4th Quarter 2004: Global Markets 4th quarter 2004 - The 59 million Americans who voted for George W. Bush

Fifty six million people didn't vote for George Bush. That wasn't enough to stop George Bush from being elected for a second term in the White House. Fifty nine million Americans believe in George Bush and what he stands for. According to Will Walden of the BBC who was one of the press personnel during the last 28 days of the Presidential campaign (across 25 cities) "Americans revere the office, not the man, but in choosing the man, they want someone who befits the office, and in a time of war that office befitted George W. Bush the best". As the President himself puts it "you many not like what I stand for, but at least you know where I stand". And, whether we like it or not, this is true of many issues, including his stance on national security, moral values and the ongoing war in Iraq.

Industries that welcomed his second term in office included auto manufacturers, military suppliers and healthcare and pharmaceutical companies. Auto manufactures were relieved, as they believe that President Bush is unlikely to be as tough as John Kerry on omission standards. The healthcare and pharmaceutical industries, which contributed more than $26 million to George Bush's presidential re-election campaign, did so primarily because "they disliked Mr Kerry's plans to allow the government to bargain with drug makers for a better price for medicines".

President Bush is here to stay for another four years - let's hope that his economic strategy is sound and that the fifty nine million Americans who voted for him aren't wrong.

Two interest rate hikes of 0,25% each were announced during the quarter under review (September to end November 2004), lifting interest rates to 2% in the US. This translates to a doubling of the interest rate since June (4 rate hikes in 5 months). The rate hike announced in November was widely expected, with the elections successfully out of the way and clear signs that the economy is "regaining steam". It is reported that in October, job creation far exceeded expectations (337 000 jobs were created - more than double the expected number) and exports reached new highs in September.

During the latest round of interest rate increases, the Federal Reserve have needed to ensure that inflation is kept under control, while at the same time making sure that growth is not obstructed. Economic growth during the third quarter (3.7% annualized) was slightly better than the 3.3% growth (annualized) recorded in the second quarter.

The news in not all good, however, as the trade deficit in the US has exceeded $50 billion each month for the four months to September (as per the latest available figures).

Interest rates in the Eurozone remained unchanged at 2% during the quarter under review. Despite comments from the European Central Bank that "we are swimming in liquidity - there are risks to price stability long term from this high liquidity", interest rates are not expected to rise this year. The external sector remains the main driver of growth (mainly government spending and exports). Domestic demand, while currently viewed as being stable, is still not resilient enough to withstand an increase in interest rates. Inflation fell to 2.2% over the quarter under review, but is still slightly above the target level of 2% This is an improvement on the level of 2.50% recorded at the end of the previous quarter (August).

There is a view that the Eurozone is "expected to be relatively resilient to the global slowdown given a substantial portion of export activity goes to other European countries, and exports to these regions are doing very well". This is a view not shared by all, however, as the impact of the sharp rise in the Euro on exports to the US is being felt. Leaders in the European community have in recent weeks "openly blamed the US for the sharp rise in the value of the Euro."

As was largely anticipated by the market, interest rates remained unchanged at 4.75% at the October meeting of the Bank of England (BOE). A "cooling housing market", together with a recent decrease in factory output contributed to the latest decision to keep interest rates on hold. For the three months to September, Gross Domestic Product increased by 0.40% - declining slightly from the growth in the first two quarters, which were 0.70% and 0.90% respectively. "The slowdown was attributable to a 1.1% decline in industrial production, which includes manufacturing, mining and oil refinery and accounts for about one fifth of the country's economy".

It is now being speculated by some economists that interest rates may not be increased until next year - (there have been five increases since November 2003). The chief economist of EEF, Steve Radley, stated recently "if recent trends continue, we may be closer to the peak on rates than previously thought". Another factor that provides support for this view is the falling CPI, which declined to 1.1% in September (a decline of 0,20% from the previous month) - this is well below the BOE's target of 2%.

Halifax indicated recently that house prices in the United Kingdom declined by 1.1% in October, and by 0.40% for the

period July to October. This is the first fall over a three month period since the last quarter of 2000.

Over the last year, house prices have risen by 18.50%. The recent decline in house prices can largely be attributed to the latest round of interest rate increases. According to the Chief Economist of Halifax, Martin Ellis, "the housing market seems to be moving into a slowdown following the period of strong growth in 2003 and early 2004. Interest rates seem likely to peak near current levels. Employment and household incomes, two very important drivers of the housing market, continue to grow. Supply constraints, especially in the south of England, will also underpin the market. These factors point to a steady slowdown." According to recent data from the BOE, in September home loan (mortgage) approvals slowed to levels last seen in August 2000.

