Highlights of Recent Trends in Financial MarketsI. OverviewFinancial marketprices have beenstrong and stockexchangeconsoli...
have tightened their stance. In the United States the yieldcurve has flattened further over the past few months, as theinc...
01/09/0401/11/0401/01/0501/03/0501/05/0501/07/0501/09/0501/11/ 0501/01/0601/03/06180160140120100806001/01/0401/03/0401/05/...
01/05/0501/07/0501/09/0501/11/0501/01/0601/03/06180160140120100806001/01/0401/03/0401/05/0401/07/0401/09/0401/11/0401/01/0...
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6001/01/0401/03/0401/05/0401/07/0401/09/0401/11/0401/01/0501/03/0501/05/0501/07/0501/09/0501/11/0501/01/0601/03/0630028026...
100Total mar ket Financials Total market average 01/01/90-17/03/06United States JapanEuro area GermanyFrance(scale differs...
markets haveshown a strongoverallperformance...Major equity markets have shown a more upbeat performance over the past few...
0-5%%United States Japan Euro area United KingdomBroad stockmarket indicesTelecom,media, ITFinancialcorporationsBanks Life...
CanadaBroad stock market indicesWILSHIRE5000NIKKEI225DJ EUROSTOXXDAX 30 CAC 40MILANMIBTELFTSE 100S&P/TSXCOMP.Pct.chg. Dec-...
P/E avg. Jan.90-Mar.06 29.4 61.8 21.8 31.4 19.6 21.2 24.1 28.5FinancialsaPct.chg. Dec-05-Mar-06 2.7% 0.2% 12.3% 11.5% 13.2...
sources. For the United Kingdom, the earnings are calculated by a rolling 12 months method of analysisbased oninterim, fin...
domestic demandfrom individualinvestors,…This strong stock market growth in Japan was supported inpart by foreign demand a...
Europe, wheresome reinsurersseem to haveshrugged offhurricane losses.Looking at the various segments of the stock markets,...
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01/03/0501/05/0501/07/0501/09/0501/11/0501/01/0601/03/063530252015105001/01/0401/03/0401/05/0401/07/0401/09/0401/11/ 0401/...
01/09/0501/11/0501/01/0601/03/063530252015105001/01/0401/03/0401/05/0401/07/0401/09/0401/11/0401/01/0501/03/0501/05/0501/0...
01/03/063530252015105001/01/0401/03/0401/05/0401/07/0401/09/0401/11/0401/01/0501/03/0501/05/0501/07/0501/09/0501/11/0501/0...
2520151050Implied volatility Historic volatility (30 days)Average historic volatility 01/ 01/ 90 -17/ 03 / 06United States...
market performance of its G7 peers, banking sector stocksalso fared relatively weakly. With rising interest rates andf lat...
14012010080604020016014012010080604020001/01/0401/02/0401/03/0401/04/0401/05/0401/06/0401/07/0401/ 08 / 04
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– medianSenior debt 10 years– third quartileVertical lines:Katrina, Ritaand Wilma hurricanes16© OECD 2006Financial Market ...
25 million USD) and with a certain mobility of funds (holdingperiod less than two years) to register as financial advisors...
95DS total market US return index (absolute value, r.h.s.)S&P 500 Nasdaq 10-year benchm. bond ret. indexCSFB/Tremont Hedge...
July 05Aug. 05Sept. 05Oct. 05Nov. 05Dec. 05Returns relative to total market US DS total market US return index, January 20...
services provided by exchanges. The future structure forequities trading will be determined by the trade-off betweeneconom...
tightening monetarypolicy in the UnitedStates andelsewhere.In major economies, benchmark bond yields have slightlyrisen fr...
Note: The global liquidity indicator based on real interest rate developments follows C. Borio and W.White (2004),“Whither...
1.51.05.04.54.03.53.02.52.01.51.001/01/0401/02/0401/03/0401/04/0401/05/0401/06/0401/07/0401/ 08 / 0401/09/0401/10/0401/11/...
01/02/0501/03/0501/04/0501/05/0501/07/0501/ 08 / 0501/09/0501/10/0501/11/ 0501/12/0501/01/0601/02/0601/03/06United StatesE...
3.57.0 06.005.004.003.002.001.000-1.00-2.00Per cent Percentage pointsJan. 93April 93July 93Oct. 93Jan. 94April 94July 94Oc...
April 96July 96Oct. 96Jan. 97April 97July 97Oct. 97Jan. 98April 98July 98Oct. 98Jan. 99April 99July 99Oct. 99Jan. 00Apr il...
July 02Oct. 02Jan. 03Apr il 03July 03Oct. 03Jan. 04April 04July 04Oct. 04Jan. 05April 05July 05Oct. 05Jan. 06G7 real overn...
–, the ECB lifted its repo rate to 2.5 per cent on 2 March(becoming effective on 8 March). In making the change theECB ref...
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1.51.01 2 3 4 5 6 7 8 9 10 2 3 4 5 6 7 8 9 10 1Year s Year sUnited States Euro areaYear s Year sJapan(scale differs from o...
Japan (BOJ ) ended i t s po l i cy o f quant i tat ive eas ing . On9 March it decided to change the operating target of mo...
4543210Nov. 04Dec. 04Jan. 05Feb. 05March 05April 05May 05June 05July 05Aug. 05Sept. 05Oct. 05Nov. 05Dec. 05Jan. 06Feb. 06M...
May 06June 06July 06Aug. 06Sept. 06Oct. 06Nov. 06Dec. 06Jan. 07Feb. 07March 07April 07US 3-month eurodollarUnited States –...
corporate spreadsremain compressedin the US and theeuro area, buthigher investmentgrade spreads inthe Unites Statesindicat...
Bond issuance in the United States has picked up strongly inthe last quarter of 2005, with a substantial issuance by thefi...
25020015001/01/0401/02/0401/03/0401/04/0401/05/0401/06/0401/07/0401/ 08 / 0401/09/0401/11/0401/10/0401/06/0501/01/0501/12/...
01/11/0501/12/0501/01/0601/02/0601/03/06Basis points Basis pointsUnited States – 5-year averageUnited StatesEuro area – 5-...
Source: US Federal Reserve Board, Flow of Funds Accounts of the United States.12010080604020012010080604020001/01/0401/02/...
01/10/0401/06/0501/12/0401/01/0501/02/0501/03/0501/04/0501/05/0501/07/0501/ 08 / 0501/09/0501/10/0501/11/0501/12/0501/01/0...
1 2001 00080060040020002 0001 8001 6001 4001 2001 0008006004002000Government Financial sectors Non-financial corporate bus...
Sept. 04Dec. 04March 05June 05Sept. 05Dec. 05Highlights of Recent Trends in Financial Markets23© OECD 2006… and so has eur...
30 per cent of the issuance at maturities of 11 years andabove. In February, the US Treasury reintroduced a 30-yearbond af...
100 10050 5000Government Financials CorporatesJan. 03F eb. 03March 03Apr il 03May 03June 03July 03Aug. 03Sept. 03Oct. 03No...
