It's a big purchase, so why not invest some time in basic financial analysis - WaPo
Why, Suddenly, Is It 'Comrade' Lord Keynes? - IBD
What do the “good” trade numbers tell us? - China Financial Markets
China, Japan, America - New York Times

Investment Banking wallet outlook - all eyes on equity derivatives

- "Our analysis clearly illustrates the IB wallet is going ex growth, declining -4% 09-12E CAGR and to grow only 3% CAGR in 10E-12E."
- "The main catalyst for our base case ex growth revenue trend is that clean fixed income revenues are likely to decline from the peak 2009 year by -22% in 2010E/09E and a further -4% CAGR in 2010-12E, accounting with 55% share for the largest part of the $330bn IB revenue wallet in 2009."
- "So where is the IB revenue wallet growth going to come from? In respect to IB product cycle in different economic stages, with the market becoming more risk open, one should expect a shift to the next risky asset class to drive IB revenues after 2009 being the best FICC trading year ever: Equities, in our view."
- "In addition, there is no sign of innovation within the IB industry driving a new IB revenue wallet super-cycle. One of the products offering potential long-term growth is Insurance-linked-securities. However, following the structured credit crisis we do not see client appetite to buy illiquid structured products. For details on Insurance-linked securities, please refer to our note, “Insurance Linked Securities: The second leg of growth in the ABS market?” published on 4 June 2007."
- "Hence, the key driver for growth in the IB wallet going forward has to be equities. In particular, we focus on equity derivatives rather than highly commoditized cash equity business as the key IB revenue driver considering its higher long-term profitability, lower operating gearing, and more diverse business mix."
- "Equity Derivatives – the key determinator for IB wallet growth. We analyse in detail the key sub-business segments within equity derivatives and their potential IB revenues impact. We conclude equity derivative business is to grow 9% CAGR 2010-2012E – the fastest growth within all IB client flow related businesses assuming 5% CAGR equity market performance in 10-12E."
- "The historic equity derivative revenue growth rates of c.15%p.a. are unlikely to be achievable as clients operate with less leverage and demand relatively simple structured products. More importantly regulation should be a trigger of structural change in Equity Derivatives reducing profitability, with ROEs declining from 42% to 22% in a 2011E sensitivity, mainly due to new capital rules accounting for 2/3rd of change rather than revenue loss related regulation at 1/3rd. The regulatory changes will lead to re-assessment of the business model in our view and structural trend changes within the business wallet as we outline in detail in our report."
- "We expect Delta One to be a key growth segment in our view, accounting for $10.7bn revenues wallet in 2009 with CAGR 9% 10-12E. These activities require large scale operations to maintain significant size index-based portfolios and competitive technology with the appetite and willingness to hedge at times longdated risk. Investment costs required for algorithmic trading are relatively high, and equity finance activities are balance sheet intensive, as a result, we believe this segment will remain dominated by the scaled players with strong balance sheets. In
addition we see material growth opportunities within ETFs at 20%p.a. The key players are GS, SG and BNPP."
- "Within equity derivative structuring we expect retail business to remain relatively slow and unlikely to reach peak volume levels at highly leveraged and risk payoffs post the structuring crisis. However, strategic corporate business will remain a material high growth segment in our view. We expect structuring to grow from a 2009 wallet of $7.7bn by CAGR 10% 10-12E. Overall, due to difficult to hedge risk and capital charges post Basel 2.5, IBs require scale in the structuring business to generate acceptable ROEs over-the-cycle in our view leading to further consolidation in this business segment. As a result, we expect the structured equity derivatives industry to become more oligopolistic post regulatory changes. There are business opportunities so and we remain surprised about competitors’ inability to replicate a Societe Generale Lyxor-type structure. The key players are SG, BNPP, DB and GS."
- "Our largest sub-segment business concern is regarding the equity derivative flow business, becoming more cash equity-like with literally every IB now focusing on expanding this business segment, with a 2009 wallet of $7.5bn and CAGR 5% 10-12E. We witness overcapacity building up reducing spreads and increasing operating leverage. In addition, with regulation increasing price transparency the more commoditized equity derivative flow business is becoming even more of a scale platform business with a strong IT infrastructure a key differentiator. More importantly, the race to own high trading market share is key for price discovery (i.e. liquidity provider) to optimize client facilitation business and generate flow prop related revenues. Hence, the importance of flow prop as such will not be diminished but becomes more vital in a continuously declining flow equity derivative profitability world. We see flow prop as part of client facilitation business in a more transparent equity derivative trading business. Overall, very few players (3-4) will be able to be liquidity providers in such a scale focused business and we are concerned about the aggressive expansion strategy of all IBs including Tier II players to build-up scale. Within flow equity derivative, there is the potential for some IBs to close geographic gaps and grow the flow business aggressively, in particular French and European Banks in the US, with ongoing structural growth in Asia. The player by far being strongest in this segment is GS. We see the oligopolistic flow market structure still uncertain with MS, UBS, DB and French Banks potential contenders in our view."