Encouraging signs continue to emerge from this region. There is growing evidence that smaller firms in Japan are expanding their operations vigorously. It has also been reported that "the value of construction orders received by Japan's 50 leading domestic contractors rose 8.2% year on year in August". The Tankan Survey, which is conducted by the Bank of Japan, indicates that "business confidence reached its highest level since 1991". As indicated before, exports to the United States, Asia and China continue to play a major role in the upswing of the Japanese economy.

Despite the decline in deflationary pressures, the Bank of Japan has maintained a zero interest rate policy. It is expected that Japan is only likely to consider raising interest rates once there is clear evidence that deflation has ended.

During the last week of October, the Medium Term Budget Policy Statement was tabled in Parliament. The Statement, which held few surprises, announced an abolishment of "exchange control limits on new outward foreign direct investments by South African corporates". A further benefit announced for South African corporates is that they will now be able to hold foreign dividends offshore. For private individuals, however, it appears as if there is not much tax relief to look forward to in next years' budget speech.

As was widely expected by the market, interest rates remained unchanged during the period under review. CPIX inflation surprised on the upside by remaining unchanged in September at 3.70% year on year. This was better than the consensus forecast of 3.90% for the month. The favorable number is largely attributable to the impact of the strong Rand on most of the components that make up the CPI basket. Despite the strong Rand and the better than expected inflation numbers, some economists are still of the opinion that interest rates are likely to remain unchanged at the next meeting of the Monetary Policy Committee, which is scheduled to take place in December. Some disagree, as they believe that the current fundamentals are strengthening the case for another interest rate cut.

The Rand ended the quarter (30 November 2004) at R5,80, R7,71 and R11,06 to the US Dollar, Euro and Sterling, respectively. The current Rand strength has largely been driven by the recent rally of the Euro against the US Dollar. The Eurozone is South Africa's largest trading partner and the Rand tends to track the movements of the Euro fairly closely.

The price of Brent crude oil breached the $50 a barrel level during the quarter under review and ended the quarter at $44.87 a barrel. The closing price at the end of the previous quarter (31 August 2004) was $39,32 a barrel.

The International Energy Agency has increased its estimate of world oil demand in 2005, projecting that world demand would rise to more than 84 million barrels a day (an increase of more than 1.8 million barrels). According to HSBC Bank, "oil is now 136% more expensive than it was in 2001." While oil at levels exceeding $50 a barrel is expensive, you may recall the price rise of $8.50 a barrel between August 1973 and January 1974 which constituted a price increase of 274%. A fear of supply interruptions appears to be the single biggest driver of the oil price at the moment.

In our last report we highlighted the main reasons for the surge in the price of crude oil. With this being a very topical issue, it is interesting to look at some facts about crude oil (also known as petroleum). Crude oil is the most actively traded commodity in the world, with New York, London and Singapore being the largest markets. There are many different grades and varieties of crude oil, but Brent crude oil is recognized as the world benchmark. West Texas Intermediate (WTI) is the benchmark in the United States. The price of the OPEC basket of oil is always the average of the prices of the following seven crude oils: Saudi Arabia's Arab Light, The United Arab Emirate's Dubai, Nigeria's Bonny Light, Algeria's Saharan Blend, Indonesia's Minas, Venzuella's Tia Juana Light and Mexico's Isthmus. OPEC members produce six of these oils, while Isthmus is produced in Mexico. The price difference between Brent, WTI and the OPEC basket is not significant as they are very closely correlated.

Oil with a sulphur content of less than 0,50% is defined as being "sweet", while oil with a sulphur content in excess of 0,50% is defined as being "sour".

The gold price moved sharply higher during the quarter under review (breaching 16 year highs) - ending the quarter at a level of $453,25 an ounce, up 11,09% from the $408 close at the end of the previous quarter. The gold price, like the market, appears to be ignoring the positive data from the US and is focusing on the ongoing current account and fiscal deficits prevalent in the region.

Finlaw Consulting moved to the Redlands Office Park on the 15th November. Please make a note of our new telephone number, which is 033 - 3927250. You are welcome to call in for a cup of tea and to see our new offices. Our offices will be closed from midday on Thursday 23rd December and will reopen on Monday 3rd January 2005.

Ian D'Arcy will be leaving us at the end of November after 8 years at Finlaw Consulting. We wish him every success. John Wallace will be available to discuss your investment and estate planning needs. John will also be dealing with all new business related matters. Sandy D'Arcy, who is responsible for the investment research, is available to discuss queries relating to choice of funds and investment market information. Both Janet and Chantel continue to deal with investment processing and administration.

With this being our last report for 2004, we would like to take this opportunity to wish you and your family a peaceful and happy festive season.

QUARTERLY QUOTE
"The optimist proclaims that we live in the best of all possible worlds, and the pessimist fears this is true"
James Branch Cabell

This report is based on information sourced from various institutions, both local and international. The report reflects a variety of views and is not intended to convey investment advice. Please consult us to obtain specific advice relevant to your investment portfolio.