After the dramatic surge shown by equity indices across Europe at the end of last year, the markets have continued to show confidence. The correction feared by some analysts in the first quarter has not materialised, despite worries that the markets are being driven by one sector only.
Sharon Coombs, European equity strategist with HSBC in London, feels that the market has been reacting strongly to consolidation and merger news, both in Europe and in the US, highlighting the Vodafone– Mannesmann bid and the AOL–Time Warner link-up. “This has seen a strong rally in media and telecoms stocks, but in Europe we are looking for a broader pick-up. Although some of the defensive sectors are picking up, they are not yet outperforming. Across Europe we still need to see some better news on industrial output before we see a stronger recovery based on a broader range of stocks.”
She feels that the focus of attention for the next few months will be the US and interest rates.”As always it all depends on how the markets react to the news of interest rate hikes. We are certain to see some, and the market may overreact as it often does, imagining that there are more in the pipeline this year. On the other hand they may feel the Fed is ahead of the game, but if we see two or more increases it could have a big impact.”
Coombs adds that the market has not priced in any increases.
The other main influence, she believes, is the fact that strong earnings have been priced in for the next few years, and any sign of bad news on the interest rate front could see a strong negative impact on equities.
Anna Mackman at CSFB in London points to another indicator which may yet have an influence on the markets over the next few months, especially with regard to the possibility of interest rate increases in Europe. “The variable we’ve not talked about much in the last couple of weeks that we’re keeping a ‘watching brief’ on is the euro/dollar rate – the euro has weakened a few cents recently, heading back towards parity once more.”
There has been speculation that the European Central Bank may be pressured into a rate rise earlier than originally anticipated, but Wim Duisenberg, president of the bank, has shown little inclination to snap decisions in his tenure so far. What is more, there would be worries about the resultant effect on demand, especially in Germany and France. Mark Waugh at Deutsche Bank agrees that an imminent rise is unlikely. “The overall picture in Europe is of strong growth with little signs of core inflation. However, oil prices are coming through now and we are seeing this push up the headline rate of inflation. Even so, we do not expect any rate increase until March at the earliest, but the current backdrop is pushing up bond yields in anticipation of rises, and clearly having some effect on the equity markets.” Kevin Hall