GLOBAL MARKETS WEEKLY 16 DECEMBER 2013

Economics | Eurozone recovery to continue The European Central Bank (ECB) reduced its inflation forecast for next year at its December meeting, though apparently in no rush to provide more stimulus. But we think it will overcome this apparent complacency towards very low levels of inflation and deliver more easing in 2014. The ECB also upgraded its growth forecast by a tick to 1.1%, and said it expects inflation to start rising again in 2015 (to 1.3%) under current policies. We expect the slow eurozone recovery to continue, as reduced political and financial stress boosts consumption and investing, the need for austerity lessens, and the ECB provides more stimulus. We expect the improving economic environment to remain supportive for European equities, while peripheral government and corporate bonds are also underpinned by an improving economy and easing of debt burdens. Equities | Still positive, but lower conviction We maintain a preference for equities over bonds as we head into 2014. We remain firmly in the rates lower for longer camp and look for continued modest recovery in the global economy, which should support risk assets. But the level of conviction on our positive equity view has diminished compared to this time a year ago given the strong returns in developed markets so far this year. Earnings growth has been hard to come by with many markets seeing only single-digit growth this year. Easy money has provided some companies with an opportunity to borrow cheaply and buy back shares, thus boosting earnings per share. The big concern for global markets is the eventual withdrawal of US quantitative easing. We think the pace of withdrawal will be more modest than expected, which would be supportive for equities. We wouldnt be surprised if markets took a pause for breath. But we believe equities will continue to provide better returns than cash or bonds over the coming year, enhanced by growing dividends.
Tuesday

Key data and events this week

Wednesday

Friday

UK, eurozone & US consumer price inflation German ZEW economic sentiment German IFO business climate Bank of England meeting minutes UK unemployment Federal Reserve policy statement Bank of Japan policy statement

Bonds | UK growth good for corporate bonds Speaking in New York last week, Bank of England (BoE) Governor Mark Carney recognised that UK growth has accelerated, but suggested that monetary policy should stay loose for a long time. Carney noted that the equilibrium real interest rate the rate (less inflation) that would allow the economy to grow at its full potential without stoking long-term inflation was probably negative. This means that even if the economy grows at its potential and unemployment falls to the equilibrium level, the BoE intends to keep rates below inflation. We will be watching closely for any signs of inflationary pressures, such as tightness in the labour market, but we believe the strong growth environment in the UK still benefits corporate bonds over gilts. Currency | Australian dollar is vulnerable We see the Australian dollar as the most vulnerable major currency Australias current account deficit (exports of goods and services minus imports) was 3.3% of gross domestic product in the third quarter, while Reserve Bank of Australia Governor Glenn Stevens wants to see the currency materially lower (and the IMF agrees). The Australian currency has dropped over 8% in tradeweighted terms but remains in a long-term strengthening trend. As a result, it is vulnerable to what is expected to be a slower pace of growth in China in the years ahead, while US monetary policy is expected to tighten next year. Still, we see Australian rates also climbing back towards 3% in 2014-15, which should limit the Australian dollars losses.

ADAM INVESTMENT OFFICE

James Butterfill
Head of Equity Strategy

Pierre Bose
Head of Fixed Income

Mark McFarland
Chief Economist

Cameron Glasgow
Investment Director cameron.glasgow@adambank.com 0131 225 8484

Georgios Tsapouris
Investment Strategist

Charts of the week

Corporate sentiment has been improving across the eurozone, which should continue to support European equities
56 54 52 50 48 46 44 42 40 Jan 12

We expect only modest Fed tightening and see a continued modest global recovery next year, which should also be supportive for equities
2.30 2.10 1.90 1.70 1.50 1.30 1.10 0.90 0.70