Oct. 04Nov. 04Dec. 04Jan. 05F eb. 05March 05April 05May 05June 05July 05Aug. 05Sept. 05Oct. 05Nov. 05Dec. 05Jan. 0624© OEC...
about the supply of ultra-long term bonds drove down theyield on the 30-year inflation-linked bonds to 0.69 per cent,and t...
expected interestrate differentialsand structuralweaknesses led tofluctuations in therelative values ofthe dollar, euro an...
positions, capital flows into Japan have already risen andare expected to rise further.Asia still investsstrongly in USass...
t he i r o i l su rplu s i n US a s set s ( “pe t r o- do l la r re cyc l ing” )seems to have firmed over the past few mon...
01/09/0501/10/0501/11/0501/12/0501/01/0601/02/0601/03/061501451401351301251201151101051001.001.051.101.151.201.251.30
1.351.40Japanese yen per USD (primary axis)Japanese yen per euro (primary axis)USD per euro(secondary axis, inverted)26© O...
3020100-101001101009080706050403020100-10Jan. 04Feb. 04March 04April 04May 04June 04
July 04Aug. 04Sept. 04Oct. 04Nov. 04Dec. 04Jan. 05Feb. 05March 05April 05May 05June 05July 05Aug. 05Sept. 05Oct. 05Nov. 05...
605040302010080706050403020100Jan. 03March 03May 03July 03Sept. 03Nov. 03Jan. 04March 04May 04
July 04Sept. 04Nov. 04Jan. 05March 05May 05July 05Sept. 05Nov. 05Jan. 06OPEC holdings London Brent Crude Oil Index USD/BBL...
their attractionrecently, with a netincome balance indecline.Most of the foreign investments in US assets are still inbond...
70605040302010-20-101001101009080706050403020100-20-100
Jan. 04Feb. 04March 04April 04May 04June 04July 04Aug. 04Sept. 04Oct. 04Nov. 04Dec. 04Jan. 05Feb. 05March 05April 05May 05...
Billions of US dollars, monthly Billions of US dollars, monthlyBonds, totalof which:Government bondsof which: Corporate bo...
(Figure 18). These developments have been driven by stillrelatively high liquidity, improving fundamentals in emerging mar...
01/11/0401/10/0401/06/0501/01/01/0512/0401/02/0501/04 / 0501/03/0501/05/0501/07/0501/08/0501/09/0501/10/0501/11/ 0501/12/0...
3302802301801308063058053048043038033028023018013080Basis points Basis pointsEmerging markets (total)Latin AmericaAsiaMidd...
© OECD 2006The recent Icelandicstock market crashhad somerepercussions onemerging markets.More recently, EMBI spreads tigh...
recent drops in mid-March coincided with the BOJ’s decisionto change its monetary policy stance and were partly linkedto t...
01/03/0501/05/0501/07/0501/ 08 /0501/09/0501/10/0501/11/0501/12/0501/01/0601/02/0601/03/0620019018017016015014013012011010...
80502001901801701601501401301201101009060708050Latin America– DS market (in USD terms)Asia ex-Japan– DS market(in USD term...
Brazil Bovespa – price index (in USD terms)30© OECD 2006Financial Market Trends, No. 90, April 2006euro area in general. T...
steps in financialsectorliberalisation…China, which has taken some further steps towards financialsector liberalisation, a...
of economic reforms moving forward may also reflect a planby the government to consider withdrawing remaining currency con...
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Highlights of recent trends in financial markets

  1. 1. Highlights of Recent Trends in Financial MarketsI. OverviewFinancial marketprices have beenstrong and stockexchangeconsolidationhas continued.Financial markets in major economies have been broadlystrong after some weakening in the first part of the fourthquarter of 2005. Equity markets in the euro area have beenbuoyant over the past few months, and the strong upswingo f Japanese mar ket s in the four th quar ter was pe rhapsdriven by prospects of the end of deflation. The US equitymarkets have grown at a somewhat slower pace than theirG7 peers, but have recovered well from the adverse effectsof the late-summer hurricanes. As part of a trend towardsfurther stock market consolidation and demutualisation, theNew Yo r k St ock Ex change became a l i s ted company on8 March after having acquired the electronic trading networkArchipelago.Global liquiditywithdrawal hascontinued,…Global liquidity withdrawal has continued as central banks
  2. 2. have tightened their stance. In the United States the yieldcurve has flattened further over the past few months, as theincreases in long-term benchmark yields did not keep pacewith r i s ing shor t - term rate s . In Japan, the Bank of Japanannounced an end to the policy of quantitative easing.… but corporatespreads haveremained low orstable.Both in the United States and the euro area, high-yield corporate bond spreads remain far below theirlonger termaverages and, in the euro area, have been compres sedslightly over the past few months. Investment-grade spreads,by contrast, have moved sideways in the United States andthe euro area.10© OECD 2006Financial Market Trends, No. 90, April 2006Figure 1. Major stock marketsTotal market and financial sector equity price indices,1 Jan 1998 = 100Note: Datastream indices. Daily data until 17 March 2006.Source: Thomson Financial Datastream.01/01/0401/03/0401/05/0401/07/04
  3. 3. 01/09/0401/11/0401/01/0501/03/0501/05/0501/07/0501/09/0501/11/ 0501/01/0601/03/06180160140120100806001/01/0401/03/0401/05/0401/07/0401/09/0401/11/0401/01/0501/03/05
  4. 4. 01/05/0501/07/0501/09/0501/11/0501/01/0601/03/06180160140120100806001/01/0401/03/0401/05/0401/07/0401/09/0401/11/0401/01/0501/03/0501/05/0501/07/0501/09/0501/11/05
  5. 5. 01/01/0601/03/06180160140120100806001/01/0401/03/0401/05/0401/07/0401/09/0401/11/0401/01/0501/03/0501/05/0501/07/0501/09/0501/11/0501/01/0601/03/06180160
  6. 6. 140120100806001/01/0401/03/0401/05/0401/07/0401/09/0401/11/0401/01/0501/03/0501/05/0501/07/0501/09/0501/11/0501/01/0601/03/0618016014012010080
  7. 7. 6001/01/0401/03/0401/05/0401/07/0401/09/0401/11/0401/01/0501/03/0501/05/0501/07/0501/09/0501/11/0501/01/0601/03/06300280260240220200180160140120
  8. 8. 100Total mar ket Financials Total market average 01/01/90-17/03/06United States JapanEuro area GermanyFrance(scale differs from other countries)United Kingdom Highlights of Recent Trends in Financial Markets11© OECD 2006Emerging stockmarkets alsocontinued theirupswing, and EMBIspreads have onlyrecently risen fromcompressed levels.The equi ty market upswing al so cont inued in emergingeconomies over the pas t few months , and some recentdownturns related to investors’ uncertainty about the extentof liquidity withdrawal by central banks proved to be shortlived. Emerging market bond spreads haverisen slightlyfrom relatively compressed levels, after the Icelandic stockmarket crash in February and some subsequent unwindingof carry trades.II. Equity marketsMajor equity
