Global equity markets rang in the New Year in style as the last few days' trading of 2003 witnessed further gains for most equity indices, albeit in seasonally low trading volumes.

The end result was that global equities enjoyed their biggest gains in 17 years, with the more spectacular returns coming from the normally volatile emerging markets. Thailand was the best of these rising by 143 per cent in dollar terms while the Chinese market rose by 120 per cent.

However, most investors have small or zero exposure to these markets and therefore it is the performance of US and European markets that is of most relevance. US markets led the 2003 global equity rally epitomised by the 50 per cent gain in the Nasdaq index, which managed to close the year above the 2,000 level.

The broadly based S&P 500 index rose by 26 per cent, comfortably ahead of the returns from the main European indices. The FTSE Eurotop 300 index rose by 11.6 per cent, while the FTSE 100 index rose by 13.5 per cent.

However, when exchange rates movements are taken into account, this picture of relative returns changes dramatically.

If the top investment story of 2003 was the strong equity market recovery, the sharp decline in the value of the US dollar must come as a close second.

During 2003 the euro appreciated by 17 per cent against the dollar and thus European stock markets delivered better returns expressed in common currency terms.

For Irish investors this was particularly true as the ISEQ Overall return of 23 per cent was far better than the European averages and better than the currency-adjusted return from the S&P 500.

The trends evident towards the end of 2003 continued unabated during the early days of 2004.

The euro has made further lifetime highs against the dollar and there seems to be no early prospect of a reversal in this trend. Many commentators are now predicting a euro/dollar rate of $1.35 by mid-year or sooner.

Equity prices rose in the first few days of 2004 although there are signs that markets may not be able to hold onto these more recent gains.

In the short term a period of consolidation across equity markets may well be in prospect.

Indeed, there are few analysts that expect stock markets to come anywhere near repeating the stellar returns of 2003.

By the same token there are not many outright pessimists and the consensus view is that equity markets will deliver solid if unspectacular returns during 2004.

As seems to be so often the case, the eventual outcome hinges on developments in the US economy, which was yet again the turbine that drove global growth in 2003.

Fortunately, the US economy enters 2004 with a strong head of steam, and consensus forecasts point to GDP growth of 4.4 per cent this year. That compares with forecasts of 1.8 per cent for the euro zone and 2.7 per cent for the UK economy.

Of the large economies, Japan was the surprise packet of last year with growth of 2.7 per cent, although this is expected to slow slightly to 2.1 per cent in 2004. There are now convincing signs that the global economic recovery has moved into a self-sustaining phase as evidenced in particular by the worldwide pick-up in investment spending.

On the negative side global financial imbalances are large and are growing. The Federal Reserve's low interest rate policy has led to a sustained increase in the level of consumer indebtedness. This trend has been repeated to a greater or lesser degree in most industrialised countries.

Furthermore, unbalanced global growth has resulted in a worryingly large US current account deficit on its balance of payments equivalent to 5 per cent of GDP. This means that the US needs to attract more than €1.5 billion of foreign capital every day to fill that gap.

As long as this deficit persists it is likely that downward pressure on the US dollar exchange rate will persist.

While these imbalances are significant they are unlikely to derail global recovery in 2004. The persistence of very low rates of inflation indicates that there is little need for higher interest rates for the foreseeable future. Interest rates may edge up later this year but that would probably only be as a result of stronger economic growth.

Another important event likely to underpin the US economy is that 2004 is a US presidential election year. Not surprisingly, at this stage of the electoral cycle public policy tends to lean firmly towards favouring economic growth.

On balance Irish investors should be looking forward to 2004 in an optimistic frame of mind.

The Irish economy should be able to benefit from the predicted continuation of the global recovery.

Irish inflation, which was a problem, has now reverted close to the euro-zone average.

Irish-quoted shares should advance in this scenario and while a repeat of the 20 per cent plus gain of 2003 is most unlikely, a total return of close to 10 per cent from the ISEQ Overall index seems eminently feasible in 2004.

Investor

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