Market Commentary: October 2009

Summary:

• Stocks fall as recovery hopes are scaled back
• Thirst for yield continues to drive demand for riskier bond sectors
• Strong U.S. GDP offset by weak labour markets, signs of waning consumer optimism

Market Overview

The MSCI AC World Index ($) fell 1.54% in October as investors appeared to question some of the more optimistic recovery assumptions behind their recent purchases. Although most companies around the globe reported third-quarter earnings either in line with or better than expectations, investors generally reacted with disappointment, sending stocks lower.

In the bond markets, however, investor optimism remained intact through October, helped by a lack of inflationary pressures and a continued search for higher yields. The Barclays Capital Global Aggregate Index ($) rose 0.47%, led by some of the areas that are considered to be of poorer credit quality and higher risk such as high-yield bonds and commercial mortgage-backed securities (debt instruments made up of multiple smaller commercial loans packaged together into a single security, also called “CMBS”). Corporate bonds in general also outperformed government debt over the month, bolstered by generally positive corporate earnings news.

Stocks

As investors took a breather from their recent buying spree, many of the areas of the global stock markets that had been leading the way during the rally over the last several months tended to be laggards in October. This was particularly true of the Financials sector, which was one of the worst performing in the MSCI AC World Index this month. While several financial institutions posted third quarter results that were better than forecast, investors reacted more to negative headlines, such as a larger-than-expected loss at Bank of America and analysts’ downgrades in their outlook for Wells Fargo’s shares.

Consumer Staples and Energy were the only sectors to post a gain in the MSCI AC World Index in October. The latter was supported by rising oil prices, while the former was favoured for its stable earnings as the spectre of economic uncertainty returned. A less optimistic view about future global economic prospects also weighed on the Materials sector, keeping it near the bottom of the rankings.

The MSCI AC World Value Index also fell more sharply than the MSCI AC World Growth Index, as investors showed a preference for solid earnings (growth stocks) over bargain prices (value stocks, or stocks with lower prices relative to earnings and other measures of value). Smaller companies, which like value stocks are perceived to be riskier and more vulnerable in environments of economic weakness, also generally fell more than large companies in the overall MSCI AC World Index. For similar reasons, the MSCI Emerging Markets Index also underperformed the MSCI AC World Index. The VIX Index, which measures the implied volatility of the S&P 500 Index and is also known as the “fear index,” rose nearly 20% to finish the month at just over 30.

Bonds

Government bond prices fell across the major markets, pushing yields higher (yields move inversely to prices). Fixed-income investors began to anticipate a need for central banks to unwind some of their aggressive stimulus measures, such as near-zero interest rates and bond-buying programs (also known as quantitative easing).

However, corporate bonds in general put in another positive performance over the month. Furthermore, high-yield bonds outperformed their better-quality peers in the rest of the corporate sector, bolstered by generally improving corporate earnings in the third quarter. CMBS, despite ongoing deterioration in the commercial real estate market and rising default rates in the sector, continued to be snapped up by investors in search of higher yields.

Emerging-market debt, on the other hand, underperformed the global developed bond markets as recovery hopes waned somewhat over the month. Otherwise, the trend of favouring riskier fixed-income assets for their higher yields continued.

Economy

Economic indicators were mixed, with continued weakness in labour markets around the globe and concerns that consumer demand may stagnate being set against signs of improvement in housing markets and positive indicators for industrial production. One of the major highlights was a robust 3.5% annualised pace of growth in U.S. third-quarter gross domestic product (GDP), which was in line with economists’ forecasts. While much of the growth was attributed to temporary stimulus measures, such as the U.S. government’s “Cash for Clunkers” program that provides cash toward new car purchases, there was also a broad-based increase in industrial production. U.S. unemployment levels, however, continued to increase, and consumer confidence weakened.