  9. 9. markets haveshown a strongoverallperformance...Major equity markets have shown a more upbeat performance over the past few months, continuingthe overallupward trend that prevailed throughout 2005 (Figure 1). Indices dipped in November in the wake ofsome disappointingincoming macroeconomic and corporate data, but bouncedback in December as a tightening in the ECB’s policy stancein early December and lower-than-expected inflation outcomes in the United States provided somecomfort thatgrowth prospects remained on track (Figure 2 and Table 1).Figure 2. Recent sectoral stock market performance in major economiesPercentage changes from November 2005 until March 2006Note: Calculations based on monthly averages. Indices as specified in Table 1.Source: Thomson Financial Datastream.20151050-52015105
  10. 10. 0-5%%United States Japan Euro area United KingdomBroad stockmarket indicesTelecom,media, ITFinancialcorporationsBanks Life insurancecompaniesInsurancecompanies12© OECD 2006Financial Market Trends, No. 90, April 2006Table 1. Overall and sectoral stock market performance in major economiesUnitedStatesJapanEuroareaGermany France ItalyUnitedKingdom
  11. 11. CanadaBroad stock market indicesWILSHIRE5000NIKKEI225DJ EUROSTOXXDAX 30 CAC 40MILANMIBTELFTSE 100S&P/TSXCOMP.Pct.chg. Dec-05-Mar-06 2.7% 2.3% 9.0% 8.6% 7.5% 9.3% 6.3% 6.7%P/E Mar.06b18.5 34.3 16.7 14.0 16.0 21.0 14.9 18.9P/E avg. Jan.90-Mar.06b21.3 48.3 16.2 16.9 15.2 19.1 17.1 19.0Telecom, Media, ITaPct.chg. Dec-05 - Mar-06 2.0% –2.5% 4.2% 5.3% –0.4% 0.9% 1.7% 5.6%P/E Mar.06 24.6 28.3 19.3 15.9 15.6 22.2 15.1 27.9
  12. 12. P/E avg. Jan.90-Mar.06 29.4 61.8 21.8 31.4 19.6 21.2 24.1 28.5FinancialsaPct.chg. Dec-05-Mar-06 2.7% 0.2% 12.3% 11.5% 13.2% 13.6% 10.5% 6.2%P/E Mar.06 15.5 36.0 15.8 12.2 15.5 23.1 14.5 16.3P/E avg. Jan.90-Mar.06 15.4 62.5 15.8 19.1 12.5 20.4 16.6 13.7Of which: BanksaPct.chg. Dec-05-Mar-06 0.3% –2.0% 13.2% 12.9% 14.4% 14.0% 8.7% 7.3%P/E Mar.06 13.4 41.1 15.9 11.6 13.3 22.0 12.5 16.5P/E avg. Jan.90-Mar.06 14.3 96.3 13.3 13.7 10.8 16.3 14.2 13.0Insurance companiesaPct.chg. Dec-05-Mar-06 –0.7% 4.9% 9.1% 8.3% 9.2% 11.2% 12.7% 4.8%P/E Mar.06 15.5 29.3 13.5 10.7 16.7 23.4 12.5 15.6P/E avg. Jan.90-Mar.06 18.2 44.3 20.3 31.1 14.2 29.2 23.3 13.7Life insurance companiesaPct.chg. Dec-05-Mar-06 0.4% 6.7% 7.7% 15.7% 17.8% 8.5% 13.6% 4.5%P/E Mar.06 12.5 74.4 11.8 13.0 22.3 12.9 16.3P/E avg. Jan.90-Mar.06 14.9 n.a. 25.4 37.9 19.6 15.0Note: Calculations based on monthly averages (March 2005 data are until 17 March only). Earnings pershare, the denominators of the price-earnings ratios, are based on the latest annualised rate reflectingthe last financial year or derived froman aggregation of interim period earnings. For France, the current earnings per share are a forecastprovided by local
  13. 13. sources. For the United Kingdom, the earnings are calculated by a rolling 12 months method of analysisbased oninterim, final and annual accounts.a) Datastream indices. The Insurance index includes non-life insurance companies, insurance brokersand otherinsurance companies; it does not include life insurance companies.b) From Datastream Total Market indices.Source: Thomson Financial Datastream.Highlights of Recent Trends in Financial Markets13© OECD 2006…and havegrown wellin Japan,…I n Ja p a n , w h e r e th e Ni k k e i r o s e mo re t h a n 4 0 p e r c e n tin 2005, the growth of broad market indices had been particularly strong in the fourth quarter of 2005.The run-up inshare prices was driven by data releases such as strongerthan-expected GDP growth and higher earningsforecasts,which fostered expectations of a sustained recovery, anddata showing receding deflation. Inflation is now forecast tobe slightly positive this year, a sign of the end to a long-lasting period of economic stagnation. Despitethe sizeablegains last year, major equity markets and their sub-components seem not to be overvalued, judged atleast on thebasis of price-earnings ratios, which are below or close totheir long-run levels (Table 1).... backed byforeign as well as
  14. 14. domestic demandfrom individualinvestors,…This strong stock market growth in Japan was supported inpart by foreign demand and increasing demand from individual investors, which accounted for 28 percent of the totaltrading value on the three largest stock exchanges. Abouthalf of the purchases by individual investors were leveragedwith loans based on market rates, and as some observershave noted the change in the Bank of Japan’s policy stancewith an outlook for rising interest rates may force some ofthese individuals to divest their stocks.… despite a recentsurge in volatility.Volatility, both as implied by option prices and derived fromthe history of equity price variability, has remained low in allmajor markets but Japan (Figure 3). The sharp sell-off in thewake of an investigation into Livedoor, an internet company, inmid-January even led to an early closure of the Tokyo StockExchange (TSE), substantiating complaints about the inadequacy of TSE’s trading system to deal with asurge in transactions. In response, the TSE announced in late March to doublethe previously planned IT spending and to implement a “nextgeneration” system over the coming years.The financialsectors showed arelatively strongperformance in
  15. 15. Europe, wheresome reinsurersseem to haveshrugged offhurricane losses.Looking at the various segments of the stock markets, the financial sector showed the strongest gains ineuro area markets andin the United Kingdom over the past few months. In both ofthese markets, the sectors’ overall performance was boosted bythe banking and insurance sub-sectors. Some of the majorEuropean reinsurers shrugged off heavy losses from last year’shurricanes by selling assets or through other compensatingmeasures, while the US insurance sector has shown negativereturns. However, the declines in US insurers’ credit default14© OECD 2006Financial Market Trends, No. 90, April 2006Figure 3. Stock markets: implied and historic volatilitiesVertical lines indicate date of previous meetingNote: Daily data until 17 March 2006. Historic volatilities are monthly volatilities calculated from dailydata. Impliedvolatility can be interpreted as market expectation of risk (future volatility) and is derived from at-the-money call optionprices (interpolated) using the Black-Scholes formula. The Cox-Rubinstein binomial method is used forAmericanstyle options.Source: Thomson Financial Datastream.01/01/04
  16. 16. 01/03/0401/05/0401/07/0401/09/0401/11/0401/01/0501/03/0501/05/0501/07/0501/09/0501/11/0501/01/0601/03/063530252015105001/01/0401/03/0401/05/0401/07/04
  17. 17. 01/09/0401/11/ 0401/01/0501/03/0501/05/0501/07/0501/09/0501/11/0501/01/0601/03/063530252015105001/01/0401/03/0401/05/0401/07/0401/09/0401/11/ 0401/01/05
  18. 18. 01/03/0501/05/0501/07/0501/09/0501/11/0501/01/0601/03/063530252015105001/01/0401/03/0401/05/0401/07/0401/09/0401/11/ 0401/01/0501/03/0501/05/0501/07/05
  19. 19. 01/09/0501/11/0501/01/0601/03/063530252015105001/01/0401/03/0401/05/0401/07/0401/09/0401/11/0401/01/0501/03/0501/05/0501/07/0501/09/0501/11/0501/01/06
  20. 20. 01/03/063530252015105001/01/0401/03/0401/05/0401/07/0401/09/0401/11/0401/01/0501/03/0501/05/0501/07/0501/09/0501/11/0501/01/0601/03/063530
