Interest rates moved higher in both the UK and Euroland during the final quarter of 2006 whilst rates in the United States remained at 5¼% with no movements having taken place since the end of June. Following the recent quarter point rise in UK rates, we expect a similar rise in rates in Euroland soon. A further rise in UK rates in the spring is not out of the question. However, we feel that rates in the United States will remain at the current 5¼% level for the time being, given that recent economic data has indicated a slowdown in productivity growth and an acceleration in the pace of wage growth. The Federal Reserve has formally indicated that it is still concerned about rising labour costs which accounts for the fact that we do not envisage an early cut in interest rates during 2007.

Against this background, sterling recently has risen against the dollar but has remained relatively stable against the euro. It remains our view that on a purchasing power parity basis, sterling is substantially overvalued against a number of major currencies and we continue to foresee some sterling weakness materialising during the course of 2007.

Global oil prices rose a little during the quarter as Opec attempted to reassert control over pricing and volumes. Unless there is a particularly harsh winter or a flare up in instability in the Middle East, we do not foresee a repeat of the $78 price levels seen during 2006 in the early part of 2007, despite the fact that growth both in China and in the Pacific Rim economies remains relatively robust. Other commodity prices tended to weaken a little during the latter part of 2006 but we still feel that we remain in a commodity “super cycle” and that moves of the magnitude that have been seen recently are entirely consistent with this longer term cycle developing.

Bond markets have again remained relatively subdued over the period and with rates on shorter dated UK gilts remaining at around the 5% level we continue to see little long term fundamental value in the gilt market at present. Our fears are that any pick-up in inflation either in the United States or in the UK will be taken negatively by bond markets and that yields could rise further and bond prices could fall, were this eventuality to materialise.

Turning to global markets, the economic news coming from Japan has been somewhat mixed recently but the Japanese equity market, stimulated by a weakening yen which provides a competitive advantage for its exporting industries, has risen to levels not seen since May. We remain enthusiastic about the Japanese markets in 2007. Growth rates in China again showed no signs of declining and, stimulated by this, the Pacific Rim economies in Korea, Singapore and Taiwan are enjoying benign economic conditions with constrained levels of inflation and respectable levels of economic growth. For the global economy as a whole, although the American economy is notably slowing and the domestic housing market remains sluggish, it is our contention that a pick-up in growth rates in Euroland and in particular Germany together with the robust levels of growth seen in the Pacific Rim will allow 2007 to be a respectable year for growth worldwide. If anything, consensus estimates on growth may be a little pessimistic and any surprises on growth levels may be on the upside.

Turning to equity markets, we would again expect equities to be our asset class of choice during 2007, outperforming fixed interest and cash over this period. In the United States, as has been indicated, housing markets do remain under something of a cloud although retail expenditure has proved particularly resilient and growth rates may not be as disappointing in 2007 as some commentators have indicated. We may start to look a little more enthusiastically towards US equities during 2007 although our enthusiasm may be tempered were the dollar to fall sharply, triggering uncertainty and volatility in global capital markets. In Europe, as we have noted, our favoured countries remain Germany and France, and we continue to take a somewhat negative view of the prospects for the Italian economy and have positioned our stock selection policy accordingly. We feel that the strains under which the euro has been placed, given the varying speeds of economic growth within Euroland, is a major issue and it is our feeling that these strains may manifest themselves more strongly during the course of 2007. Italy and Greece continue to struggle under the current regime and will not be helped by the expected gentle rise in interest rates that we expect during the course of the year.

Turning to our investment themes, we have made few changes recently and continue to focus our asset allocation approach towards equities and away from fixed interest. Our enthusiasm for companies involved in the sourcing and manufacture of luxury goods remains strong as does our interest in real estate companies, where there is good evidence of continuing rental growth and some potential for yet further yield compression to come through in 2007. We also anticipate some further merger and acquisition activity in this area, particularly as it is likely that a number of major UK real estate companies will convert to REIT status in the early part of the year.

Having ended the year on a relatively positive note, we feel that the trends that we have seen developing at the end of 2006 will continue into the New Year and that equities will enjoy some relatively positive performance in the early part of 2007. However, our enthusiasm is tempered by the current unstable situation in the Middle East, the threat of further nuclear development from Iran and from North Korea and the overall high levels of debt with which consumers are currently burdened, most particularly in the United States and UK. Merger and acquisition activity, as we have noted previously, continues apace and the economic and financial justification for companies with robust balance sheets to repurchase their own stock remains soundly in place. We therefore look forward with some confidence to the prospects for markets during the first few months of 2007 but would caution that economic headwinds in the form of a slowing US economy and the ever present threat of political instability may weigh against markets as the year progresses.



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