New records

24 April 2008

The Dow Set a Series of all-time highs in October, and finished week 42 at 12117 points. It was up +4,81% on its position at the end of week 37, and was some +1,7% higher than the previous record of 11908 points, set at in January 2000 the height of the dot.com boom.

There were similar percentage gains for the other mainstream indexes - +4,76% for the CAC 40, +4,78% for the FTSE 100, + 5,06% for the Topix 500, and +5,51% for the DAX Composite - which underlined the general buoyancy of the markets.

However, unlike the Dow, these indicators are still significantly below their all-time highs. The CAC 40 for example stood at 5401 at the end of week 42 - more than -20% lower than its all-time record of 6945. Similarly, the FTSE needs to grow another +12% or so to eclipse its historical high of 6951.

The general driver for these gains has been the fall in oil prices, which provides something of a ‘double whammy' boost to the markets. The first point is that falling oil prices reduce transport and other energy costs for companies. The second is that it also reduces inflation, which is good in itself, but which in turn reduces the likelihood of interest rate rises.

On the face of things, construction shares moved in line with the major markets with the CET Index for the industry moving up +4,97% to 178,85 points. However, this overall figure masks significant disparities between the three sectors that make up the index. Both the materials and equipment sectors were relatively subdued, with +2,72% and +2,85% rises. In contrast, shares in contractors shot up +11,15% to a new record high of 219,85 points.

Contractors

The rally in the contracting sector was fairly widespread, with all 23 companies that make up the CEC Index seeing their prices rise between weeks 37 and 42. There were come good gains for many of the Spanish contractors - most notably Acciona and Ferrovial.

Both could be connected to the two companies' merger and acquisition plans. Acciona is building up a shareholding in Endesa, a Spanish electricity company, with, it says, a view to eventually holding about 20% and having a seat on the Board. This step into utilities is part of a pattern of diversification being seen among the major Spanish contractors, and could make sense for Acciona given its strong position in the construction of wind farms.

However, Endesa has also been subject to a takeover offer by German utilities company E.ON since February, and Acciona's accumulation of shares has sparked a war of words between itself and E.ON that might lead to litigation. While this is yet to play-out, the controversy is clearly not hurting Acciona's share price.

In contrast, Ferrovial's sharp rise seems to be linked to a divestment. Having taken over UK airports operator BAA this summer, Ferrovial has been looking at selling non-core businesses to help pay the cost of the acquisition. One such business was BAA's 75% shareholding in Budapest Airport, which Ferrovial agreed to sell to Hochtief for about € 1,9 billion.

Aside from these deals there were plenty of double-digit rises in the sector, with YIT leading the way with a +22,77% gain. Fellow Scandinavian Peab also stood out, with a +20% rise in its share price, while other big gainers outside the region included Bam, Bilfinger + Berger and Kier, along with Spain's FCC and OHL.

Equipment

Equipment manufacturers' shares were much more mixed. On the positive side, JLG's price went up more than +50% on the news that it was being bought by US- based speciality truck manufacturer Oshkosh at US$ 28 (€ 22,4) per share, for a total consideration of US$ 3,2 billion (€ 2,55 billion).

On the other hand, Caterpillar's share price fell some -7,66% following its third quarter results announcement. While the numbers were good - revenues up +17% and net profits up +15% compared to the same period last year - the results announcements also included lower guidance for the rest of this year and 2007, which led to the share price fall.

Cat expects its sales this year to hit US$ 41 billion (€ 32,7 billion) - up +13% on 2005, but at the lower end of its previous guidance of a +12 to +15% rise. The range of profits per share now expected is about -4% lower than previously expected. Looking ahead to 2007, Cat expects revenues to be up between 0% to +5%, a clear slow down.

Other companies in the sector generally saw their shares perform better than Caterpillar's over the five week period, with several seeing double-digit gains. However, Caterpillar's dominance of the sector is such - it accounts for about 25% of the CEE - that this could only translate into a small gain for the Index.

The materials sector was calm in comparison, although Hanson's shares took a big leap - +12,32% - on fresh speculation that a takeover bid is brewing. The names of heavy materials industry consolidators like Lafarge, Cemex and Holcim are invariably bandied about in connection with Hanson, but no bid has yet emerged.

Hanson is no stranger to takeover gossip - it has been going on for several years. The perpetual problem is the company's liability for on-going litigation in the US relating to former workers' exposure to Asbestos. The problem is not the size of these claims, but the uncertainty they entail, with new claimants continuing to come forward. This makes it difficult to price the cost of the court cases into any purchase price for the company.

Apart from Hanson, the component companies of the CEM Index moved up by a similar amount. However, two of the largest by capitalisation, CRH and Saint-Gobain, were among the most subdued, and their smaller gains limited the improvement of the CEM Index as a whole to just +2,72%.

Currencies

The Euro generally weakened over the five-week period, although movements were small and generally limited to less than -1%. One of the few exceptions was that of the Hungarian Forint, which the Euro lost -3,27% to between weeks 37 and 42. It has not been a good year for the Forint, with a large current account deficit and Hungary's current political instability playing havoc with the currency's stability. It has fluctuated between € 1 = HUF 250,3 and HUF 282,6 this year - about a 13% wide band.

This is wider than the fluctuations of other Eastern European currencies (although the Polish Zloty is not too far behind), and also more marked than movements of the Yen and Dollar, which have both changed about 8,5% in value between the highs and lows of 2006.

The strength of the Dow and the improving outlook for oil, inflation and interest rates all bode well. The key question is how long will the rally endure? Caterpillar's outlook to the end of 2007 seems to signal a general downturn in construction markets and the world economy in general. But investors still seem willing to buy, with the expectation of higher share prices and profits to come.

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