Equity investors are likely to remain cautious next week despite the US central bank's surprise move to soothe fears of a fullblown financial markets meltdown by lowering one of its key interest rates on Friday.
Analysts said investors would be on guard for news of any further ripple effects from the credit market crunch triggered by the US subprime mortgage crisis, notably what impact it will have on the real economy and corporate profits.
By acknowledging the potential threat to economic growth and by cutting its discount rate by half a percentage point to 5.75 percent on Friday, the US Federal Reserve answered one key question that had occupied strategists across asset classes.
"The clear message today is: If the market turmoil continues, they will ease policy to counteract negative fall-out on growth," Commerzbank said in a research note. The Fed's move sparked a strong rally in European stock markets, which at 1510 GMT on Friday looked set to end the session almost 2 percent higher, thereby wiping out most of the week's losses.
But the road ahead looked bumpy, nevertheless. "Certainly this will not dent all the volatility," said UniCredit equity strategist Gerhard Schwarz. "The worst for equity markets is not completely over." "There is still the question of how growth will be affected and how corporate earnings will be affected," he said.
Many analysts said the slide in stock markets seen since mid-July had made price-to-earnings (P/E) valuations attractive but stopped short of advising investors to resume buying. "European equities now trade on a 12-month forward P/E of 12.2, below the 5-year average of 12.5, and remain well supported by corporate earnings," Citigroup said in a portfolio strategy note.
"But nobody can say if we have reached the bottom in this sell-off," the US bank said. Next week's European corporate earnings calendar is thin. Swiss engineering firm Sulzer reports first-half results on Tuesday and mining group BHL Billiton its full fiscal year on Wednesday.
"An important indicator that we will be looking for is if BHP Billiton decides to pursue any of Rio Tinto's assets," J.P. Morgan said in a preview note. Rio Tinto has said it aims to sell non-core assets to help pay for its planned $38 billion acquisition of aluminium Alcan Inc. On the economic data front, the German ZEW investor sentiment indicator due on Tuesday at 0900 GMT will be closely watched.
"It will be important to see how economic fundamentals develop," UBS said in a note. "The ZEW index may provide a first indication of how future growth expectations have shifted." BNP Paribas said the ZEW should point to a marked fall in current conditions as well as in expectations due to the current financial turmoil.
A Reuters poll of 48 economists foresaw a fall to -1.0, the first negative reading since January, from 10.4 in July. The European Central Bank's weekly refinancing tender is due on Tuesday, with market players keen to see how much in funds the ECB will allot to combat tight liquidity conditions. The results of the tender are due shortly after 0915 GMT.
In the United States, eyes will be on Richmond Fed President Jeffrey Lacker's speech on "The Economic Outlook" on Tuesday at 1630 GMT as well as on July durable goods orders on Friday at 1230 GMT. Japan's central bank holds a two-day monetary policy meeting next week with the decision due on Thursday. It is widely expected to leave key interest rates unchanged.
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