Markets show good gains in January, says Emirates NBD investment chief

By Gary Dugan, Chief Investment Officer, Private Banking, Emirates NBD

The rally continues. Global equities have gained almost 10% from mid-December and 15% from the October low. Stronger than expected activity economic data, notably in the US, has been the main driver of improving risk appetite and the performance of equities globally. Indeed in the US where the economic data has been persistently strong since August, the rally in US equities appears to have followed the good news.

Globally there has also been support for markets from the falling inflation backdrop. Lower than expected inflation has helped to maintain downward pressure on bond yields and together with the Fed signaling that it is prepared to keep policy rates low into 2014, it has also limited the willingness of investors to switch out of bonds into equities.

The return of risk appetite and lower inflation has played out most noticeably in the emerging markets. The recovery in many of the emerging market equities has been quite extraordinary. Hungary has led the way up 27% year-to-date, Egypt 27%, Turkey 27% Brazil 25% and India 24% in dollar terms. The returns from markets have in many cases been a good combination of a recovery in equity markets and a stronger currency.

In the case of India for example the returns from the equity markets at 11% have been enhanced by a 7% appreciation in the Rupee. The Rupee's recovery is all the more remarkable given that in a single month we have seen a reversal of 50% of the losses of the Rupee in 2011 of 16%.

The flows into emerging markets have been part of the reason for the appreciation of the currencies and markets. In January alone $11 billion flowed into emerging market mutual funds in the United States. Some of the flows into emerging markets are finding their way into the MENA markets. In recent weeks the rally in the UAE markets appears at least in part due to foreign buying.

UAE markets are attractive to foreign investors given the low valuations and the good flow of news. The recent commitment to projects in Abu Dhabi and the strong performance of the hospitality sector in Dubai are two factors that would have appealed to foreign investors as signs of the relative strength of the local economies.

Although equities have performed well bonds have continued to give investors good solid returns. High yield bonds have given investors positive returns in January. The surprise has been the strength of the Euro zone high yield market where
a generally more upbeat mood in Europe has helped all of the riskier bonds such as European corporate bonds.

The news out of the US economy remains solid. The US labour market data has continued to deliver positive surprises. The latest monthly data showed employment increasing by 243,000 well above the consensus forecast of +140,000. The unemployment rate dropped to 8.3% the lowest level since February 2009.

The strong US data has failed to turn around the Dollar. On a trade weighted basis the Dollar has fallen three per cent in January. The strength of the Euro has been a part of the story as the better news from the Euro zone has helped rally the Euro from oversold levels. However the Dollar's decline has been principally against of a number of currencies particularly the emerging market currencies.

We retain our view that, in due course as the outstanding structural issues weigh heavily on the Euro, the Dollar will regain the upper-hand against the Euro and hence current Euro/$ levels seem appropriate to take profits on the Euro's recent strength.

We have witnessed some profit taking in the gold market. The good US payrolls data sent the gold price to a high of $1763 before profit taking set in pulling gold down closer to the $1700 level. For choice we prefer to be buying gold closer to $1600 considering that gold is still up around 10% since the start of the year.

Markets could still go higher. The broad economic data has surprised to the upside. Also investors have been slow to accept the better news and have largely remained very committed to bonds and cash. To date there has not been a major move by investors out of cash and bonds and into equities. However to our mind it is still worth being cautious particularly given the major challenges in Europe and the still very tight monetary conditions that exist in Europe despite the best efforts of the ECB.

Banks are still struggling and have little appetite to lend to their customers. Limited risk appetite on the part of banks always restrains growth. In the US as the year progresses there will likely be more focus on the challenges facing a new Presidency in particular the massive deficit that will need reining in through 2013.