4 major risks to global equity rally

LONDON: Four major risks threaten a solid year-end rally to cap this year's stunning bounce back by global equities - earnings, bonds, currencies and cash.

Investor optimism has been so unrestrained recently that good earnings are beginning to be dismissed because they do not meet exaggerated expectations.

World stocks begin this week at 12-month highs, up well over 70 per cent from their March lows. High-yielding currencies are in huge demand and emerging market debt spreads have narrowed about half a percentage point in October alone.

Much of the latest tranche of the stock rally is based on optimism over earnings. Should many others come in below forecast or expectations rise too high Goldman-like, the market would be vulnerable to a quick reversal.

Government bond yields, in the meantime, have been rising modestly this month as equities have gained and risk appetite built up. The risk is that this becomes more rapid, creating a sell-off that would send borrowing rates through the roof.

The factors mitigating against this are continued low rates and quantitative easing from central banks along with muted inflationary pressures.

This leaves markets highly sensitive to any hint that authorities are seeking to exit from the programmes the set in place to combat the financial crisis. Australia, for example, has already begun raising rates.

All eyes this week will also be on the currency markets where the dollar's overall decline has begun to concern those countries whose currencies are rising as a result.

Finally, there are signs that the tidal wave of cash that was put into money market funds at the height of the financial crisis has now mostly been thrown back into other assets this year.

"The latest outflows from money market funds took the YTD (year-to-date) total to US$396 billion (US$1 = RM3.37), equal to nearly 94 per cent of the total weekly inflows recorded by this fund group during 2008," fund trackers EPFR Global said last week. - Reuters