The end of 2001 leaves us with a series of questions for which only 2002 contains the definitive answers.

When will traction be achieved?

Financial markets say during the second quarter of 2002. Many economists say at the end of 2002 or beginning of 2003. Even as we write this, Motorola are announcing more job cuts, and it is supposed to be the tech sector that leads the recovery. Our view: we side with the economists, a delayed recovery.

How fast will recovery then be?

Again markets are discounting a rapid recovery, whereas many commentators are expecting a more modest rebound, e.g. 4% in 2003 vs. the more typical 5%+ of other post-War recoveries. The imbalances in the US economy suggest that there will be long-term dampeners on growth until significant rebalancing is allowed to take place.

Whither stock markets?

The stock price recovery of the last quarter of 2001 is liquidity fed. Stock prices have now largely disconnected from fundamentals, reaching PEs even higher than at the peak of the bubble. Markets are discounting an early and rapid recovery in underlying profitability. Earnings per share are still above average, but moving down. It seems reasonable to expect them to cross the long-term average before turning round. Historically a decade of high growth in corporate profits has been followed by a decade of low growth. Current stock prices look high even if recovery happens fast. If the slower scenario applies, just where stock prices can, or will, go is far from obvious, but it is difficult to answer "upwards".

Interest Rates?

If "traction" occurs in early 2002, then Central Banks are expected to raise rates to combat inflation. That is what is priced into the yield curve with its recent steepening. There are two reasons to doubt higher rates, at least in the opening months of 2002: the first is that rapid economic recovery is far from "in the bag", and the second is that inflation is unlikely so long as production capacity has not crossed its historical average (it is well below now and will need a year to rise above it, even if all goes well). Better to plan on continued low rates at the short-end. The long end appears to be oversold, and should correct. Thereafter, however, the long end is very difficult to access - all depends on the timing and degree of "traction".

Dependency on the USA?

Every now and again, like German politicians claiming that their country is about to turn round, it is mooted that Europe, at least, could recover independently. In light of the ever greater politico-economic power of the USA, enhanced by the Afghan War, this looks like wishful thinking. Like or not, everyone has to keep looking to the USA to pull the entire world out of recession.

The euro?

Some believe it will fail and the whole EMU fall apart. Others see it as an amazing experiment, which will lead to greatly increased competitiveness, lower operating costs and benign deflation. How will the euro zone cope with a major country (we are thinking of France) yielding immediately to inflated wage claims in the public sector, while obliging the private sector to shorten its working week? We remain cautiously optimistic on the success of the euro experiment, and on the euro strengthening once it is in circulation.

***

We could not resist giving tentative answers as we went through our question list, but each reader will surely have his/her own views. Putting all the questions together, they make a "grand question", one that not even 2002 can be counted on to answer once and for all:

Can financial markets really anticipate economic recovery before and independently of economic analysis?

The entire bridport team in both Geneva and Jersey wish our clients and readers a very Happy Christmas, a thorough "unwind" and a successful New Year. Our next weekly will be written on Wednesday 9^th January.

Recommended average maturity for bonds in each currency
We leave our recommended average maturities at a little under five years.

Liquidity is getting thinner and thinner and the big mover, as always over the last three years at this time of year is the yen. A worsening economic picture in Japan, and with the USA not out of the doldrums, the BoJ and the Government are desperately trying to find a way to fight off the recession and its deflationary effects. So far, we have heard of no opposition to a weaker yen whether in the US, Japan or any other Asian countries. It therefore looks like a weaker YEN is on the cards, at least until China wakes up and devaluation talks surface. That could occur, however, well above USD/JPY 130.--.

EUR/USD: the euro remains well supported in the 0.8800 to 0.8850 area and established itself just slightly above 0.9010, but needs to hold on a weekly basis if further advances are going to be achieved, with 0.9080, 0.9150 and 0.9280 as next resistance levels.

USD/CHF: a broad consolidation pattern in a 1.6150 to 1.6800 range looks the most probable outcome for this volatile currency pair. The 1.6480-1.6530 level remains key, a weekly close below opens the downside, while above indicates a retest of the topside.

USD/JPY: the Yen will continue to be under pressure, but the 128.50 to 129.00 area look to be difficult to overcome in the first attempt. Downside support comes in at 127.30 and 126,50, followed by key support at the 124.80 to 125.30 area. Any substantial correction should be used to re-establish a short yen position with targets at 130.--, followed by 132.50.

EUR/JPY: our target of 115.00 has been reached much more quickly than we thought and even exceeded with a move to slightly above 116.00. Key support is around 114.60, followed by 113.50. Topside targets 117.20 followed by 118.50 and more out 120.00. Here as well, use any major correction to establish a long EUR/JPY position.

USD/CAD: consolidation in a 1.5600 to 1.5800 range expected.

AUD/USD: same comment: the Aussie has created a solid base above 0.5000 and solid support comes already at 0.5110. The topside should be limited to the 0.5280 to 0.5310 level.

GBP/CHF: extreme volatility in this cross will continue. Support has gradually moved higher and comes in at 2.3450. Topside resistance is at 2.3980. Consolidation in this range expected.

Seasons Greetings from the GNI team.