  21. 21. 2520151050Implied volatility Historic volatility (30 days)Average historic volatility 01/ 01/ 90 -17/ 03 / 06United States – S&P 500 Japan – AMEX indexGermany – DAXUnited Kingdom – FTSE 100Euro area – DJ EUROSTOXX 50France – CAC 40Highlights of Recent Trends in Financial Markets15© OECD 2006swap spreads over the past few months reflect a positive perception by investors of the sector’sresilience (Figure 4).US banks arecoming underpressure fromflattening yieldcurves and acooling housingmarket.In the United States, where the overall stock market performance over the past few months has beenweaker than the
  22. 22. market performance of its G7 peers, banking sector stocksalso fared relatively weakly. With rising interest rates andf lat tening yield curves , banks ’ p rof it s have come unde rpressure, and while the sector has benefited from buoyantmortgage lending over the past few years, this source ofincome may ebb with a cooling housing market. At the sametime, the increased extension of non-traditional mortgageproducts to sub-prime lenders may pose additional risk forsome lenders.The run on hedgefunds has beenslowing,…As traditional equity investments have fared well over thelast year, hedge funds may have lost some of their appeal asthey tended to underperform the broader market indices inthe four th quar ter of 2005 (Figure 5 ) . Whil e inf lows intohedge fund s cont inued s t rong and r ea c hed nea r ly USD47 billion in 2005, they were lower than the USD 74 billionFigure 4. Hurricane effects on US insurersQuartiles of credit default swap spreads of US insurers, senior debt 10 yearsNote: Daily data until 17 March 2006. Quartiles measured over 10 biggest available credit default swapspreads ofUS insurers.Source: Thomson Financial Datastream, OFDA/CRED International Disaster Database (www.em-dat.net),and OECD.160
  23. 23. 14012010080604020016014012010080604020001/01/0401/02/0401/03/0401/04/0401/05/0401/06/0401/07/0401/ 08 / 04
  24. 24. 01/09/0401/10/01/11/040401/01/01/06/050501/12/0401/02/0501/03/01/04/050501/05/0501/07/0501/ 08 / 0501/09/0501/10/0501/11/0501/12/0501/01/0601/02/0601/03/06Senior debt 10 years – first quartileSenior debt10 years
  25. 25. – medianSenior debt 10 years– third quartileVertical lines:Katrina, Ritaand Wilma hurricanes16© OECD 2006Financial Market Trends, No. 90, April 2006inflows attained in 2004. At the end of 2005, hedge funds arerepo r ted to have he ld abou t USD 1 .1 t r i l l ion i n as se t s ,13 per cent more than the year before. With somewhat lowerreturns, the dispersion of returns of various hedge fundsstrategies seem to have declined slightly. Lower volatilitymay have pushed some hedge funds into pursuing riskierstrategies in search for “alpha”. Should equity market volatility increase from current levels below long-term averages,this may help hedge funds diversify their strategies andagain increase their average returns.... while surveillanceof the hedge fundsector hasincreased in theUnited States.In the United States, effective end-January, the US Securities and Exchange Commission (SEC) hasrequired hedgefunds over a certain size (assets under management of over
  26. 26. 25 million USD) and with a certain mobility of funds (holdingperiod less than two years) to register as financial advisors(under the Investment Advisers Act of 1940) and report theirbusiness. While loopholes exist, this enhanced surveillanceFigure 5. Relative performance of US securities and hedge fundsReturns relative to broad market (DS total market index, Jan 2003 = 100)Note: March 2006 data are based on averages until 17 March.Source: Thomson Financial Datastream.1050-5-10-15-20-25-30135130125120115110105100
  27. 27. 95DS total market US return index (absolute value, r.h.s.)S&P 500 Nasdaq 10-year benchm. bond ret. indexCSFB/Tremont Hedge Fund Index Hennessee Hedge Fund IndexJan. 04Feb. 04March 04April 04May 04June 04July 04Aug. 04Sept. 04Oct. 04Nov. 04Dec. 04Jan. 05Feb. 05March 05Jan. 06Feb. 06March 06April 05May 05June 05
  28. 28. July 05Aug. 05Sept. 05Oct. 05Nov. 05Dec. 05Returns relative to total market US DS total market US return index, January 2004 = 100Highlights ofRecent Trends in Financial Markets17© OECD 2006may enable early warning procedures and foster greaterfinancial stability.The trend towardsdemutualisation ofstock exchangesand consolidationof the sector hascontinued…The global trend toward consolidation and demutualisationof stock exchanges has continued.1Such changes in thestock exchange landscape mark a more general trend datingback to the mid-1990s, arising from increasing globalisationand advances in information and communication technologies, which enhance competition in the areaof the financial
  29. 29. services provided by exchanges. The future structure forequities trading will be determined by the trade-off betweeneconomies of scale and network effects on the one hand andproblems of monopolisation on the other.…as the New YorkStock ExchangeacquiredArchipelago andbecame a listedcompany in March.The New York Stock Exchange became a listed company on8 March, and the NYSE’s completion of a merger with Archipelago, an all-electronic trading network, theday beforemarked a further step in the consolidation of the sector.Some recent M&A attempts, like the so far unsuccessfulmerger talks last year between Euronext (which operatesexchanges in Paris, Amsterdam, Brussels and Lisbon as wellas the Liffe derivatives exchange in London) and DeutscheB ö r se , a s w e l l a s the u n s uc ces s ful of fer by NASDAQ toacquire the London Stock Exchange on 9 March hint at further potential for consolidation of the sector.III. Bond markets and interest ratesLong-termbenchmark yieldsrose slightly, butyield curves haveflattened with
  30. 30. tightening monetarypolicy in the UnitedStates andelsewhere.In major economies, benchmark bond yields have slightlyrisen from their low levels (Figure 6), driven by a positivee c o n om i c o u t l o o k a n d b y t i g h t e n i n g m o n e t a r y p o l i c y(Figure 7). In the United States the Fed lifted its target rateto 4.75 per cent on 28 March – its 15th consecutive step ofthe tightening round that began at the end of June 2004.However, the increases at the short end of the yield curvehave been outpacing the increases in long-term rates and haverendered the yield curve flat if not inverted (Figure 8). In1. Issues related to changes in the stock exchange landscape were also discussed at the November 2005meeting of the OECD Committee on Financial Markets, and at previous meetings of the Committee.See also Schich, S., and G. Wehinger (2003), “Prospects for Stock Exchanges”, Financial Market Trends85,October 2003; pp. 92-117.18© OECD 2006Financial Market Trends, No. 90, April 2006Figure 6. 10-year government benchmark bond yieldsNote: Daily data until 17 March 2006.Source: Thomson Financial Datastream.Figure 7. Proxies for global liquidity developmentsG7 real overnight rate, GDP weighted, inverted scale,and actual money growth minus potential real GDP growth, in percentage points