European worries resurfacing

- The coming surge in food prices
"Rising demand, supply constraints and feedback loops all point to that."
- United States: Right diagnosis, wrong cure
"The President is right to try to boost growth, but we think his latest proposals are awry."
- Europe: Perceptions on inflation expectations
"Short-run measures of inflation views reflect perceptions more than expectations."
- Japan: Improvements in efficiency of capital stock
"Companies have been steadily improving productivity and efficiency."
- Asia ex-Japan: Taking stock of monetary policy
"We single out four economies, where the current monetary stance risks being too loose."
- Emerging Markets: EEMEA: All politics is local
"A constellation of political risks is emerging, which could impact financial markets."
- Europe: Tales from the periphery: Has the crisis returned?
"The widening in sovereign spreads looks unjustified by the news."

- Sweden: A possible second term for the right
"We expect the ruling coalition to win narrowly in the 19 September general election."
- Australia: Strong, broad-based growth ahead
"We are revising up our GDP growth forecasts for 2010 and 2011."
- Canada: A cut (hike) above
"The recovery looks more sustainable; we see policy rates reaching 1.25% by year-end."
- Turkey: Auto demand on auto-pilot
"The recent acceleration in auto sales suggests that the slow recovery is speeding up."
- Romania: Metastable equilibria
"H2 should test the political resolve for austerity measures and the ability to endure them."

EMU strains should not upset global markets

- Overview: "EMU stresses have resurfaced this week. We expect ongoing volatility in spreads but do not anticipate a full-blown crisis. As a result we think the flight to quality reaction and the spike in volatility should reverse."
- US Rates Strategy: "We make a critical evaluation of the recent performance of our 10yr yield valuation framework."
- Euro Rates Strategy: "Belgium is in a far stronger position fundamentally than the peripherals but we think the short term risk is that spreads will continue to widen as the market looks at the risk/reward of being long here."
- Sterling Rates Strategy: "The 10yr Gilt-Bund spread looks out of line with money-market expectations. We recommend a flattener in GBP against a steepener in EUR."
- Global Inflation Strategy: "Total returns for inflation-linked bonds have been surprisingly high in 2010. We expect supply to cap the performance of euro break-evens in the coming weeks. UK break-evens look fundamentally too low."
- APAC Rates Strategy: "We look to enter 7s30s flatteners in JPY."
- "In AUD, target long Dec IB’s at 95.25 and long Dec bills at 95.00. Diverging central bank views also favour AUD/NZD OIS spread wideners."
- Flow Analysis: "Flow data suggestive of waning appetite for fixed income. We saw a sharp fall in demand for US fixed income last week in all maturities. By contrast, demand for Europe held up well with continued duration extension."

