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HISTORY has shown time and time again that it is dangerous to be caught up in January market euphoria.
With few exceptions, moves in January are followed by a turnaround in February and March, according to experienced traders. They warn that in thin, low-volume markets, fund managers tend to push up prices of shares to window-dress results at the end of December. These tactics are generally followed by predictions of an optimistic flavour in January while stock tips boost share prices further. Caveat emptor thus becomes the order of the day and shrewd traders inevitably take profits to re-enter the market at lower prices in the weeks or months ahead.
As the accompanying table shows, developed markets outperformed Asian and other emerging markets by a substantial margin last year. Japan led the way, followed by the big surprise - notably, Greece, which was ahead of the US and Germany. Indeed, eight of the major markets rose by more than 20 per cent in local currency terms and 10 markets boomed in US-dollar terms. For global investors, the weakness of the yen cut gains from the 56.7 per cent earned by locals to 28.9 per cent.
Recall the foreign enthusiasm for emerging markets a year ago and note that only Taiwan achieved a reasonable return of 9 per cent in US-dollar terms. In local currencies, South Africa, Malaysia and India did fairly well, but for foreign investors converting dollars, euros and sterling into those markets' currencies, results were dismal. Predictably, since emerging markets are currently relatively depressed, several fund managers and investment bank strategists are once again recommending investments in Asia, Africa and Latin America.
The vast majority of predictions in the press were a further run of the bull market. The table shows, however, that after considerable appreciation since the 2009 low, most developed markets have become pricey at a time when bond yields have begun to rise. The most expensive markets with price-earnings ratios close to 20 are the US, Switzerland, Germany, France, Australia and Canada. High-risk markets such as Greece and Italy have lower PEs. The UK, Norway and Sweden offer better value than the US and other high PE markets, but are by no means cheap. Japan and the Netherlands have also reached heights which could deter new investors.
The best value among emerging markets is offered by Hong Kong and Singapore, but both countries have had property booms which are tailing off and are dependent on growth in China. Turkey is fraught with risks and this is reflected in a PE of only 8.3, and there are fears of inadequate corporate governance in both China and Russia.
Wall Street usually leads the way, so the market is watching the US Federal Reserve Board closely as quantitative easing has provided the liquidity to fuel the bull market. According to Ned Davis Research, a considerable amount of money has already been invested in stocks as the ratio of cash in money-market mutual funds has fallen to around 13 per cent of the stock market's value, compared with some 47 per cent during the 2009 market lows. Moreover, the firm estimates that the value of some 3,900 American stocks is now around US$21 trillion, equivalent to some 124 per cent of US gross domestic income - an indicator of a fully priced market.
US and other global markets are thus highly dependent on a sharp increase in earnings. Such an improvement is unlikely in Europe as the economic and business outlook there remains somewhat sluggish. Analysts with rose-tinted glasses predict that US profit increases will exceed 10 per cent this year so that the overall S&P 500 index will achieve estimated earnings of 120 per index unit. On Friday's close of 1,831 points, the forward PE of the S&P 500 index would be 15.3 - or an earnings yield of 6.5 per cent compared with the 10-year bond yield of 3 per cent. If earnings do not rise as much as expected, the market could disappoint.