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The Fed’s move last month to raise interest rates is the focal point for most analysts’ analysis of equities in the Euro-zone to the end of the year and beyond.
“The rise should settle the bond market, and should also be the last one for a while,” says Anna Mackman, Euro equity analyst at Credit Suisse First Boston in London. “Given the recent rises, and the Y2K threat no banks will be making any further moves until well into the new year.”
Meanwhile, speculation over major cross-border mergers in the telecoms sector has kept markets surging ahead in the Eurozone. Not even the dramatic rise in oil prices has had a dampener on the indeces. “Even with oil prices touching $25 the markets do not seem to be worried. Obviously no company likes to announce that it is being hurt by such a rise, but it cannot all be being absorbed down the line,” says Mackman. She confirms that manufacturing must be hurting, but says that the fact that this is not reflected by the markets adds weight to the theory that a substantial part of the rise is being spread through the chain.
“Chemicals are the most likely victims of this, but even they are performing well considering, and surprisingly a rise from around $9 to present prices per barrel this year do not seem to be seen as an inflation problem.”
There is little doubt, however, that there are strong inflationary indicators showing up around the world, including the Euro-zone. “The market is assuming that the interest rate hikes in the US the UK and the Euro-zone are the last for a while, indeed some hope for much longer. We, on the other hand believe that we are still in an environment which favours further increases,” says Mike Young, chief European portfolio strategist at Goldman Sachs.
“There is compelling evidence of highly synchronised global expansion, perhaps the most significant since 1998-99. This is a clear indicator of inflation, and we are seeing other indicators across global markets. Although we are unlikely to see inflation in the high single digits we will certainly see an increase in the numbers, which could mean a reversal of the recent bond rally,” he adds.
Tim Harris at JP Morgan also believes that we may see a bear market for bonds before long. “The markets have not priced in the monetary tightening which we believe is around the corner, that combined with growth risks could reverse recent bond trends,” he says. Mackman is less pessimistic but thinks the bond market “will probably be steady from now on”.
On the earnings front Young believes: “Everything is getting the spin as the market ignores some warning signs, but earnings are very good. In the Europe as a whole we have seen 12–14% and predictions of 16% next year.” If the UK is stripped out of these figures the Euro-zone earnings could be in the 15–20% band next year. “If bond yields do not have to go higher the market is looking very strong. But for reasons I have outlined there could be problems around the corner.”
Because of fears about the pricing in of monetary policy, Young is concerned about bond sensitive sectors such as financials and utilities. “We are definitely underweight in utilities, but this is balanced by business services such as information technology, hi-tech stock and telecoms.” Young believes Europe will continue to close the technology gap with the US, and whilst the stocks in this sector are not cheap, sustained earnings over the next decade would make them appear so later.
The likelyhood is that the markets will be quiet towards the year end, but low volumes may mean more hikes in the indices. Kevin Hall

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