Bond Outlook
[by bridport & cie, November 28th 2001]
It continues to be a source of great wonder for us that investors
feel so optimistic about a US recovery despite the continued poor
performance of the underlying economy. Consumer confidence has been
highlighted as the source of renewed growth, while our view has been
that consumer confidence alone is not enough. The least we have
been looking for is renewed industrial growth and profits. Better still,
we would like to see a rebalancing of the US economy both internally
(private expenditure vs. earnings, sensible stock valuations) and
externally (the balance of trade and the strength of the dollar). It looks
like we are asking for the moon on the rebalancing, but we remain stubborn
about underlying economic activity needing to expand. Last week we pointed
out that 2002 is forecast to see a lower US GDP growth than even this
year. Now the OECD has "officialised" that forecast. Earnings growth and
GDP stagnation are very bad bedfellows. |
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The continued spending rate and high confidence of the US consumer
is itself a wonder. There has however been slippage this week. The latest
survey of confidence has given the worst results since February 1994. Many
commentators are now writing publicly that the tech rally is ahead of
itself. Some are even alluding to a "second bubble". The dollar has now
backed off its recent highs, reflecting the sense of doubt that all is not
so well as Paul O'Neill and others are telling us. That said, there is
still no denying the stock rally and bond decline that have taken place.
The recent trends are real enough, but it is legitimate to doubt whether
the foundation for further stock gains and bond declines is
there. |
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Despite the contradictory and frankly propagandist statements of
American officials, we still expect a further cut in the Fed rate, but
cannot imagine it going below 1.5%. The amount of corporate bonds on issue
and in the pipeline is another signal that interest rates are near (but
not yet at) their bottom. For maturities, we believe that an average of 5
years, as suggested last week is fine, but in the context of continued
shortening. So much depends on whether and when "traction" is achieved,
and it is not there yet! |
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We have written little of Japan in recent weeks, because no
progress was apparent. It is the one country where bad news, like today's
further downgrading by S&P, can be good. This is because only by
passing through increased unemployment, a lower yen and inflation can this
country recover and play its positive role in the world economy. The news
this week is of a lower yen, some privatisation and disenchantment of
insurance companies with the stock exchange (how long does it take?), are
all small but positive steps. |
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Two emerging markets are in great contrast at present: Russia, with
its improving credit rating and every sign of economic and political
progress, and Argentina where expectations could scarcely be worse. We
have been debating whether Argentina could be like Russia after the
latter's bond collapse three years ago. Those who bought Russian bonds at
their lows, or even recently, have done very well (even to the point where
some profit taking might be in order). The Argentinean bond exchange
programme is now underway, with November 29th the deadline with JP Morgan
for foreign bondholders who wish to participate in the exchange. However,
we can see no reason to accept. Our strong recommendation for foreign
holders of Argentinean bonds is to sell them without further delay.
Argentina appears to have condemned itself to a lasting recession until it
unhooks its currency. |
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Nearer to home, we note that Norwegian Government bonds are
offering in the range 130 to 200 basis points spread (10 to 3 years) over
their euro equivalents. The currency looks strong, although much will
depend on future oil prices. It has been about two years since we last
thought Norway worthy of consideration by bond investors, but the time has
come to look again. |
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Interest rates in Switzerland may be expected to decline further,
because the currency is so strong against the euro (and it may supposed
that the CHF behaves in the "old-fashioned" way of falling when relative
interest rates go down). In addition, the country is heading for recession
while inflation is low. Switzerland's dependency on Germany as its trading
partner is still very great, and the German economic news is
grim. |
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In the debate of bonds in euros versus dollars, the exchange rate
is the key issue. The recovery of the euro last night has given us some
re-assurance in our confidence of a stronger euro when it becomes a real
currency. In addition, so far as bondholders are concerned, the spread of
Bunds over T-bonds has reversed (22 basis points higher yields of Bunds in
early October, now 37 basis points higher for T-bonds - taken at ten
years). It looks likely that bonds in euros will continue to outperform US
bonds. |
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Recommended average maturity for bonds in each
currency Continue to shorten, especially in
euros.. |
Currency: |
USD |
GBP |
EUR |
CHF |
Over the period
15.08.01 to 21.11.01 |
2008 |
2006 |
2011 |
2011 |
As of
28.11.01 |
2006 |
2006 |
2006 |
2006 |
|
|
Worse than expected US consumer confidence numbers, positive talks
about the euro by European officials, as well as equity markets beginning
to give up some of the gains achieved since mid Sept, have combined to put
the dollar under selling pressure. |
|
EUR/USD: the euro is finding good
support in the 0.8750/80 area, but needs to break its resistance at 0.8880
for a retest of 0.9010. |
|
USD/CHF: the 1.6480 to 1.6530
area remains key. A weekly close above this level would lead to a retest
of its resistance at 1.6750 to 1.6800, but only a close above this higher
level would lead to further progress in the direction of
1.7000. |
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The downside remains open with 1.6380 and 1.6250 as the next key
supports. Keep in mind that this currency pair remains extremely volatile,
especially win the approach to thin pre Christmas markets
|
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USD/JPY: despite the fact that the
dollar managed to see a high of nearly 124.60, the US unit has come off
quite substantially. A broad trading range is finding good support at
122.50 and 121.30, with the BoJ protecting the 120.00 area. It might be
difficult to see the exchange rate moving above 125.50 in the short
term. |
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EUR/JPY: A large trading band is
developing in a 106.50 to 111.00 range. The downside here is also well
protected by the BoJ. |
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USD/CAD: No change in our comment of
last week: keep 50% of a long CAD position against USD established at
1.5990, double up at 1.6080 with a stop/loss at 1.6200. Short-term
consolidation is under way in a range of 1.58 to 1.61. |
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AUD/USD: Same comment: the Aussie has
created a solid base above 0.5000 and solid support comes in already at
0.5110. The topside should be limited to the 0.5280 to 0.5310
level. |
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GBP/CHF: Extreme volatility in this
cross will continue. A broad trading band is developing in a 2.3100 to
2.4100 band. |
|
USD/CHF |
EUR/USD |
EUR/CHF |
USD/JPY |
EUR/JPY |
Resistance/Breakout |
1.6780 |
0.8880 |
1.4680 |
124.60 |
109.80 |
Current spot
level |
1.6500 |
0.8840 |
1.4650 |
123.30 |
109.10 |
Support/Breakout |
1.6380 |
0.8770 |
1.4530 |
121.50 |
107.20 |
|
AUD/USD |
NZD/USD |
USD/CAD |
GBP/USD |
XAU/USD |
Resistance/Breakout |
0.5280 |
0.4280 |
1.5990 |
1.4330 |
283.00 |
Current spot
level |
0.5200 |
0.4130 |
1.5880 |
1.4180 |
275.00 |
Support/Breakout |
0.5050 |
0.4080 |
1.5750 |
1.4080 |
272.50 |
|