The global economy is losing steam

- Setback. "Our picture of a W-shaped economic recovery after the Great Recession appears to be materializing. The expiration of the fiscal packages running into the billions and the reversal of the inventory cycle are now increasingly slowing the pace of global growth. Consideration is being given to new stimulus programs, first and foremost in the US."
- US. "The slowdown there started as far back as this spring and will, moreover, be more pronounced than originally anticipated. There is the growing fear that the economy will slide back into recession. We would not go that far, but we are making a downward revision to our growth expectations for 2010/11 (pages 4-7)."
- Fed. "It is not only the US administration that intends to stimulate again. The central bank has announced its intention to prevent a further shrinking of its balance sheet. Consequently, we do not expect the first rate hike until the beginning of 2012."
- EMU. "The European economy is holding up pretty well. This appears to confirm what ECB economists discovered as far back as 2009: The US cycle is feeding through to Europe less strongly and above all later than in former years. But here too, the slowdown is inevitable. The rapid pace of growth reported this spring cannot be maintained. For 2010/11, we expect GDP growth of 1.6% and 1.3%, respectively (pages 8-9)."
- ECB. "A slide back into recession is, however, improbable, with the result that the central bank could really lean back and continue its exit from the ultra-expansive monetary policy – were it not for the resurfacing concerns about the solidity of European banks and the rapid sovereign bond spread widening (cf. Weekly Comment, pages 2-3)."

Japan: Limited room for capex to increase

- Limited room for capex to increase
• "Recent capex-related data suggests that corporate capital expenditure has finally bottomed out"
• "However, our analysis of the capital stock adjustment cycle suggests that there is limited likelihood of capex expansion in the foreseeable future"
• "Cyclically, we anticipate capex will reenter a soft patch towards the early 2011, with exports and domestic production likely to slow"
- Corporate and Consumer Sentiments Deteriorated Sharply
• "Corporate and consumer sentiments deteriorated sharply in August reflecting the recent sharp yen appreciation and a decline in stock prices as well as concerns about slump after the last-minute demand before the expiration of eco car subsidies"
- Demand for Funds Remains Weak
• "Bank lending continued to drop, falling 2.0%yoy in August, reflecting the weak demand for funds among the private corporate sector"

Fiscal fables

- Macro viewpoint: Fiscal fables "The Obama administration has announced a series of proposals this week aimed at boosting growth. These policies, if enacted, will have a negligible impact on our forecast of a growth recession through the end of next year."
- Fed watch: Incomplete transition "Former Vice Chairman Donald Kohn’s retirement from the Board of Governors signals the end of an era. As he was close to Bernanke and other centrists on the FOMC, his dovish comments in a subsequent interview are noteworthy. The fact that his replacement has not yet been approved will be a challenge for the Fed."
- Housing watch: Despite low rates "Record low rates have done little to stimulate housing demand, leaving a growing imbalance between housing supply and demand. We expect the government to introduce more policies to address this glut of supply. One proposal gaining some traction is to facilitate the conversion of foreclosures into rental properties."
- The week ahead: Spending and production: not so bad "We expect a modest gain in retail sales, showing a decent back-to-school shopping season. Consumers are still spending, but are doing so conservatively. New information on the manufacturing front will also be released. We expect the industrial production to pick up with a solid gain in manufacturing output, but for the Empire State survey to point to an impending slowdown."

Investors rush into AUD on buoyant economic data

- "The latest IMM data cover the week from 31 August to 7 September."
- "Positioning becoming an increasing risk to AUD: The Australian dollar has rallied almost 5% against USD since GDP data published on 1 September showed that the Australian economy re-accelerated during Q2. The strong activity data, combined with further employment growth, have also seen the money market turn from pricing a small probability of a cut to now pricing a full 25bp hike in 12 months. As a result, noncommercial investors have added to AUD longs, which now stand at 44 percent of open interest. Hence, positioning is increasingly becoming a downside risk to AUD."
- "Close to neutral positioning in EUR/USD: With EUR/USD stuck in an approximate 1.26-1.29 range since the middle of August it is little surprise that non-commercial investors have refrained from taking a strong directional view. Net short EUR positions stand at 9.2 percent of open interest, down from 10.6 percent the week prior."
- "Short CAD positions are unwound: After having turned marginally short CAD two weeks ago speculative investors are now once again net long and long positions are likely to have been built further after the Bank of Canada hiked by 25bp the day after the IMM data was collected."

Repair of Fair

- Neutral Duration — "With the recent rise, 10yr Treasury yields are near our fair value. We recommend selling the 5yr versus 2yr and 10yr Treasuries."
- Fair Value Model Review — "We review recent performance of our fair value model and make an adjustment to address unusual Fed accommodation."
- