Twists and turns of a chaotic ride

ASTONISHING, amazing, incredible. These were the kinds of words seasoned market-watchers were using after one of the hottest three-day runs for shares to the end of last week. Yet a flurry of bank and sovereign debt downgrades in Europe by credit ratings agencies on Friday night could have already pierced the bubble.

Wall Street ended in the red on Friday after ratings agency Fitch downgraded its credit ratings for Spain and Italy and put Portugal on negative watch. Fellow ratings agency Moody's warned that Belgium may face a downgrade as it attempts to bail out floundering French-Belgium bank Dexia. Moody's also downgraded a dozen British banks and nine in Portugal. Nasty stuff.

So, despite news on Friday night that the US economy had created more jobs than expected in August - although not enough to lower the unemployment rate from 9.1 per cent - US shares finished lower the Dow down about 0.2 per cent and the broader market off 0.8 per cent.

The futures market is indicating local shares will open 26 points lower tomorrow, but with a vital meeting in Berlin between German Chancellor Angela Merkel and French President Nicolas Sarkozy this evening, this could change come tomorrow morning depending on the outcome.

It's moving that quickly in Europe right now, although it does appear we are reaching some sort of end game. Germany's Dr Merkel was also quoted as saying Europe needs to find a resolution by October 17 - a week from tomorrow.

And so it goes. One week it's party city for share investors next it's another roller-coaster. About $90 billion was added to the wealth of share portfolios and superannuation across the country in the last three days of local share trading. It was like the cork coming out of a well-shaken champagne bottle and was also a sign of things to come should there be some sort of European resolution.

AMP Capital Investors head of investment strategy Shane Oliver says it's usual for shares to experience some sort of a pull-back after such a strong run as we had last week, but whether this pull-back is modest or major over the coming week could determine whether we have fully entered a recovery phase.

''We got some good data out of the US, consistent with the US economy continuing to grow, but the market got distracted overnight by the downgrades in Europe,'' he says. ''It's inevitable we will get a pull-back this week, but the question is how big. If it's back to previous lows then it's the same as all the other recent bounces, but if it is more modest, it will be a pretty good sign for shares.''

Dr Oliver says that since early August there have been eight bounces from the bottom in the US and six in Australia.

On the positive side, this is the strongest bounce so far in America and the second strongest locally.

The problem is, says Cameron Bell, equities research analyst at Intersuisse, that there is no quick and easy solution to be had in Europe - nor an expected rapid recovery for the struggling US economy.

''It's been an amazing jump [last week for sharemarkets] - all of a sudden people are seeing signs of maybe some sort of resolution in Europe, but it is still going to be a rocky road ahead - the recovery will be a long drawn-out process in Europe and the US,'' he says.

Head of the Bank of England Mervyn King had some sobering comments about the global financial outlook on Thursday when he unveiled #75 billion ($A118 billion) of additional quantitative easing to try to kick-start a British economy that has been through the deepest recession since the Second World War. ''This is the most serious financial crisis we've seen, at least since the 1930s, if not ever.'' It's not often you get a central banker talking in such terms.

Yet Lucinda Chan, division director of Macquarie Private Wealth, says it doesn't take much to change investor sentiment right now. Towards the end of last week as sharemarkets roared across the globe, she was inundated by investors taking their cash out of term deposits and jumping back into the sharemarket.

''The $A has pulled back, the RBA has opened the door for rate cuts, and investors are seeing that if they cut rates then term deposits are not as attractive, and are taking their money out and buying shares,'' she says.

But Dr Oliver cautions that there is much to be worried about. ''There are lots of things to be resolved - the economic data in Europe is still terrible, Greece has said it won't meet its deficit reduction targets, there is still a lack of agreement in Europe on how to recapitalise the banks, and the US economy is looking weak and only just hanging in there.''

''I think you need to check how the follow-through is going. It's a time for averaging in rather than piling into shares - there are still a lot of things that could go wrong.''