THE INVESTOR: While some of the gloss is beginning to come off Britain's economic story, current share prices may well discount most of the bad news, including the yawning hole in pension funds.

With the clock ticking away towards a deadline that may trigger a war with Iraq, global equity markets continue to trade in the doldrums.

Year-to-date, most stock market indices are suffering further negative returns. For example, the ISEQ Overall index is down 1.6 per cent, which is in fact reasonably good when compared with the decline of 7.5 per cent in the Dow Jones Eurostoxx 50 index.

This means that most equity markets are still well below their respective levels of only 3 months ago. At current prices, European markets are, on average, trading 16 per cent below late November 2002 price levels.

US markets have not fallen by quite so much, with the S&P 500 down 8.9 per cent over the past 3 months.

However, from the perspective of a euro-based investor, the decline in the US market is much greater when translated into euro. Taking into account the fall in the dollar against the euro of approximately 8 per cent since late November, an Irish-based investor in the American equity index would have suffered a fall of about 17 per cent.

Whilst geopolitical tensions are undoubtedly having an unsettling effect on investor sentiment, it is not hard to find fundamental economic reasons for the ongoing malaise across global equity markets.

The larger economies in continental Europe, and in particular Germany, continue to lose growth momentum.

For many economists it has long been apparent that the big risk in mainland Europe is deflation and not inflation.

The last half-point cut in euro interest rates indicated that the European Central Bank (ECB) was, somewhat belatedly, coming around to this viewpoint. Recent comments to a meeting of the G7 countries by ECB president Mr Wim Duisenberg sent a strong signal that euro-zone interest rates are likely to be cut again in the near future.

Mr Duisenberg's signal followed earlier comments from our own Central Bank governor that pointed unequivocally to further monetary easing in Europe due to weakening economic growth.

In the UK, the financial markets were recently caught off guard when the Bank of England announced a surprise quarter-point cut in Britain's base rates. Share prices rallied momentarily on the news but any price gains were short-lived.

In recent years, the UK economy has grown at a significantly faster pace than the rest of Europe. But some of the gloss is beginning to come off the UK economic story, reflected in part in a rapidly rising public-sector borrowing requirement. On the face of it, this would seem to explain the poor performance of UK shares in recent months.

However, the real reason for the sogginess in UK share prices possibly has more to do with issues specific to the UK stock market.

These include the large hole that has been created in the balance sheets of UK insurance companies due to the cumulative impact of three years of negative equity returns. Another area of growing concern is the widening deficits across many large UK company pension schemes.

Investment bank Morgan Stanley estimates that the combined pension funds of the top 100 UK companies could be underfunded to the tune of £85 billion sterling (€125 billion).

During the booming 1990s, pension funds invested heavily in equities. Rising stock markets meant that many companies were able to reduce (or even eliminate) their pension contributions as the value of pension assets rose ever higher. Unfortunately, this has proved to be a fools' paradise as many UK companies are now having to make large payments into their respective schemes to make good yawning pension fund deficits.

In essence, at the peak of the market in 2000, UK pension funds had become severely over-exposed to equity markets.

As well as eating into current profits, the emergence of large deficits in company pension schemes has led the credit rating agencies to downgrade the credit standing of several large, quoted companies. This crisis in the UK pension fund system is going to take several years to resolve and will undoubtedly be a negative for the share prices of those companies that have weak pension schemes.

Whether the problems affecting the UK insurance sector and pension industry will be sufficient to prolong the equity bear market is a much more difficult question to answer. A strong case can now be made that current UK share prices discount most of the bad news, including the reality of large pension fund deficits.

The dividend yield on the FTA All Share index is hovering around 4 per cent, which is barely below the 4.1 per cent yield on 10-year gilts. Over time, dividend payments grow in line with growth in the economy. Assuming a relatively low long-term dividend growth rate of 3 per cent would point to long-term equity returns of 7 per cent compared with just over 4 per cent from gilts.

The bear market may still have some way to run yet but, for those investors with a sufficiently long time horizon, the UK equity market does now seem to offer long-term value.