Cash

The Reserve Bank of Australia (RBA) left the cash rate unchanged at 5.5% during the month. Interest rates have been “on hold” since March 2005, when they were increased to the current level.

Australian Bonds

The UBSA Composite Bond Index (All Maturities) returned 0.6% outperforming the UBSA Bank Bill Index (+0.4%), as yields fell and the market digested a lower target inflation rate of 2.75% (previous 3.0%).

Yields declined on a lower than expected GDP number of 0.5% in the fourth quarter (+2.7% yoy), below market expectations of a 0.7% rise (+3.0% yoy). The 10-Year and 3-Year yields ended the month at 5.29% (-6bps) and 5.25% (-2bps) respectively. The yields on fixed interest securities continue to trade in a narrow range as the market waits for a clear indication of the likely next move for interest rates.

The RBA released its’ Quarterly Statement on Monetary Policy where it affirmed that global economic conditions were continuing to provide a favourable environment for the Australian economy which entered its 15th year of expansion. The RBA stated that the flat shape of the yield curve, where there is virtually no premium for longer dated securities, could not be fully explained “by well anchored inflation expectations or improved central bank credibility”. The RBA suggested that structural issues (demand for long dated bonds) and the global savings imbalance were also factors.

International Bonds

The benchmark, Lehman Global Aggregate Index (hedged), returned 0.4% underperforming the UBSA Composite Bond Index (All Maturities).

United States inflation fears rose on increased labour costs (+3.5% yoy) as unemployment (4.7%) declined to its lowest level in more than four years. Despite inflation tracking higher than expected, rising 0.7% in January, there was little impact on yields. The 10-Year and 3-Year yields ended the month at 4.55% (+1bps) and 4.65% (+2bps) respectively. The new Federal Reserve Chairman, Ben Bernanke, issued a bullish statement on the economy predicting a “significant” recovery.
In Europe, the European Central Bank President Trichet said that market “bets” on an interest rate increase as soon as next month were “reasonable” as economic growth had accelerated. Given the robust regional economy, highlighted by German business confidence rising to the highest level since October 1991, the market is pricing two more rate rises by the end of the year.

The Japanese economy continued to show signs of growth. The broadest measure of economic activity, which includes consumer confidence and other economic indicators, rose to 80% from 54.5%. Japanese wages had their largest rise in 18 months, signalling consumer spending may support growth. Yields on 3-Year bonds rocketed higher to 0.7%, an increase of 0.2%, as the Bank of Japan indicated that the deflation fighting policy was likely to end.

Australian Listed Property Securities

The S&P/ASX 300 Property Accumulation Index returned 3.5% in February, out-performing the S&P/ASX 300 Accumulation Index by 2.9%. The best performing sectors were Retail (+4.2%) and Office (+3.8%) with more moderate returns from Industrials (+3.1%) and Diversified Trusts (+2.5%).

The best performing trusts were Centro Property (+10.2%) and Tishman Speyer Office (+6.2%) which were buoyed by strong profit results. The worst performing stock was Multiplex (-3.4%) after recording a first half loss of $119.6 million and voicing further concerns about its troubled Wembley Stadium project.

The current reporting season was broadly positive further demonstrating the ability of trusts to expand offshore and incorporate development and operational businesses alongside high quality investment grade property. This was showcased by Westfield Group which recorded a $4.2 billion (annual) profit during the month.

Australian Shares

The S&P/ASX 300 Accumulation Index returned a moderate 0.6%, as declining commodity prices offset a broadly positive reporting season.

The best performing sectors were Healthcare (+7.1%), Utilities (+5.5%) and Consumer Discretionary (+3.7%). The worst performing sectors were Energy (-7.0%) and Materials (-3.8%). Leading stocks were CSL (21.1%), Centro Property (+10.2%) and Futuris (+9.8). At the other end of the spectrum were AWB (-25.3%), Newcrest Mining (-19.1%) and Bluescope Steel (-13.2%).