  31. 31. Note: The global liquidity indicator based on real interest rate developments follows C. Borio and W.White (2004),“Whither monetary and financial stability? The implications of evolving policy regimes”, BIS WorkingPaper No 147. Themeasure shows a weighted average of real overnight rates in G7 countries; for France and Germany, theEuro Overnight Index Average (EONIA) is used from 1999 onwards. The weights are based on USD GDP,and real rates arecalculated by deducting three-month moving averages of year-on-year CPI changes from nominalovernight rates,including projected CPI changes in cases where most recent data have not yet been available. The otherindicatorfocuses on G7 excess money growth (again as GDP-weighted average). Actual nominal money growth isthe year-onyear growth of quarterly broad monetary aggregates; potential real GDP growth is correctedfor trend velocity growth,i.e. it is a residual money growth measure derived from the quantity equation assuming zero inflation.Trend velocitygrowth is based on average velocity growth 1980-2002 in the respective economies, except for the euroarea, whereit is based on the mid-value of the range for velocity growth as assumed by the European Central Bankin deriving thequantitative reference value for monetary growth (0.75).Sources: Thomson Financial Datastream; OECD, Main Economic Indicators and Economic OutlookDatabase; European Central Bank.5.04.54.03.53.02.52.0
  32. 32. 1.51.05.04.54.03.53.02.52.01.51.001/01/0401/02/0401/03/0401/04/0401/05/0401/06/0401/07/0401/ 08 / 0401/09/0401/10/0401/11/0401/06/0501/01/0501/12/04
  33. 33. 01/02/0501/03/0501/04/0501/05/0501/07/0501/ 08 / 0501/09/0501/10/0501/11/ 0501/12/0501/01/0601/02/0601/03/06United StatesEuro areaJapan-1.0-0.500.51.01.52.02.53.0
  34. 34. 3.57.0 06.005.004.003.002.001.000-1.00-2.00Per cent Percentage pointsJan. 93April 93July 93Oct. 93Jan. 94April 94July 94Oct. 94Jan. 95April 95July 95Oct. 95Jan. 96
  35. 35. April 96July 96Oct. 96Jan. 97April 97July 97Oct. 97Jan. 98April 98July 98Oct. 98Jan. 99April 99July 99Oct. 99Jan. 00Apr il 00July 00Oct. 00Jan. 01April 01July 01Oct. 01Jan. 02April 02
  36. 36. July 02Oct. 02Jan. 03Apr il 03July 03Oct. 03Jan. 04April 04July 04Oct. 04Jan. 05April 05July 05Oct. 05Jan. 06G7 real overnight rate,GDP weighted,inverted scaleG7 excessmoney growth(right-hand scale)Highlights of Recent Trends in Financial Markets19© OECD 2006the euro area, following suit to its tightening step in earlyDecember last year – the first one after more than five years
  37. 37. –, the ECB lifted its repo rate to 2.5 per cent on 2 March(becoming effective on 8 March). In making the change theECB referred to upside risks to price stability from oil pricesand, despite a disappointing fourth quarter GDP growthestimate, improving prospects from economic activity. Elsewhere, the Bank of England left its repo rateat 4.5 per cent(unchanged since the easing in August last year), while theFigure 8. Yield curvesNote: Monthly averages of daily data.Source: Thomson Financial Datastream.17/03/06 17/12/05 17/09/055.55.04.54.03.53.02.52.01.51.05.55.04.54.03.5
  38. 38. 3.02.52.01.51.01 2 3 4 5 6 7 8 9 10 2 3 4 5 6 7 8 9 10 12.01.81.61.41.21.00.80.60.40.205.55.04.54.03.53.02.52.0
  39. 39. 1.51.01 2 3 4 5 6 7 8 9 10 2 3 4 5 6 7 8 9 10 1Year s Year sUnited States Euro areaYear s Year sJapan(scale differs from other countries)United Kingdom20© OECD 2006Financial Market Trends, No. 90, April 2006Bank of Canada raised its overnight rate target for the fifthtime since last September to 3.75 per cent on 7 March, indicating that the Canadian economy iscontinuing to operateat its full productive capacity.In Japan the BOJannounced the endof monetary easing,and while leavinginterest rates atzero, investorsexpect short-termrates in Japan toincrease later thisyear.As price deflation continued to recede in Japan, the Bank of
  40. 40. Japan (BOJ ) ended i t s po l i cy o f quant i tat ive eas ing . On9 March it decided to change the operating target of moneymarket operations from the outstanding balance of currentaccounts at the Bank to the uncollateralised overnight callrate. While at the same time it announced that it will encourage that rate to remain at effectively zerofor the time being,investors expect – as implied by forward rates and futures –some upward movement in the course of the coming months(Figure 9). On the basis of similar measures for the US andthe euro area, no further tightening is expected from theFed, but investors see some further rate increases ahead bythe ECB.Figure 9. Implied forward and futures short-term interest ratesUnited States, euro area and JapanNote: Data as of 17 March 2006. Actual rates: United States: 3-months eurodollar middle rate; euroarea: Euribor3 month offered rate; Japan: uncollater. 3-month middle rate; monthly averages. Implied forward ratesare derivedfrom zero-bond yield curves. Eurodollar futures: 3-month (CME); Euribor futures: 3-months (LIFFE),euroyen futures:3-months (TIFFE).Sources: Thomson Financial Datastream, OECD.52103
  41. 41. 4543210Nov. 04Dec. 04Jan. 05Feb. 05March 05April 05May 05June 05July 05Aug. 05Sept. 05Oct. 05Nov. 05Dec. 05Jan. 06Feb. 06March 06April 06
  42. 42. May 06June 06July 06Aug. 06Sept. 06Oct. 06Nov. 06Dec. 06Jan. 07Feb. 07March 07April 07US 3-month eurodollarUnited States – 3 months implied forward interest rate3-month eurodollar futures3-month Euribor Euro area – 3 monthsimplied forwardinterest rate3-month Euribor futuresJapan uncollater. 3-monthJapan – 3 months implied forward interest rate3-month euroyen futuresHighlights of Recent Trends in Financial Markets21© OECD 2006High-yield
  43. 43. corporate spreadsremain compressedin the US and theeuro area, buthigher investmentgrade spreads inthe Unites Statesindicate an endingupgrading cycle.Spreads of high-yield corporate bond yields over those ofBAA bonds have remained significantly below their longerterm averages in both in the United States andeuro areaand have even become further compressed over the pastfew months (Figure 10). While spreads of investment-gradebond yields over benchmarks have moved sideways in theUnited States and the euro area, they have remained attheir 5-year average level in the United States (Figure 11).This higher spread level may mirror prospects that the cycleof upgrades may be coming to an end as easy financingthrough low interest rates is running out and corporate balancesheets may come under pressure. This may soon also show upin high-yield spreads, as surveys are indicating that many market participants expect corporate defaultrates in the highyield segment to rise in 2006 and even further in 2007.US bond issuancedecreased slightlyin 2005,…