E uro zo ne c o m po s it e P M Is

Fed gets better at interest rate management

Jul 12

Jan 13

Jul 13
Source: Dat ast ream

0.50 Jan- 12 Jul-12 Jan- 13 Jul- 13

Germany France Average of Spain, Italy and Ireland

Eurodollar (Dec 2015) minus Fed Funds rat e

Source: Bloomberg

Outlook for UK rates remains low although labour market tightness could lead to higher inflation
70 65 60 55 50 45 40 35 Permanent st aff salariy survey (Lhs, lagged 6 months) Total pay growt h 3-mont h average (Rhs) Source: Datast ream

The Australian dollar (AUD) looks vulnerable against the US dollar (USD) as US yields start to price in monetary policy tightening
2.5

La bo r de m a nd o v e rs upply & wa ge gro wt h

%yoy

6 5 4 3 2

Australian dollar vulnerable

1.15

2.2

1.10 1.05

1.9 1.00 1.6

1 0 -1
1.3

0.95 0.90

1 Jan-11 Jul-11 Jan- 12 Jul- 12 Jan-13 Jul- 13

0.85

10yr USD spread (Lhs)

USD per AUD (Rhs)

Source: Bloomberg

Market Performance
Developed & Emerging Equity Markets
115 110 105 100 95 90 85 13 Jun 13 13 Jul 13 13 Aug 13 13 Sep 13 13 Oct 13 13 Nov 13 13 Dec 13

Equity Markets As of: 13-Dec-13 Current -1W

Performance (%, local) -1M -3M YTD 12

Developed Equity (M SCI)

Emerging Equity (M SCI)

Developed Equity (MSCI) FTSE All Share FTSE 100 S&P 500 Nasdaq Composite DJ EuroStoxx Nikkei 225 Hang Seng Emerging Equity (MSCI) BRIC (MSCI)
Source: Datastream

1,133.0 3,447 6,440 1,775 4,001 296.5 15,403 23,246 46,341 507.8

-1.5 -1.5 -1.7 -1.7 -1.5 -1.8 0.7 -2.1 -1.2 -1.8

-1.0 -2.3 -2.9 -0.4 0.9 -3.0 5.7 3.5 0.7 1.2

3.2 -1.7 -2.2 5.2 7.5 1.9 6.9 1.4 0.4 1.0

20.8 11.5 9.2 24.5 32.5 13.7 48.2 2.6 -0.8 -1.2

13.1 8.2 5.8 13.4 15.9 15.5 22.9 22.9 13.9 13.8

Source: Datastream / MSCI, rebased to 100 10-Year Bond Yields As of: 13-Dec-13 Current -1W Change (basis points) -1M -3M YTD 12 Commodity Markets As of: 13-Dec-13 Current -1W Performance (%) -1M -3M YTD 12

US Treasuries UK Gilts German Bunds Japanese Govt. Bonds

Source: Datastream

2.87 2.90 1.83 0.67

-1 0 -1 1

14 9 9 6

-3 -3 -11 -4

99 92 0 -31

-12 -17 -53 -20

Commodities (TR) Brent Oil Price (Spot) Gold Bullion (Spot) Industrial Metals (TR)
Source: Datastream

253.9 108.2 1236 263.9

0.6 -3.1 0.0 2.1

2.7 1.3 -3.1 2.9

-2.5 -4.5 -6.1 1.6

-9.3 -1.7 -25.7 -14.9

-1.1 3.2 5.6 0.7

Inflation & Interest Rates

Inflation & Interest Rates Current Inflation (%) Current RBS Interest Rates Forecast (%) Dec'13 (F) Mar'14 (F) Rate Announcement Next Date

United States United Kingdom Eurozone

Japan

(Fed Funds) (Base Rate) (Repo Rate)

(Call Rate)

1.0 2.2 0.7

1.1

0.25 0.50 0.25

0.10

0.25 0.50 0.25

0.10

0.25 0.50 0.25

0.10

18-Dec 09-Jan 09-Jan

20-Dec

GLOBAL MARKETS WEEKLY 16 DECEMBER 2013

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