflects the impact of sharply higher energy and, to a lesser degree, food costs and as such should not pose quite the problem to monetary policy that first appearances might suggest.  In November alone, energy prices jumped 3.2 percent or 7.8 percent on the year, up from an annual 4.2 percent in October. The monthly increase in energy was the largest since January 2006 (3.9 percent). Significantly, excluding energy the PPI edged up 0.1 percent, leaving the annual rate unchanged at 3.2 percent. On the year, prices were up a modest 1.9 percent for the durable consumer goods sector and 1.5 percent for capital goods. 

November unemployment rate remained at 7.2 percent for the second month. This compares with the November unemployment rate in the U.S. of 4.7 percent and in Japan, 3.8 percent. Unemployment edged down in Germany and France while remaining unchanged in Spain. The Netherlands has the lowest rate in the EMU of 2.9 percent.

November retail sales were down 0.5 percent and were down 1.4 percent when compared with the same month a year ago. Food sales were down 0.4 percent while non-food dropped 0.6 percent. The slide was widespread with declines registered in five of the seven reporting states. The declines in Belgium (1.1 percent), Portugal (1.0 percent), Slovenia (0.8 percent) and France (0.6 percent) were especially marked. Only Luxembourg (13.5 percent) and Finland (0.9 percent) managed to post a gain.

Revised third quarter gross domestic product was up 0.8 percent (originally reported as 0.7 percent) and up 2.7 percent when compared with last year. The marginally stronger headline reflected a positive adjustment to investment which is now estimated to have expanded by 1.2 percent on the quarter, up from the previously reported 0.9 percent. All of the other major expenditure components registered insignificant revisions although a slightly weaker performance by exports (2.2 percent from 2.5 percent) was offset by slower import growth (2.6 percent from 2.7 percent). Consumption still rose 0.5 percent on the quarter and government spending was unrevised at 0.6 percent.

EU — December overall economic sentiment was virtually unchanged at 104.7 but down from 104.8 recorded in November. All categories edged down with the exception of services which edged up to 14 from 13 in the previous month. The industrial sector edged down to a reading of 2 from 3 while the consumer dropped a notch to minus 9 from minus 8. Retail was down to 1 from the previous reading of 2 while construction ebbed down to minus 5 from minus 4.

Germany — November manufacturers’ orders soared 3.4 percent and were up 13.6 percent when compared with last year. Domestic orders jumped by 4.2 percent while foreign orders were up a solid 2.8 percent. Among the major product groups, the consumer area remained soft (down 1.1 percent), but basics were very robust (4.3 percent) and capital goods continued to boom (3.6 percent).

November industrial production was down 0.9 percent but up 3.5 percent when compared with last year. Following a string of hefty gains, a dip in capital goods (0.8 percent) was hardly a surprise but much more worrying were fresh declines in basics (0.4 percent), construction (0.7 percent), energy (1.6 percent) and, particularly, consumer goods (2.3 percent), where both durables (3.5 percent) and non-durables (2.3 percent) were notably weaker. The durable goods sector has never really recovered from the hike in VAT at the start of the year and has fallen in five of the last six months.

November merchandise trade surplus climbed to €19.8 billion from €18.9 billion in the previous month. Exports dropped 0.5 percent on the month while imports slumped 3.0 percent. Over the first 11 months of 2007, exports to non-EU countries were up nearly 5 percent compared with a decline in imports of 1.2 percent. 

November retail sales excluding autos and gasoline sank 1.3 percent and were down 3.8 percent when compared with last year. Sales increased in only two of 11 months in 2007. Total sales were down 1.5 percent and 5.6 percent on the year. Total sales were down every month in 2007.

France — November merchandise trade deficit expanded to a record €4.8 billion from €3.6 billion in October. The shortfall over the first 11 months of the year soared to €35.2 billion, up some 39 percent from the same period of 2006. Exports were down 1.8 percent while imports jumped 1.5 percent. A major problem is energy sector where a shortfall of €4.0 billion in October expanded to a €4.5B deficit in November. Other major categories posting red ink were consumer goods, basic goods and non-military industrial goods. As usual the largest bilateral deficit was with Germany. Net trade with the U.S. was in broad balance but once again in deficit with Japan.

November industrial output excluding construction sank 1.5 percent but remained up 2.5 percent when compared with last year. The drop is prejudiced by a 10-day strike in the transportation sector that began in the middle of the month, but the impact was likely quite slight. All of the major production categories outside of capital goods (up 0.3 percent) registered monthly declines. The key manufacturing area dropped 1.3 percent led by a 5.3 percent slump in autos. Food and agriculture was down 2.0 percent and semi-finished goods 1.6 percent. Construction dropped 0.4 percent while energy shrank 2.0 percent.

