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Double dippers think twice

A muted recovery after August’s lows is forcing those who feared an aggressive reverse to reassess their outlook

The investment debate has moved on. The extreme nervousness has dissipated for now and the volume of those shouting about double dips has reduced dramatically.

The end of August marked the low point for bond yields, and equity markets, having proven relatively robust at the time, have recovered healthily. Key to this recovery has been economic data that did not go into aggressive reverse as some had feared.

Among the most closely watched data points, the US ISM indices for both manufacturing and non-manufacturing sectors, having come off their highs, have stabilised. The most recent ISM manufacturing report from November 2 came in ahead of expectations and put further distance between reality and those expecting an imminent double dip. In addition, the purchasing managers indices in all regions from China to the UK and Europe have surprised positively. Within these surveys, the forward-looking components such as new orders have also shown positive momentum.

The conclusion is not that we can forget about the concerns that drove bond yields to their lows altogether but we can feel more confident about the outlook for recovery.

Our confidence in that recovery would increase further were we to see more traction in the recovery of the US jobs market, which remains stubbornly subdued. Concerns around peripheral European defaults will be a fact of life for a while to come.

Closer to home, an area of significant interest has been the resurgent single currency. The euro has risen as European policymakers have not matched the competitive devaluation rhetoric being adopted by many. As a heavily export-dependent region, this has rightly been perceived as a potential headwind in the making and a threat to the European recovery.

As pointed out recently by Credit Suisse, in reality most of the strength has been against the dollar. On a trade-weighted basis, the euro has risen by only around 7 per cent from the lows, as against a near 18 per cent move against the dollar.

Year-on-year, the euro remains below where it was last year, against both the dollar and on a trade-weighted basis. The difference between the move against the dollar and on a trade-weighted basis points to the declining relative importance of the US as a trading partner for Europe.

In conclusion, the last two months have seen the debate between double dippers and recovery exponents move in favour of the latter camp.

Bond market concerns about deflation and double dip have been partly allayed by economic data that has proven more robust than feared. The advent of a second round of quantitative easing in the US should help underpin recovery expectations.

Our consistent message of muted recovery and bullishness on the asset class is underpinned and reiterated.

Bullishness is tempered by an appreciation that recovery in US joblessness, for example, remains fragile and subdued. We remain very watchful of all statistics that provide more information on this debate.

In terms of Europe specifically, periphery debt concerns will be a fact of life for a long time to come. Spreads remain exceptionally elevated and will almost definitely drive periods of volatility for the region’s stock markets and currency.

We make the point that we made after the May crisis, that volatility creates opportunities.

Despite the euro’s recent appreciation, the move has been more moderate on a trade-weighted basis and not sufficient to threaten recovery.

Which leaves us with valuations. We remain of the view that European equities are extremely attractively valued on a whole variety of measures. As the market’s confidence in the outlook increases, these attractive valuations will become increasingly compelling to reluctant investors.

Luke Stellini is European equity product director at Invesco Perpetual


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