Looking at the US, the recent interest rate cuts obviously has been one of the main factors easing the global financial crisis, but it has also sent back the equity prices to what they are now being fairly high levels compared to those of interest rates. It will be interesting to see if consumer confidence which bounced up last time, will maintain those high levels. If they do, there might be a risk that the Fed may have to increase in-terest rates in the third or fourth quarter which would be negative for stock markets all over the world.
Looking at Europe, it is quite clear that the Asian crisis is causing a slowdown in all the cyclical industries, and will hit employment and earnings possibly also in less cyclical industries, though the real question is how bad will it hit consumer confidence and how much will further interest rate cuts, which we think will come in the beginning of next year, balance that.
With Japan, seemingly the banks are accepting help and perhaps the Japanese market will also start to pick up in the second half of 1999 or first half of 2000. The Fed cuts did a lot to lower the risk for emerging markets and looking globally you can see risk premiums going down, but clearly you can also still see risks in Brazil and other markets. We are not allocating assets to emerging markets but the major risk seems to be reducing. If Japan starts to pick up in the second half of this year, it will clearly be a motor driving the rest of South East Asia, but South America might be more problematic. And a possible Japanese recovery will also do a lot of good for raw material prices which could do well for the cyclical industries’ equity prices.
The EMU effect, I think, will be quite large, more than people in general think. We think that all the new European indices and the reallocation away from national shares to international shares will favour liquid, blue chip stocks mainly within Euroland at the expense of mid and small caps. So we believe large equities will outperform small cap equities. M&A will continue to be a large factor also partially due to EMU for internationalisation, but also due to the price pressures of the somewhat dampening of the GDP development.
Overall we believe Euroland will perform better mainly because the price levels on equities in the US are so high right now. However, the risk is that pressure on corporate earnings could hit Euroland harder than the more flexible US industries.
Due to the pressure on earnings it is alsoworth while to favour industries and companies with pricing pow-er, due to monopoly power within a niche, strong brand names etc.
The year 2000 factor should also be mentioned. In the worst scenario it could have an effect of major strikes with businesses closing for a period, which will hit earnings and GDP.
Finally, looking at the flow of funds, the equity market is becoming more and more institutionalised, and as many major insurance companies get new funds, they will be investing them in the equity markets this month which could have a positive effect on stock markets.
Mats Larsson is an equity analyst with KPA in Stockholm