United Kingdom — November global trade in merchandise goods shortfall was essentially unchanged at £7.4 billion as exports rose 2.5 percent on the month and imports climbed 1.9 percent. This compares with the record £8.0 billion deficit registered in September. The bilateral gap with non-EU countries narrowed insignificantly to £4.4 billion while with the rest of the world, the red ink held steady at £2.9 billion. Excluding oil and erratics, the underlying deficit showed a slight improvement at £6.5 billion, down from £6.8 billion in October. Higher oil prices saw the shortfall on the oil account widen out from £530 million to £663 million, the highest since September 2005. Further increases in prices are likely to see a continued deterioration in net oil exports December.

November industrial production edged down 0.1 percent but was up 0.4 percent when compared with last year. The report would have been weaker still but for a 1.4 percent monthly gain in production in the electricity, gas and water sector. The other major groupings all posted declines with oil & gas extraction and mining & quarrying both down 0.9 percent. Manufacturing output also slipped 0.1 percent but managed to gain 0.1 percent on the year. Eight out of the 13 industries comprising the sector registered declines led by electrical and optical equipment (1.9 percent). The only notable increase was posted in the transportation equipment area which saw production bounce 2.4 percent. Among the major market sectors, the only non-negative reading was in intermediate goods where output was unchanged from October. Durables (1.2 percent), non-durables (0.1 percent) and capital goods (0.1 percent) all saw declines.

Asia/Pacific

Australia — November retail sales were up a greater than expected 0.8 percent and 8.1 percent when compared with the same month a year ago. By all accounts consumers finished the year strongly in the pre- and post-Christmas spending season. All sectors were up on the month with the exception of recreational goods retailing which dropped 1.7 percent. Hospitality and services were up a healthy 2 percent while other retailing gained 1.8 percent. Clothing & soft goods were up 0.9 percent, household goods were up 0.7 percent and food retailing was up 0.6 percent on the month in part due to higher food prices.

November merchandise trade deficit was A$2,254 million, a decrease of A$609 million from the previous month. Exports were up 5.6 percent while imports were up 1.8 percent. Rural goods exports were up 5 percent while non-rural goods were up 7 percent and other goods were up 14 percent. Contributors to the increase in exports included meat & meat preparations, up 13 percent, wool & sheepskins, up 13 percent, metal ores & minerals and metals up 19 percent. Imports of consumption goods were up 4 percent with non-industrial transport equipment imports climbing 6 percent while food & beverages were up 9 percent. Capital goods imports were up 6 percent with machinery & industrial equipment imports jumping 13 percent and industrial transport equipment soaring by 15 percent.

Americas

Canada — December employment was down by 18,700 following seven consecutive gains and most recently, two consecutive months in which the increase in payrolls easily surpassed expectations. Full-time jobs dropped 9,300 while part-time employment was off 9,400 but this still left the unemployment rate unchanged at 5.9 percent. All of the employment losses occurred in the private sector (51,300) with the goods producing area baring the brunt (23,900). Public sector payrolls managed a modest increase of 10,700 as did overall services, up 5,200. Manufacturing employment was down 33,200, agriculture was down 22,600 and utilities were down 1,700 while construction was up 12,900 and natural resources were up 20,800. Services were buoyed by transportation & warehousing (20,700), trade (18,600) and health care and social assistance (6,300). Losses were registered by accommodation & food, education and other services. Actual unemployment rose by 4,200. The participation rate slipped 0.1 percentage points to 67.7 percent, a decline matched in the employment rate to 63.7 percent.

November merchandise trade surplus expanded to C$3.7 billion from a slightly smaller revised C$3.1 billion in October. The widening reflected a 3.1 percent increase in exports that more than offset a 1.7 percent rise in imports. In volume terms, exports were up a solid 2.5 percent while imports advanced a more modest 1.0 percent. Despite record levels of the local currency against its U.S. counterpart, the bilateral trade surplus widened for the first time since August 2007 to C$6.4 billion. With the exception of consumer sector exports which were down 4.5 percent, energy exports were up 5.4 percent with the crude petroleum component soaring by 13.1 percent. Exports of industrial goods were up 4.8 percent with metal ores (9.8 percent) and chemicals, plastics & fertilizers (8.1 percent) accounting for the lion share on the back of strong Asian buying. Imports were driven higher mainly by a large increase in energy (20.8 percent), itself in part reflecting hefty increases in crude petroleum prices. Machinery and equipment continued to weaken (3.4 percent) and industrial goods and materials also edged lower (0.1 percent).

Bottom line

Both the Bank of England and the European Central Bank left their key interest rates on hold at 5.5 percent and 4.0 percent respectively. Both the U.S. dollar and pound sterling were down against the euro for the week. In Europe and the UK manufacturing output disappointed while orders soared in Germany. Financial markets remained volatile as the beginning of earnings season began and with it new information about the depth of subprime losses.

Major indicators for the UK are released this week including producer and consumer price indexes and labour market data including unemployment. And in Germany, the all important ZEW business sentiment index will be watched closely.

Looking Ahead: January 14 through January 18, 2008