Tensions easing ahead of second half

By Natsuko Waki

LONDON (BestGrowthStock) – Tensions in global financial markets stemming from the euro zone’s sovereign debt crisis appear to be easing, setting the stage for investors to dip back into risky assets in the second half of this year.

This week’s relatively successful bond sales in peripheral euro zone countries and expectations that the Federal Reserve and other central banks would keep borrowing costs low are calming investor nerves after a risk storm in May prompted a rush to safe-haven assets.

Against this backdrop, world stocks, measured by MSCI, are now on track for scoring its biggest weekly gains since early March after hitting a one-month high on Friday. European shares

are rallying for eight days in a row, while Asian stocks ended their best week in six months.

The euro rose to a three-week peak above $1.24, making a speedy rebound after plunging to a four-year low below $1.19 less than a fortnight ago.

In a sign of normalization, the Wall Street’s fear gauge — the Volatility Index — tumbled to 25 from setting a 14-month high above 47 in May.

Fund tracker EPFR reported that over $37 billion flowed out of money market funds in the latest week while global equity funds saw the biggest inflow since early April.

Next week brings a series of event risks from the Group of 20 summit in Canada, the Federal Reserve’s monetary policy meeting and Britain’s emergency budget.

While a replay of the May sell-off looks unlikely, the pace of investors getting back into risky assets may be moderate.

“As we do not believe in a double-dip recession, we remain positive,” said Frederic Buzare, global head of traditional equity management at Dexia Asset Management.

“We may conclude that there is significant upside potential for the equity markets but that is not a free lunch. Difficult summer months are probably in prospect before a rally starts in the fourth quarter.”

Next week also brings a fresh reading of international business sentiment with flash surveys from the euro zone’s manufacturing and services sectors.

Credit Suisse says global purchasing managers indexes suggest the global economy would grow about 4.5-5 percent in the second half of 2010, adding fears of a double dip recession — which occurred only twice in the past 100 years — are overdone.

Corporates are also healthy. According to the Swiss bank, corporate free cash flows stand at an all-time high of 3.6 percent of gross domestic product and cash on balance sheet is at a 50-year high of 5.8 percent of total assets.

The second quarter earnings season which kicks off next month could also provide a positive backdrop. Thomson Reuters data shows an earnings growth rate for S&P 500 firms is estimated at 27.5 percent in the second quarter, after expanding 57.4 percent in the first quarter.

“Despite the noises that characterized the market, it should not be forgotten that the world has returned to growth and emerging economies still have a bright prospect,” said William de Vijlder, chief investment officer at BNP Paribas Investment Partners. He recommends cautious asset allocation, maintaining limited exposure to risky assets while overweighting commodities and emerging markets.

RISK SPOTS

Heading into next week, Spain might provide a source of anxiety even after it drew strong investor appetite when it sold 3.5 billion euros of bonds on Thursday.

Spain’s parliament is expected to vote on government’s labor market reforms next week.

“The country is far from insolvency, but debt roll-over risk remains an issue,” Goldman Sachs said in a note to clients.

“(But) if the Spanish authorities reinforce their commitment to address the budgetary consolidation, engage structural reforms, and recapitalize the banking system, there is no reason to think that spreads won’t stabilize and reverse.”

Next week’s G20 summit in Toronto on June 26 and 27 would provide more clarity on financial reform.

There has been some disagreement among member countries on the best approach to financial reform in some areas, such as a proposed bank tax, and a U.S. plan to ban risky proprietary trading at some banks, which the European Union has rejected.

At a preparatory meeting in South Korea earlier in June, G20 finance ministers came short of agreeing on any global bank levy because of opposition from Canada, Brazil and Japan.

But they did agree that the financial sector should make a fair and substantial contribution toward paying for any burdens associated with government interventions, where they occur, to repair the banking system.

Investment Advice

Tensions easing ahead of second half