The financial sector is core to capital markets and misappraisal of risk was not its purview solely. Nonetheless, central bank policy change is likely to be slow with higher market sensitivity to the political economy, including financial regulation. Like information technology before, business realities now are likely to favor those financials (not just banks but also hedge funds and asset managers) addressing radical change, in advanced areas like Europe and the United States those that restructure deepest over those clinging to older business plans that emphasized momentum over fiduciary quality and in emerging areas like Asia and Latin America to favor those that build capital over those maintaining fast loan growth. For capital markets there has been binary change in May/June 2010 in equity price drops globally, in commodity prices decline with gold bullion holding up and eerily in U.S. Treasury and Japanese Government bond yields dropping as others rise in a shift from expectations of a 2002/7 like echo boom this time driven by quantitative/fiscal ease to a dash to fears of double dip into global recession. For political certitude and financial change reasons, volatility is likely elevated but not easily modeled mathematically. It has major implications in that many trading regimens, including high frequency, were developed during relative stability.
We believe benchmark yields such as U.S. Treasuries and Japanese Government Bonds need to rise before balance returns. Alternate hedge conditions of today favor precious metals and private equity over others. At 1047 and 1079 respectively, the S&P 500 and MSCI World index are at the cusp of our unusual value territory of 1050, versus 2010 respective peaks close to 1217 and 1218 and our trading range targets of 1100-1200, above which sustained gains are likely to have difficulty until mid 2011. At the cusp of Q2/2010 earnings reports, our S&P 500 operating earnings expectations of 75 for 2010 and 85 incorporate growth but below consensus which is likely to drop. The potential for a global recovery cycle of give and take favors quality. We underscore that market angst now has started to signal that trading dominance over the last fifteen months pushing the envelop upward, may now be giving way to conditions conducive for a different type investor to participate, focused on ferreting out value.
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