Market Review: Are the markets skating on thin ice?

The markets are at a fascinating juncture, uncertain in which direction to move given the opposing forces currently influencing investors. Tyndall Investment Management New Zealand Ltd managing director Anthony Quirk comments on the state of the markets

Monday, August 9th 2004, 9:33AM

by The Landlord

The markets are at a fascinating juncture, uncertain in which direction to move given the opposing forces currently influencing investors. On the positive side are exceptional corporate earnings as well as low US interest rates. On the negative side are inflation risks (which would probably then be associated with rapid interest rate rises), rich equity valuations, country trade imbalances and geopolitical concerns.

There is no doubt that strong corporate earnings have been a strong positive force, particularly in the United States. The June quarter US reporting season reinforced this, with most earnings meeting or exceeding already high expectations. Overall, average year-on-year earnings growth almost reached 30% for the June quarter.

This great performance from US companies reflects a good domestic and global economic environment through the first half of 2004 as well as the return of pricing power for many sectors and companies.

Normally such earnings results would be sufficient to underpin an equity market but cautionary comments from many US companies, particularly in the technology sector, hit many stocks hard in July.

Analysts and the market appear to be readjusting long-run earnings growth expectations for the global technology sector from 15-25% to 5-10%. This is below what was impounded in the very high share prices of many technology companies and hence their substantial recent declines. The end result was the technology laden NASDAQ was down almost 8% for the July month.

Confirmation of the tougher long-term technology environment was the decision by Microsoft to pay a massive dividend. This was partly to do with new US tax laws and the desire for income from their employees. However, it was also an admission from Microsoft that it cannot see as many growth opportunities to invest in for its funds as previously.

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