In the U.K., GDP data was at the opposite end of the spectrum from the U.S., falling 0.7% over the third quarter, well below the weakest forecast in a recent Bloomberg survey of economists. Still, U.K. house price indicators continued to show improvement over the month and raised hopes that household spending would recover. In early October, the European Central Bank signaled its concern over the economic outlook, cutting interest rates to a record low of 1.00%. At a Brussels summit toward the end of the month, European Union government officials also expressed the view that it was too soon to unwind stimulus measures.

Oil prices rose nearly 10% over the month, with WTI Cushing crude oil prices ending at $70.00 per barrel amid signs of continued strong energy demand among developing countries, particularly China. However, oil-price gains were limited toward the end of the month, as the dollar rebounded from an earlier bout of weakness (a higher dollar would tend to reduce demand for oil, which is denominated in dollars, by making it more expensive in other currency terms).

The dollar fell against most other major currencies over October as a whole, as investors searched for better returns outside the U.S., although some of the losses were trimmed in the final days as global recovery optimism faded. The dollar fell by 3% against sterling to roughly $1.65, while declining approximately 1% to about $1.48 per euro. The dollar rose about 1% to roughly 91 yen.

Summary

SEI believes there have been sufficient signs of improvement in the world economy in recent months to keep the recovery in the global financial markets on track, although the pace of gains is likely to be more tempered in the months ahead. In particular, we would expect to see a more balanced performance between high- and low-quality stocks, large versus small companies and developed versus emerging markets. Assets that are perceived to be riskiest could continue to perform reasonably well as economic activity revives and corporate profitability improves, but the magnitude of the outperformance should diminish.

Similarly, the dramatic narrowing that has already occurred in the spread between the yields on non-government and government debt probably limits the potential for further price gains in non-government sectors. Although corporate bonds and high-yield debt are still attractive versus U.S. Treasuries (assets perceived to be the lowest-risk), yields have fallen to levels that prevailed before the fall of Lehman Brothers. Emerging-market debt appears expensive, with yields having fallen close to the lows recorded at the previous peak in these markets.

Important Information:

Past performance is not a guarantee of future performance. Investment in the range of SEI’s Funds is intended as a long-term investment. The value of an investment and any income from it can go down as well as up. Investors may not get back the original amount invested. Additionally, this investment may not be suitable for everyone. If you should have any doubt whether it is suitable for you, you should obtain expert advice.

No offer of any security is made hereby. Recipients of this information who intend to apply for shares in any SEI Fund are reminded that any such application may be made solely on the basis of the information contained in the Prospectus. This material represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding the funds or any stock in particular, nor should it be construed as a recommendation to purchase or sell a security, including futures contracts.

If the investment is withdrawn in the early years it may not return the full amount invested. In addition to the normal risks associated with equity investing, international investments may involve risk of capital loss from unfavourable fluctuation in currency values, from differences in generally accepted accounting principles or from economic or political instability in other nations. Narrowly focused investments and smaller companies typically exhibit higher volatility. Products of companies in which technology funds invest may be subject to severe competition and rapid obsolescence. SEI Funds may use derivative instruments such as futures, forwards, options, swaps, contracts for differences, credit derivatives, caps, floors and currency forward contracts. These instruments may be used for hedging purposes and/or investment purposes. While considerable care has been taken to ensure the information contained within this document is accurate and up-to-date, no warranty is given as to the accuracy or completeness of any information and no liability is accepted for any errors or omissions in such information or any action taken on the basis of this information.

This information is approved, issued, and distributed by SEI Investments (Europe) Limited, 4th Floor, Time & Life Building, 1 Bruton Street, London W1J 6TL which is authorised and regulated by the Financial Services Authority. Please refer to our latest Full Prospectus (which includes information in relation to the use of derivatives and the risks associated with the use of derivative instruments), Simplified Prospectus and latest Annual or Interim Short Reports for more information on our funds.. This information can be obtained by contacting your Financial Advisor or using the contact details shown above.

SEI sources data directly from the following vendors: Factset, MSCI Barra, Russell, TOPIX, FTSE, Barclays Capital and Merrill Lynch. Where appropriate, returns in base currencies are converted to the relevant currency using WM Reuters 4pm Spot rates.