Yesterday's rally was driven mainly by: a) The G20 plan to provide an additional US1,100bn in emergency aid, a USD750bn reinforcement of the IMF's resources and USD250bnof trade finance. According to the G20, the proposed plan should boost global output by 4% by end 2010 (for information, USD1,1trn is equivalent to about 2% of global GDP). b) The FASB's partial suspension of Mark to market rules re. toxic assets on banks' balance sheets. This was enough to extend the current bear market rally, also supported by the Fed and Geithner plans announced earlier in March.
Comments:
The USD1.1trn plan is mainly aimed at smaller countries and emerging economies and does not address the core of the problems remaining in the financial sector re. toxic assets.
The change in FASB rules allows banks to value toxic assets based on what they would be worth in an 'orderly sale' as opposed to a forced distressed sale. Different valuation methods used by different banks could lead to even more opacity, hardly a positive for investor confidence, in our view.
As we mentioned in our comment of 23 March, the announce measures would provide support to equities, at least in the short term. We also mentioned that a typical bear market rally by historical standards would bring the DJ Stoxx 600 to around 190. The index closed yesterday at 188, which implies limited upside from here.
For those who want to play the rebound further, we reiterate what we said on 23 March: On a sector level, we are comfortable with our Overweight stance on Oil & Gas. The sector has a rock solid balance sheet and should benefit from a change in market perceptions from deflation to reflation/inflation.
Basic Resources are a more geared play and our Overweight stance in Steel proves to be a useful hedge against bear market rallies such as the current one. Mining should also continue to be supported by the reflation theme.
We remain suspicious of Banks, given the dire economic outlook, rising default rates and uncertainties regarding implementation of the Geithner plan.
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