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Review
Sterling, since crashing out of the European Monetary System in 1992 and being over valued for 15 years, has experienced a rollercoaster ride in the last couple of years (falling against most major currencies). Recent falls were attributed to the BoE Governor, Mervyn King suggesting that the lows the pound had fallen to could be beneficial to the economy. This comment was generally interpreted to mean the BoE would be doing little to support the currency. The yen has experienced a short term boost as increased flows for Japanese exporters increased the demand for the currency.

Outlook
The improvement in markets in recent months has generated a rally against the dollar in high beta currencies. If we accept that the future won’t continue to be quite so rosy with high levels of debt, increasing unemployment and increased taxes the threat to currencies remains quite high. The outlook for the dollar looks better having languished with the Swiss Franc and Japanese Yen in performance terms over the last 2 quarters. This is far from the case for the Euro which is likely to move lower as more ‘bad news’ belatedly emerges within Europe. Policy response in Japan is more muted than elsewhere and this creates skepticism when it comes to the Yen. The tax policy to persuade corporations to repatriate foreign earnings offsetting yen outflows is likely to have less impact as they have not put a time limit on the initiative which has weakened the outcome.

Review
Corporate bond markets have attracted amazing interest and vast inflows of funds from private and non-traditional investors over the last 9 months or so. The theory was that prices already reflected too high a rate of corporate casualty. While the high yields and the view that bondholders will get substantially repaid in the event of default has won the day, the easy money has already been made and a degree of caution is surely needed from here.

Sovereign debt has been anything but gentle in recent months. Wide movements have become the norm at all points of the maturity range as government and central banks change their views over inflation or deflation.

Outlook
The outlook for corporate bonds is mixed in so far as individual issues need careful examination. Investors are still chasing yield, which some will handsomely deliver; but banks agreed extremely loose covenants in recent years and it is unlikely to be in their interest to challenge technical breaches as they occur. This could leave some businesses in ‘Zombie’ status, from which some will recover, while others borrowers could leave little or nothing to bondholders.

The defensive qualities of government/central bank debt are still very attractive and the quantitative easing measures should provide support for longer dated maturities whilst providing some level of stability for shorter dated holdings initially; but supply concerns and longer-term inflationary expectations may damage the bond markets next year.

Review
The demand for high risk assets has been strong, with many believing the valuation lows are behind us. A lot of this is panic buying, attracting investment from those who are fearful of missing out on the risk reward rally but reality may have to be faced at a later point. The general assumption though is that the recent rally means the market has discounted the prospect of a multi-year low recession.

Outlook
The risk premium on equities is high by historical standards and we have to assume that volatility coupled with a low return environment is likely to be the picture for the foreseeable future. Many companies responded quickly to the slowdown and this coupled with the fiscal stimulus packages has generated surprise profit reporting from many companies. What we need to see is improvements in exports, consumer spending and investment into business to make the upturn in recent months more sustainable in the future. The consensus seems to point towards a fragile recovery subject to further financial blows and an abundance of volatility along the way.

Review
With Central Banks and governments keeping rates low for the foreseeable future, with the potential for further stimulus packages remaining, corporate balance sheets improving and debt restructuring having been helpful, it is possible that a number of REITs will have some ready cash to make purchases. There is definite evidence that newly-raised capital has been used to purchase property, primarily in the UK where yields relative to gilts are at new highs not seen since the 1930’s.

Outlook
The outlook for property in Europe could improve as there is generally a lower level of construction relative to other areas of the world and a diversity among the underlying regions. Globally the residential markets look weakest where rental values will fall due to constrained credit and uncertain markets but commercial markets in prime locations look more resilient. Prime locations across the UK and Europe should be attractive for retail operations whilst office space in cities that are less reliant on financial services or those where supply is tighter appear more promising. Equally there is potential in emerging markets such as China for warehousing to start to drive prices upwards.

Review
There has been an improvement in a number of commodity prices which has meant the de coupling story has started to raise its head again as money started to flow back into emerging market assets. A number of companies having ‘tightened their belts’ as we went into recession have been restocking and as this process starts to slow in the last few months of the year (unless western demand picks up) the de- coupling theory is likely to unwind again.

Outlook
Oil consumption has slowed and has hit its lowest consumption level for 10 years and 2010 looks unlikely to see much of an upturn in demand, although Goldman Sachs are predicting an end of year target price of $85 a barrel, a considerable improvement from the $64 low. Oil demand is set to be lower as travel remains weak and improved efficiency in industry and manufacturing take their toll on demand. Key drivers are China and other emerging countries, although short term price movements are more to do with stock piling and geo political nervousness or speculation, however, energy prices in general may have a more limited upside in a low growth world economy. Precious metals (especially gold) should continue to form a part of every portfolio.

Review
Hedge funds look set to have their best H1 since 1999, having posted returns of an estimated 9.73% to 24th June according to data provider Hedge Fund Research (1999: 12.5%). Investors seem much more likely to maintain an element of their portfolio in hedge funds after a promising start to the year, with many large pension funds confirming their commitment to the asset class.

Outlook
While all markets remain uncertain, many hedge fund managers are tempering expectations, suggesting they are cautiously optimistic for the remainder of 2009 and into 2010. They are now starting to see some inflows to their funds again. Difficulties are likely to persist with equity markets ending their recent rally, expectations for bond markets being more pessimistic for the second half of the year and private equity firms still struggling to find support from bankers. Hedge funds are generally a long way below their high watermark and investors are unlikely to be charged performance fees in the short term; but for many investors with exposure to hedge funds the first half of the year has been the least traumatic for some considerable time.

For more information on this article or our current view on markets, please speak to your advisor or contact us.

This commentary should not be seen as a recommendation or solicitation to invest. Anyone considering investing should first seek advice specific and appropriate for their own needs, objectives and risk appetite.