  44. 44. Bond issuance in the United States has picked up strongly inthe last quarter of 2005, with a substantial issuance by thefinancial as well as the government sector (Figure 12). However,owing to weak issuance in the previous quarters, total issuance in 2005 at USD 1 030 billion was slightlybelow the USD1 088 billion of 2004. The biggest contribution came from thefinancial sector, with total bond issuance of USD 659 billion.Figure 10. High-yield bond spreadsNote: Daily data until 17 March 2006. Aggregate corporate high-yield bond yields minus aggregatecorporate BAAbond yields (Lehman indices) for the United States; JP Morgan Maggie government spread of high yieldcredit, allsectors, all maturities, for the euro area.Source: Thomson Financial Datastream.500450400350300250200150500450400350300
  45. 45. 25020015001/01/0401/02/0401/03/0401/04/0401/05/0401/06/0401/07/0401/ 08 / 0401/09/0401/11/0401/10/0401/06/0501/01/0501/12/0401/02/0501/04 / 0501/03/0501/05/0501/07/0501/ 08 / 0501/09/0501/10/05
  46. 46. 01/11/0501/12/0501/01/0601/02/0601/03/06Basis points Basis pointsUnited States – 5-year averageUnited StatesEuro area – 5-year averageEuro area22© OECD 2006Financial Market Trends, No. 90, April 2006in 2005, up from the USD 538 billion in 2004. Governmenti s suan ce dec l ined f rom USD 472 bi l l ion in 2004 to USD310 billion in 2005, and issuance of corporate bonds slowedfrom USD 78 billion in 2004 to USD 61 billion in 2005.Figure 11. Investment-grade corporate bond spreadsNote: Daily data until 17 March 2006. Aggregate corporate BAA bond yields (Lehman indices) minusgovernmentbenchmark bond yields for the United States; JP Morgan Maggie government spread of investment-grade credit, allsectors, all maturities, for the euro area.Source: Thomson Financial Datastream.Figure 12. Net issuance of US bondsIn billions of US dollarsNote: Government includes Treasury, Municipal and Agency Securities.
  47. 47. Source: US Federal Reserve Board, Flow of Funds Accounts of the United States.12010080604020012010080604020001/01/0401/02/0401/03/0401/04/0401/05/0401/06/0401/07/0401/ 08 / 0401/09/0401/11/ 04
  48. 48. 01/10/0401/06/0501/12/0401/01/0501/02/0501/03/0501/04/0501/05/0501/07/0501/ 08 / 0501/09/0501/10/0501/11/0501/12/0501/01/0601/02/0601/03/06Basis points Basis pointsUnited States – 5-year averageEuro area – 5-year average United StatesEuro area2 0001 8001 6001 400
  49. 49. 1 2001 00080060040020002 0001 8001 6001 4001 2001 0008006004002000Government Financial sectors Non-financial corporate businessMarch 03June 03Sept. 03Dec. 03March 04June 04
  50. 50. Sept. 04Dec. 04March 05June 05Sept. 05Dec. 05Highlights of Recent Trends in Financial Markets23© OECD 2006… and so has eurodenominatedissuance,…Issuance of euro-denominated bonds also declined on netin 2005 to a total of EUR 1719 billion as compared to EUR1751 billion in 2004, mainly owing to lower issuance of governme n t b o n d s ( F i g u r e 13 ) . T h el a t t e r d e c l i n e d f r om E U R894 billion in 2004 to EUR 809 billion in 2005. On March 8 theGerman government issued its first inflation-linked bond, yielding about 5 basis points more than acomparable French issue.…but the share oflonger maturitiessegments wheredemand is stronghas increased.With increasing demand from long-term investors, the shareof longer-term euro-denominated bonds in total issuancehas risen. In 2005, 55 per cent of bonds were issued in maturity segments of 7 years and above, up from47 per centin 2004. Thi s t rend has continued in January 2006, wi th
  51. 51. 30 per cent of the issuance at maturities of 11 years andabove. In February, the US Treasury reintroduced a 30-yearbond after a gap of more than four years. Expected changesto regulations for US pension funds to improve durationmatching (similar to UK regulations) foster expectations ofhigher demand for such longer-dated bonds in the future. Inthe same month, the European Investment Bank introducedFigure 13. Euro-denominated bond markets: volumes issued by type of issuerIn billions of eurosNote: Issues of a maturity of 1 year or more. “Government” comprises bonds of agencies, centralgovernments,municipals, regions, cities, and supra-nationals. “Financial” comprises asset-backed securities, financials’bonds, andPfandbriefe. The latter includes Pfandbrief-style paper issued in EU-countries, like for instance FrenchObligationsfoncières, Spanish Cédulas hipotecarias, etc.Note that, according to information from the European Commission, the surge in issuance by financialinstitutions andby non-financial corporations in June 2005 seems to be mainly related to the implementation deadlineof 1 July 2005for the new EU Directive on prospectuses, which will require most companies to update their borrowingprogrammesbefore returning to the market.Source: European Commission (DG ECFIN).300 300250 250200 200150 150
  52. 52. 100 10050 5000Government Financials CorporatesJan. 03F eb. 03March 03Apr il 03May 03June 03July 03Aug. 03Sept. 03Oct. 03Nov. 03Dec. 03Jan. 04F eb. 04March 04April 04May 04June 04July 04Aug. 04Sept. 04
  53. 53. Oct. 04Nov. 04Dec. 04Jan. 05F eb. 05March 05April 05May 05June 05July 05Aug. 05Sept. 05Oct. 05Nov. 05Dec. 05Jan. 0624© OECD 2006Financial Market Trends, No. 90, April 2006a 30-year bond, becoming the first supra-national issuer inthe long-term segment. Early in March, the UK governmentachieved its lowest yield ever on the sale of a 30-year inflation linked bond, highlighting the strongdemand for longerdated issues among pension funds and other long-terminvestors. The 0.91 per cent real yield of the issue was substantially lower than the 1.65 per cent on thelast issue ofthese bonds in April 2005, but was up from market levelsprevailing in mid-January when pension funds’ uncertainty
  54. 54. about the supply of ultra-long term bonds drove down theyield on the 30-year inflation-linked bonds to 0.69 per cent,and that on the 50-year inflation linker to 0.38 per cent.Also the ABSsegment hasincreased, andstrong corporateissue lies ahead onboth sides of theAtlantic.Fuelled by strong housing markets in Europe, the issuance ofasset-backed securities (ABS) increased over 70 per cent, fromEUR 95 billion in 2004 to EUR 165 billion in 2005, and, based onscheduled issues, can also be expected to remain strong thisyear. Taking advantage of the still favourable prices to borrowers, European companies have scheduledfurther issues for thecoming months, and many of them will include a change-ofcontrol clause to protect investors fromleveraged buyouts(LBOs). Investors’ demand for such protection, giving them theright to sell the bond back at par to the company if in consequence of a takeover its credit isdowngraded to speculativegrade status, has risen as private equity firms have increasedtheir capacity for ever-bigger LBOs. In the United States, a risein takeover activity is spurring corporate issuance of ABS, whichhas reached its highest levels since 2001.IV. Foreign exchange marketsUncertainty about
