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Monday Market Calls | 3.14.2011

Taken from

Call #1: Underweight European equity market (with emphasis on banks)

Last week Moody’s downgraded Spain’s debt, cutting it to Aa2.  The downgrade was likely based on the additional cost of shoring up Spain’s banking industry.  Despite the back-up in yields, there is good news for Spain in that the interest rates it’s paying on debt remain within budgeted levels, and the Treasury has completed roughly a quarter of its planned financing for the year.  In addition, there is evidence of real reform including an overhaul of the labor laws and pensions, increased job creation, and the introduction of core capital requirements for savings banks.  Also, unlike smaller countries, Spain is still able to access debt markets – last Tuesday it raised 4 billion Euros.

Despite cutting its rating, Moody’s reiterated that debt sustainability in Spain is not under threat.  That said there is a growing likelihood of defaults in Greece and Ireland.  Currently, Credit Default Swaps for Greece are signaling a 60% chance of default within the next five years.  So while the Euro will survive, sovereign debt issues are likely to linger.  The net impact is likely to be a haircut for holders of peripheral European sovereign debt, i.e. European banks.  As such, we remain underweight this sector.

Call #2: Overweight developed (with preference for large/mega cap) vs. emerging markets

Year-to-date, emerging markets are down roughly 1.5% while developed market mega caps are up roughly 5%.  Our view is reinforced by the recent market volatility and growing unrest in the Middle East.  In this type of environment, large, quality companies are likely to prove more resilient.

There have been some noticeable improvements in the inflationary environment in emerging markets, most notably a sharp deceleration in the growth of the Chinese money supply (an important criterion for the Chinese monetary authorities) and continued monetary tightening in Brazil.  But higher oil prices will exacerbate inflationary pressures in emerging markets, particularly food prices which are largely driven by energy costs.  We continue to watch emerging markets for evidence of progress on inflation, return of risk appetite, and cheaper valuation.  Until then, we stay underweight emerging markets and overweight developed markets.

Potential iShares solutions

Underweight European banks EUFN – iShares MSCI Europe Financials Sector Index Fund (click here for fund details)
Overweight developed market mega cap OEF – iShares S&P 100 Index Fund  (click here for fund details) 


IOO – iShares S&P Global 100 Index Fund (click here for fund details)

Underweight emerging markets EEM – iShares MSCI Emerging Markets Index Fund (click here for fund details)

Source: Bloomberg

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