Recent market developments

Economic data generally point toward a continued recovery in the world economy. Im-portantly, recent indicators from the US labour market and consumers have been encour-aging. Equities have touched new 2009 highs. The recovery in credit markets has lost some steam, but given the significant improvement over the past six to nine months, this is not a matter of concern.

Euroland short yields have remained unchanged over the past month, despite some hawk-ish signals from the ECB, while long-bond yields have edged lower. On the other side of the Atlantic, a couple of weak treasury auctions and upside surprises in economic data have pushed US long yields higher. The spread between the US and Euroland long yields has thus widened. In the short end of the curve, rates are still kept in check by a dovish Fed and year-end flows. Yield curves are generally very steep, which continue to make speculating in higher yields expensive.

Macro outlook

The US economy has put recession behind it and most leading indicators are now consis-tent with the ongoing recovery. In Q4 09 and Q1 10 we expect to see relatively strong growth on the back of stimulus-driven spending, a realignment of production to demand and the release of a pent-up demand.

The big issue is whether the initial boost to the economy from these drivers will be suffi-cient to initiate a self-sustained recovery. There is a minor risk of the recovery fizzling out, but we believe that the demand from households and businesses will be sufficiently strong by early next year to head off any setback. In this context, the recent improvement in the labour market and consumer spending is reassuring. Positive employment growth early next year; the US personal savings rate not starting to surge; and oil prices remain-ing stable, are key issues for our outlook.

Euroland has also pulled out of recession. A combination of a major production backlog and the turnaround in the global industrial cycle is helping exports while also boosting investment. Furthermore, stabilisation in the labour market, low interest rates and tax reductions will lift private consumption. Also, solid growth in the US and Asian econo-mies will benefit the eurozone in the coming quarters.

Inflation is not an issue in either the eurozone or the US. Core inflation is set to move lower in the coming quarters on the back of low capacity utilisation and slowing wage growth. Headline inflation should increase as commodity prices move up, but should remain modest in both the US and Euroland.