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Dubai casts shadow on global economic recovery; world markets rattled by Dubai debt.

The big picture

Dubai casts shadow on global economic recovery

On Thursday, news that Dubai’s Investment Company, Dubai World, may default on an upcoming maturity, rocked financial markets. Dubai World asked creditors for a six-month delay in the repayment a portion of its massive US$60-billion debt – much of it owed to foreign banks. While some worry that a default could derail the global economic recovery, the numbers pale in comparison to the US$2.8 trillion in writedowns the International Monetary Fund estimates U.S. and European lenders will have made between 2007 and 2010 as a result of the global credit crisis. German banks are currently already facing 75 billion Euros (US$113 billion) of write-offs on bad loans, according to the Deutsche Bundesbank. The U.S. dollar strengthened on the Dubai news as investors sought safety. The U.S. dollar had fallen to a one-year low on Wednesday when Russia’s Central Bank said it will invest some of its foreign exchange reserves in other currencies, and specifically in Canadian dollars.

Britain reported its economy shrank for a sixth consecutive quarter, but at a slower pace, keeping alive expectations of a return to growth by year-end. The U.K. is suffering its longest stretch of GDP declines since records began in 1955, while many of its trading partners – including France, Germany, and the United States – have already emerged from recession. The worst of the global economic crisis is over and government stimulus spending on infrastructure is flowing well, according to the Executive Vice President of Cisco Systems Inc., one of the world’s largest technology companies.

Markets

World markets rattled by Dubai debt

World stock markets and commodities fell sharply after news of a potential Dubai default unnerved investors. After hitting a record high mid-week, gold prices tumbled 5% on Friday as investors sought safety in dollars and cash, and the price of oil dropped 7%.

In the markets, Manulife Financial Corporation announced it will buy a 49% stake in a Chinese wealth management company to broaden its exposure to the fast-growing Asian market. Hewlett-Packard Company tripled the size of its share repurchase program to US$12 billion, as profits rose 14% on strong performance in China. Social networking website Facebook signalled it may be preparing for a public offering. In car news, Saab faces extinction as Swedish carmaker Koenigsegg backed out of a deal with General Motors. Porsche AG reported its debt ballooned to 11.4 billion euros (US$17.1 billion) in 2009 and predicts a loss of at least 1 billion euros (US$1.5 billion) in 2010. Volkswagen AG will acquire a 49.9% stake in Porsche AG by year-end as the first step of a merger to be finalized in 2011. Jewelry retailer Tiffany & Co. sparkled in the beaten-down luxury market, posting a better-than-expected third-quarter profit.

Our recommendation

Pullbacks will provide a buying opportunity

• Equities.  The initial sharp pull-back we saw due to the Dubai story shows how quick a sell-off can materialize. One great quote I read is “ Rising markets are like climbing difficult stairs, but declining markets can be like a broken elevator!” My recommendation is to as non-emotionally as possible, pick a price you would be happy to own a company for the medium to long-term, and place your bids and see if the market comes to you.
• Fixed income. Our fixed income department has the following  recommendations: “Term Call – below benchmark duration. Sector Call – underweight Canadas, overweight Municipals and Provincials, neutral on Corporates. Currency Call – recent movements in the Canadian dollar means little upside to foreign currency trades. Alternative Strategies – overweight high yield, overweight Emerging Markets Debt, underweight inflation protected bonds.” I continue to recommend fixed/floating or floating rate preferred shares as a means to capitalize on eventual rate increases.
• Portfolio strategy.Vincent Delisle, Scotia Capital’s Portfolio Strategist, writes “admittedly, we have witnessed a spectacular rebound since March … improving macro data and a favourable 2010 earnings outlook could provide an additional 10% lift on the S&P 500. However, the risk-reward window is closing fast.”