Most non-U.S. stock markets also posted reasonably strong returns in 2010. The MSCI EAFE Index rose 8.2% on sustained global growth, although results were bifurcated between weaker European returns and strong results in Asia, Canada and many less-developed nations.
Currencies produced similarly mixed results, as the euro and British pound weakened on austerity measures and public/private sector debt problems. The Japanese yen, Swiss franc and commonwealth countries’ currencies all strengthened versus the U.S. dollar.
Growth clearly outperformed in 2010. The MSCI EAFE Growth Index, which returned 12.6% compared to the MSCI EAFE’s 8.2% return, benefited from strong returns in the cyclically sensitive basic materials, technology, industrials and energy sectors. The financial sector was noticeably weak, as concerns about non-performing loan exposure and capital needs at European banks weighed on results.
Emerging market returns varied substantially. Many smaller nations produced gains of 20% to 30% or more, driven by booming commodity prices and substantial capital inflows. However, China and Brazil lagged the broad MSCI EAFE Index, as these large markets grappled with rising inflation, currency pressures, and capital flow and lending restrictions. Asian emerging markets were relatively weak during the fourth quarter, as China’s economy slowed from the effect of tighter lending standards and its poorer regional neighbors suffered from rising food and energy prices, which represent a large part of their populations’ consumer expenditures. This raised fears at year-end that tighter monetary policy in such emerging-market nations in response to inflation pressures would weigh on equity market results in 2011.
The view from Europe also became more pessimistic during the fourth quarter compared to the optimism prevalent in the U.S. Most European markets became burdened by the ongoing debt problems in peripheral European nations such as Greece, Ireland, Portugal and Spain. Germany was an exception, driven by solid GDP growth from exports and by stronger consumer sentiment. For its part, the European Union has managed to take only incremental steps with each new outbreak of sovereign debt worries, evident in its response to Ireland’s banking woes late in the year, and investors remained skeptical about the potential for a lasting resolution to the problem. This resulted in rising yields late in the year, not only in weaker EU markets, but also in the core markets of Germany, France and Holland, as these nations must foot the bill for future bailouts.
Both the European Central Bank and the Bank of England focused on the effects of rising food and energy prices late in 2010 as inflation readings approached the level at which central bank monetary tightening usually takes place. Both banks noted that they expected such non-core inflation pressures to be temporary and cautioned that rate hikes might jeopardize the continent’s incipient economic recoveries. Nevertheless, the effect of these rising costs on consumers is one more headwind slowing the much-needed economic growth that can enable Europe to reduce its public debt levels in the years ahead.
This resulted in rising yields late in the year, not only in weaker EU markets, but also in the core markets of Germany, France and Holland, as these nations must foot the bill for future bailouts.