  55. 55. expected interestrate differentialsand structuralweaknesses led tofluctuations in therelative values ofthe dollar, euro andthe yen.Structural weaknesses apparent in macroeconomic datareleases had interrupted the upward trend of the US dollaragainst the euro at the end of November, but it regainedsome strength at the end of January when the Fed’s tightening fostered a more optimistic outlook andincreased theinterest rate differential between the US and the euro area,in particular at the shorter end of the yield curve (Figure 14).The yen had gained some strength ahead of the expectedchange in BOJ’s policy stance towards tightening, but signalsby the Bank that it intended to retain interest rates at zeroincreased investors’ uncertainty. While there is only anecdotalevidence, some market observers expect that carry trades inHighlights of Recent Trends in FinancialMarkets25© OECD 2006which investors have borrowed at very low Japanese interestrates to acquire other, higher yielding assets elsewhere arelikely to phase out. In the course of the unwinding of such
  56. 56. positions, capital flows into Japan have already risen andare expected to rise further.Asia still investsstrongly in USassets, but netinflows from Japanturned negativerecently.Such developments are also mirrored in data on net inflowsinto the United States, which show that despite an increasein total net inflows in January (USD 66 billion as comparedt o 5 3 .8 in th e p r ev iou s mo n th ) , th e b a la n ce w i th Jap a nturned negative in that month, after having been at relatively low levels throughout 2005 (Figure 15).Inflows fromother Asian countries, however, largely compensated for thedrop in Japanese inflows. In January, net inflows from Asia,excluding Japan, stood at USD 26.6 billion, 11.7 of whichcame from China. Net inflows from the United Kingdom further dropped in January, after they hadalready decreasedin December as compared to the November peak. However,with London being a financial hub, there is no straightforward geographical interpretation of UK flowsfrom thesedata (TIC, as compiled by the US Treasury).OPEC demand forUS assets hasincreased.With higher oil prices, a trend of OPEC countries investing
  57. 57. t he i r o i l su rplu s i n US a s set s ( “pe t r o- do l la r re cyc l ing” )seems to have firmed over the past few months (Figure 16).Figure 14. Major exchange ratesNote: Daily data until 17 March 2006.Source: Thomson Financial Datastream.01/01/0401/02/0401/03/0401/04/0401/05/0401/06/0401/07/0401/ 08 / 0401/09/0401/10/0401/11/0401/12/0401/01/0501/02/0501/03/0501/04/0501/05/0501/06/0501/07/0501/ 08 / 05
  58. 58. 01/09/0501/10/0501/11/0501/12/0501/01/0601/02/0601/03/061501451401351301251201151101051001.001.051.101.151.201.251.30
  59. 59. 1.351.40Japanese yen per USD (primary axis)Japanese yen per euro (primary axis)USD per euro(secondary axis, inverted)26© OECD 2006Financial Market Trends, No. 90, April 2006Figure 15. Net portfolio flows into US by regionBillions of US dollarsNote: Net portfolio flows are net purchases of assets by foreigners from U.S. Residents (gross purchases-grosssales).Source: US Treasury, Treasury International Capital (TIC) Reporting System.Figure 16. OPEC holdings of US assetsTotal holdings of US assets by residents of OPEC countries,in billions of US dollars and oil price in USD/BBL, monthly averageSource: US Treasury, Treasury International Capital (TIC) Reporting System; Thomson FinancialDatastream.110908070605040
  60. 60. 3020100-101001101009080706050403020100-10Jan. 04Feb. 04March 04April 04May 04June 04
  61. 61. July 04Aug. 04Sept. 04Oct. 04Nov. 04Dec. 04Jan. 05Feb. 05March 05April 05May 05June 05July 05Aug. 05Sept. 05Oct. 05Nov. 05Dec. 05Jan. 06Grand totalUnited KingdomEuro area JapanTotal Asia ex. Japan8070
  62. 62. 605040302010080706050403020100Jan. 03March 03May 03July 03Sept. 03Nov. 03Jan. 04March 04May 04
  63. 63. July 04Sept. 04Nov. 04Jan. 05March 05May 05July 05Sept. 05Nov. 05Jan. 06OPEC holdings London Brent Crude Oil Index USD/BBL (r.h.s.)OPEC holdings in billions of dollars Oil price, USD/BBLHighlights of Recent Trends in Financial Markets27© OECD 2006In January, OPEC countries’ holdings of US assets increasedto USD 77.6 billion, up from USD 66.5 billion in Decemberand the high of USD 67.6 billion in November. So far, however, this is still only a small share of 3.5 percent of overallforeign holdings of USD 2 187.6 billion in January. Japan,with a share of over 30 per cent, is still the major holder ofUS assets.US governmentbonds are stillfavoured by foreigninvestors, but seemto have lost some of
  64. 64. their attractionrecently, with a netincome balance indecline.Most of the foreign investments in US assets are still inbonds, predominantly government bonds, but stocks havegained investors’ interest more recently (Figure 17). Netinflows in bonds dropped to USD 57.6 billion in January, continuing a downward trend from the USD104.5 billion peak inOctober 2005 owing to a decline in government bonds, whilecorporate bonds held relatively steady. Net inflows in thestock category rose to USD 8.4 billion, up from the negativebalance in the two previous months. The overall negative balance in stock inflows into the US in 2005(USD –47 billion) wasrather due to high net purchases of equity abroad by US residents (USD 126.9 billion) than to stillpositive net foreign purchases of US stocks (USD 79.9 billion).Figure 17. Net portfolio flows into US by categoryBillions of US dollarsNote: Net portfolio flows are net purchases of assets by foreigners from U.S. Residents (gross purchases- grosssales). Bonds comprise US and foreign bonds; government and corporate bonds as shown here are USbonds only;equity comprises US and foreign equity.Source: US Treasury, Treasury International Capital (TIC) Reporting System.1109080
  65. 65. 70605040302010-20-101001101009080706050403020100-20-100
  66. 66. Jan. 04Feb. 04March 04April 04May 04June 04July 04Aug. 04Sept. 04Oct. 04Nov. 04Dec. 04Jan. 05Feb. 05March 05April 05May 05June 05July 05Aug. 05Sept. 05Oct. 05Nov. 05Dec. 05Jan. 06
  67. 67. Billions of US dollars, monthly Billions of US dollars, monthlyBonds, totalof which:Government bondsof which: Corporate bondsEquity, total28© OECD 2006Financial Market Trends, No. 90, April 2006These trends in 2005 are also reflected in the fact that theasset income balance in the US current account declined byUSD 28.8 b i l l ion , f rom USD 36 .2 bi l l ion in 2004 to USD7.4 billion in 2005, with negative balances in the second andf o u r t h q u a r t e r. Ov e r a l l , t h e U S c u r r e n t a c c o u n t d e f i c i treached a record of USD 805 billion in 2005, up by 20 percent from 2004, now standing at 6.4 per cent of GDP, but wasstill slightly lower than total US net capital inflows of USD867.9 billion in 2005 (TIC data).V. Emerging marketsEMBI spreadscontinue at lowlevels as capitalflows to emergingeconomies reachrecord highs.Emerging market spreads have general ly remained low
