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Sentiments, not fundamentals driving European mkts

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Sentiments, not fundamentals driving European mkts
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Epic Research
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Sentiments, not fundamentals driving European mkts - August 8th, 2012

Martin Lueck, economist, UBS, says that Draghi's comment has inspired some confidence in the markets. However, he says that from the fundamental economic prospective things are weak. The markets are currently moving on sentiments.

Below is the edited transcript of his interview to CNBC-TV18.

Q: Lot of optimism is coming in for the European markets. What are they factoring in? What is their higher probability that the ECB possibly will go ahead with some bond buying at some point?

A: There has been much skepticism over the first part of the summer regarding the Europe crisis and now Draghi has announced that the ECB will go back into bond buying and later confirming its conditions in the conference.

This has inspired some confidence to the markets. On one hand, the business cycle outlook is deteriorating for the euro area. Industrial orders are down in Germany, we have weak economy number from Italy. From a fundamental economic perspective, there is not much reason for optimism. But again it is more sentiment seeing optimism based on the future bond buying by the ECB.

Q: How much more do you think the markets or risk assets have to rally from here given the sentiment turnaround? Do you think most of it is played out?

A: Yes, but it is very hard to gauge against the backdrop of the sentiment-driven markets. From a fundamental perspective, European equities still do not look expensive, but with the backdrop of earnings expectations they might change once the economic outlook deteriorates, guidance of companies' changes and usually analyst’s expectations change as well on the back of that.

Though equities do not look expensive today, they might look expensive in next three month, when the guidance and consensus goes down. So, we need to take a cautious stand from here.

The slide that we saw over most of the summer so far and then strong recovery can be attributed to sentiment changes and not back of fundamental information.

Q: S&P is above 1400. What is the US markets factoring in at this point in time, is there higher probability that the FOMC might act?

A: It is a funny combination of two factors. On one hand, there is a fraction of the market that is still expecting a sufficient economic weakness for the Fed to act another time. So, there is going to be the QE3 story.

But this is against the backdrop of further weakness. Another fraction of the market, which is hoping better number on health prices, the whole economy. In the first place, the whole consumer economy is bottoming out.

So there is another fraction of the market hoping for fundamental data which is the opposite of further hopes for QE3. So, in the US it a two-tier market, which is right now moving both in the direction of higher equity prices, but this could turn further worse once one of the two camps gets the majority.
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