The profit season was very positive with the weighted average profits up 30.6% for the six months to 31 December 2005. Resource company profits grew 63.3% compared to Industrial profit growth of 9.6%. As Resources companies have led the market higher over recent periods, the breadth of companies contributing to the positive performance has been decreasing. For example, if heavy weights BHP Billiton (profit: +48%) and Rio Tinto (profit: +58%) are excluded then Resources profit was up less than half (+28.6%).

Highlights of the profit season were positive results from Commonwealth Bank (profit: +17%), PBL (profit: +20%) and Cochlear (profit: +33%). Negative profit guidance was issued by Macquarie Bank (-6.1%) and Telstra (-3.3%). Macquarie Bank had its largest one-day decline since February 2002, after stating that second-half investment banking profits would decline. Telstra’s first half profit fell 11% on declining revenue from its home-phone unit.

Corporate activity remains robust. IAG purchased a 24.9% stake in China Pacific, AXA Asia Pacific bought the National Australia Bank’s Asian MLC unit for $426 million, Origin Energy and Contact Energy announced merger plans and Alinta offered $6.6 billion for AGL.

International Shares

The MSCI World Ex Australia (net div) in $A unhedged returned 1.7% slightly above the hedged return of 0.5%. The unhedged return benefited as the Australian dollar declined against the US dollar (-1.8%), Japanese Yen (-2.8%) and the UK Pound (-0.3%). Weaker commodity prices led the MSCI Value index (+2.6%), to outperform the MSCI Growth index (0.9%), as Resource stocks (which are broadly classified as growth) declined.

The key theme was the strength of economic growth in which surprised on the upside with fourth quarter GDP, rising well above expectations. Japanese economic growth is likely to remain a key theme for markets this year.

The United States (S&P 500: +0.0%), rose to a four year high mid month before retreating ending the month where it started. Economic news continued to be positive with retail sales jumping 2.3%, the biggest increase since May 2004. The White House Council of Economic Advisers stated the economy has entered a “sustained” expansion. Reporting season was also positive with 484 of the S&P 500 companies reporting an average increase in profit of 15.4%. Strong corporate earnings were reported by Time Warner (profit: +21%) on the fastest sales growth in six quarters, Dell (profit: +52%), Hewlett Packard (profit +30%) and Starbucks (profit: +20%).

The story was positive in Europe (MSCI Europe 15: +1.9%) driven by continued Merger-and-Acquisition (M&A) activity and profit growth. The strongest performing markets in Europe were (Milan 30: +2.7%) and (DAX: +2.2%). Much of the M&A activity has been driven by the gap between corporate cash flow yields, on average between 5-8%, and low borrowing costs. This has made it relativity cheap for companies to fund aggressive expansions using debt. During the month Vivendi announced the purchase Matsushita’s Universal stake to gain control of the world’s largest record company, BNP Paribas made a bid for Banca Nazionale de Lavoro ($10.8 billion), Dubai Ports bid for P&O ($6.8 billion), Mittal Steel bid for Arcelor ($23.1 billion), E.ON made a hostile bid for Endeas ( $34.7 billion) and Gaz de France and Suez announced a merger ($85.5 billion), to create Europe’s second largest energy utility.

The Japanese sharemarket (Nikkei 225: -2.7%) declined despite strong profit growth, higher GDP forecast (2006: 3.2%) and household confidence rising to the highest level since June 1990. Strong profits were recorded by Konica Minolta (profit: +200%), Mitsubishi Electric (profit: +88%) and Toyota (profit: +34%).

Global Emerging Markets

The MSCI EM in $A (with div reinvested) returned 1.7% in-line with the developed unhedged market return.

The nature of emerging markets has fundamentally changed over the last two years. This was highlighted mid-month with , Columbia, and retiring almost $20 billion of foreign debt. After this repayment, only $9.5 billion will remain of Latin American sovereign debt, which in 1995 stood at $150 billion. This debt repayment was made possible by export led growth, high commodity prices and economic stability. These factors continue to have a positive effect on equity markets in
Latin America .