  68. 68. (Figure 18). These developments have been driven by stillrelatively high liquidity, improving fundamentals in emerging market economies, and favourable growthin industrialcountries. Inflows of capital into emerging markets havebeen strong in 2005, with total net private capital flows at arecord of USD 358 billion, up USD 40 billion from 2004, andwell above the previous record of USD 324 billion in 1996.Figure 18. Emerging market bond spreadsNote: Daily data until 17 March 2006. JP Morgan EMBI Global blended spreads over US benchmark bondyields.EMBI Global covers US dollar denominated Brady Bonds, Eurobonds, Traded Bonds and local marketdebt instruments issued by sovereign and quasi-sovereign entities.Note also that, according to information from JP Morgan, the strong drop from 10 to 13 June 2005 in theLatin American and, consequently, in the emerging markets total index is due to an intra-monthrebalancing triggered by theArgentina debt exchange. As a result of the rebalancing, Argentina defaulted debt (with spreads of 5000b.p. andabove) was partially replaced with performing debt with much lower spreads.Source: Thomson Financial Datastream.01/01/0401/02/0401/03/0401/04/0401/05/0401/06/0401/07/0401/08/0401/09/04
  69. 69. 01/11/0401/10/0401/06/0501/01/01/0512/0401/02/0501/04 / 0501/03/0501/05/0501/07/0501/08/0501/09/0501/10/0501/11/ 0501/12/0501/01/0601/02/0601/03/06630580530480430380
  70. 70. 3302802301801308063058053048043038033028023018013080Basis points Basis pointsEmerging markets (total)Latin AmericaAsiaMiddle EastRussiaHighlights of Recent Trends in Financial Markets29
  71. 71. © OECD 2006The recent Icelandicstock market crashhad somerepercussions onemerging markets.More recently, EMBI spreads tightened somewhat in thewake of the Icelandic stock market crash on 22 February.Against a background of a global liquidity withdrawal, thisequity market collapse had spill-over effects among variousasset classes and also hit emerging market bonds as investors reconsidered some of their emergingmarket exposureand some t rader s ex i ted car ry t rade s . The co ll apse wascaused by a downgrading of Iceland by Fitch in its outlookover fears about an unsustainable Icelandic current accountdeficit similar to imbalances evident before the 1997 Asiancrisis. So far, however, these contagion effects were onlytempor ar y – al so, as ac cord ing to marke t ob se rver s theapparent spill-over was mainly caused by traders trying toclose their profitable emerging market positions to compensate for Icelandic losses.Emerging stockmarkets have beenbuoyant…Af ter all , underlying fundamental s in emerging market sremain strong and emerging equity markets have continuedtheir upswing over the past six months (Figure 19). Some
  72. 72. recent drops in mid-March coincided with the BOJ’s decisionto change its monetary policy stance and were partly linkedto the uncertainty around its new interest rate policy – andthe uncertain interest outlook in the United States and theFigure 19. Stock market performance in selected emerging economiesEquity price indices, 3-Jan-05 = 100, in US dollar termsNote: Daily data until 17 March 2006.Source: Thomson Financial Datastream.01/01/0401/02/0401/03/0401/04/0401/05/0401/06/0401/07/0401/ 08 / 0401/09/0401/10/0401/11/0401/01/01/06/050501/12/0401/02/0501/04 / 05
  73. 73. 01/03/0501/05/0501/07/0501/ 08 /0501/09/0501/10/0501/11/0501/12/0501/01/0601/02/0601/03/06200190180170160150140130120110100906070
  74. 74. 80502001901801701601501401301201101009060708050Latin America– DS market (in USD terms)Asia ex-Japan– DS market(in USD terms)China – DS market (in USD terms)India – DS market (in USD terms)
  75. 75. Brazil Bovespa – price index (in USD terms)30© OECD 2006Financial Market Trends, No. 90, April 2006euro area in general. The subsequent unwinding of hedgefund positions in particular in Brazil, where the real fellsharply, sent some shock waves to emerging stock markets,but they seem to have been only temporary.…in particular inBrazil, owing tosuccessfulmacroeconomicpolicies,…Brazil again outperformed the sample of other emergingmarket indices, owing to investors’ continued confidence inthe positive outlook, with the current account being in surplus and the government still generatingprimary budgetsurpluses – despite growing expenditures. Like many otheremerging market debtors, Brazil has also bought back partof its international debt which has also improved its rating(from BB- to BB for Brazil’s long-term, foreign-currency sovereign debt). Its USD 6.6 billion buyback ofBrady bondsannounced later in February is to be concluded by midApril and should save USD 350 million in interestpayments(which would have to be paid through 2010).… and also in Chinawhich hasundertaken further
  76. 76. steps in financialsectorliberalisation…China, which has taken some further steps towards financialsector liberalisation, also experienced strong stock marketgrowth. In mid February, China announced its decision toharmonise accounting and auditing practices in line withinternational standards. Also in February, China’s four largest banks signed up to trade foreign exchangevia Reuterselectronic trading system, giving them access to around40 spot currency pairs, whereas previously they could tradenon- renminbi cur rency pai r s only via the China ForeignExchange Trade System, a dealer-to-bank platform with lessliquidity than Reuters.… and India, wherethe economy isbooming and plansfor future fullconvertibility of therupee are beingdiscussed…In India, with the economy and stock markets booming, thecentral bank has lifted interest rates over fears of overheating. Credit demand has surged recently, asforeign capitalhas increased liquidity and has driven down interest rates.Investors’ outlook on the Indian economy and expectations
  77. 77. of economic reforms moving forward may also reflect a planby the government to consider withdrawing remaining currency controls announced by the Indian primeminister inmid March. Such a plan to make the rupee fully convertiblehad already existed in 1997 but was shelved in the wake ofthe devaluation of the Thai baht and the ensuing Asian Crisis. This time, the intended schedule would beto start aHighlights of Recent Trends in Financial Markets31© OECD 2006mechanism to achieve full convertibility of the rupee in 2008,which would allow Indian residents to invest more freelyoverseas – above the current limits of 500 million USD percompany per year – and give large companies easier andcheaper access to foreign debt.…as well as inRussia where afinancial sectorreform package hasrecently beenapproved.Stock markets are also booming in Russia, where they haveshown a strong performance in 2005 after underperformingworld markets in 2004. In mid February a reform packagewas approved which should improve market infrastructure,lower regulatory barriers to access to capital markets, andmake financial reporting more transparent

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