Global equity markets moved slightly higher in the first quarter of 2011 in spite of a variety of global macro-events at the end of the period, including political unrest in the Middle East and North Africa (Mena) region and natural disasters in Japan.
However, investors sought out safe havens in March, and we believe that further anxiety about how other macroeconomic events play out could shape market performance in the near term. In addition, as we move into the middle of the year, we believe that many of these global situations may continue to unfold. In our opinion, possible events in the coming quarters may include:
1. A resolution to the Libyan crisis and a return to US$80 per barrel oil.
2. Continued unrest in other Middle Eastern countries such as Yemen and Syria.
3. A short-lived recovery in the Japanese market as the nuclear situation becomes more controlled.
4. Additional equity-raising activity from European banks.
5. A rise in European interest rates and an official end to the US Federal Reserve’s quantitative easing programme.
These thoughts aside, much of the performance through the first quarter was heavily concentrated in energy and materials company stocks. Although these two sectors accounted for only between 8 per cent and 11 per cent of the MSCI EAFE (Europe, Australasia and Far East) and MSCI World indexes at March-end, the stocks within the sectors combined to significantly outperform both broad market gauges and accounted for a disproportionate part of these indexes’ total positive returns.
Conversely, the Japanese market posted a negative return for the quarter as the country struggled to gain control of radiation leaks from a nuclear plant and deal with the aftereffects of a devastating earthquake and tsunami.
Over the first quarter, the eurozone continued to grope for answers to fiscal problems plaguing certain members. Portugal rejected both a bailout and an austerity program, creating uncertainty about a solution and very weak demand for its debt. The debt markets also began to show signs that they believe Greece will likely default and restructure its debt during 2012 or 2013. If Greece, in fact, defaults, we believe that Ireland and Portugal will likely follow suit. Hopefully, by the time any defaults occur, other eurozone economies will be in a stronger position to absorb the restructuring.
The dual natural disasters in Japan and ensuing damage caused a rapid selloff in the Japanese equity market in March. During the first quarter of 2011, and actually over the past five years, our global and non-US equity strategies generally have had limited exposure to Japanese companies.
In total, we believe markets should remain somewhat positive in the face of continued improvements in the global economy. We do acknowledge, however, that many investors remain edgy and seem to be waiting for the next macroeconomic shoe to drop, a sentiment that could potentially hold markets back in the near future. As always, we remain focused on company fundamentals, looking for sustainable business models supported by strong free cash flow and responsible management.
(The author is Senior Vice President and Lead Portfolio Manager at Franklin Equity Group)