Bond Outlook [by bridport & cie, June 11th 2003]

Echoes of the start of 2000: PEs at much the same levels as then (22 on the DJIA, 35 on the S&P500), continual rises in the stock markets despite unremitting poor data on unemployment, factory orders, wholesale sales and manufacturing activity. Business Week, which momentarily joined the bears as the Iraq war broke out, has returned to spinning good news out of nearly nothing. Their argument this week is that spare manufacturing capacity has declined, so business investment must pick up. Bad news such as IBM and Freddie Mac engaging in misleading reporting, or Motorola having problems in its semi-conductor business, seems to have only a one-day effect on the stock markets, which immediately return to their expansion. As for the fundamental data on economic activity, no one is interested in them.


This looks like a mini-bubble, but there are, of course, differences with 1999/2000. Then, investors were taken in by the concept that the basic rules of economics had changed. Now, it seems to be a case of so much money looking for a home that much of it moves to stocks "regardless". Stocks look attractive partly because returns on anything else are so low, and partly because of nothing more than the crowd effect. Technical analysis pointed to this rally, and its prophecy has been duly (self) fulfilled - so far.


The behaviour of interest rates now and then contrasts also. In the end 90s bubble, interest rates were rising as the Fed made a feeble attempt to counter "irrational exuberance", but it was as if the mere fact of the Fed raising them proved that the economy was powering ahead. The bubble burst and the argument was reversed. "Interest rates are going down, so the economy will turn round and stocks take off again." Three years after that new tack, interest rates are still declining and expected to continue downwards. It is a source of continual amazement to us that an approach proven over three years to work so ineffectually for the underlying economy is still the central pillar of the US Administration's economic policy.


There are two possible outcomes to the policy of ever cheaper money (plus lower taxation). Either "traction" will be achieved (odd how that word was used so much two years ago), or deflation will settle in. Despite our general scepticism over US economic policy, we do not expect the USA to follow Japan and Germany into multiple year deflationary stagnation. That is because the blatant weakness of the US economy (everybody living beyond their means) can, in time, be corrected by the weaker dollar. It appears that US officials are very divided on this issue, but it does not really matter, as the market does its work despite their doubts. It will take two or three years to work through the process of import substitution to increased exports, but the end result will be a healthier US and world economy.


One good thing about Europe is that there is no Administration issuing rose-coloured spectacles to everyone. The economic situation is bad, and no one is hiding that fact. The ECB has to focus on Germany's plight rather than the lesser problems of inflation in Ireland and Portugal. The 3% limit on deficit spending has to be lifted. Pension reforms are inevitable, and the sooner they come the less the pain. We would not go so far as saying the euro zone's problems are pulling it apart, but they do make the euro look ever less attractive to the UK, which is doing "least badly" in these difficult days.


Back on January 15 and again on February 19, we warned readers of the danger of the Norwegian Crown weakening. It has since weakened much further, and technical analysis now suggests a danger point.


We remain optimistic about Russia, and its bonds have performed very well. Its economy is very attractive, but there remains a political risk (of an "oligarch", rather than a communist, take over), and returns on bonds are much lower than even a few months back. Limited profit taking looks appropriate.


The Blair/Brown policy on the euro is modelled on Greenspan's pronouncements. You can always find what you are looking for! Five economic tests and 2000+ pages of analysis leave plenty of room for interpretation. Had Brown wanted to, he could have made a case for joining from exactly the same data. However, public opinion and the power of the Sun (the largest UK mass circulation newspaper, fervently anti-European in all things) are formidable barriers, for which subtleties about increasing exports to Europe and increased inward investment will cut no ice. The Sun has but to point to Germany and France.


Recommended average maturity for bonds in each currency


Stay long in dollars and euros, yields have to decline further.

As of 07.05.03

Dr. Roy Damary

Currencies (by GNI)
The market is continuing to consolidate and is digesting the recent interest rate cuts. The ECB has left the door open for further easing after its cut of last week. The majority of primary dealers in the USA are looking for another easing by the FED, of at least 0.25, or even 0.50%, on the 25 June. Equity markets still look well supported and US economic numbers, especially "expectations", are also improving but are still considered unconvincing. The management overhaul at Freddie Mac and the possible accounting problems need to be watched carefully. Strikes in France, pension fund problems in Germany and the terrible state of the majority of the European economies are being completely ignored by the forex markets.

EUR/USD: 1.1550/80 is acting as major support now. 1.1620/50 is already attracting some buyers, with upside resistance at 1.1780 and 1.1850


USD/CHF: 1.3070 is providing major support for the time being, with the CHF still losing ground against many currencies. A break would open the door for 1.2970. The upside is 1.3170, followed by 1.3280 and 1.3450


USD/JPY: The BoJ continues to prove itself adept at defending the USD/JPY 115.00 zone. 117.50/80 is still acting as a major support zone, while 118.90/119.10 looks rather heavy at present. Only a clear break above 120.30 would trigger an additional move, direction 121.50


EUR/JPY: The air is getting thin around 140.00. Support is at 137.70 and 136.80, followed by 135.50. 138.80 is providing upside resistance


GBP/USD: 1.6230/80 remains a very strong support. The upside is 1.6550 1.6630 followed by 1.6750.


USD/CAD: We keep our long CAD position established at 1.3905 with a stop profit at 1.3800. Support is at 1.3550, 1.3480 and 1.3400. Resistance at 1.3680, 1.3750


AUD/USD: The support has gradually moved higher from 0.6350 up to 0.6480. Topside resistance is at 0.6610, 0.6680



Current spot level


Current spot level

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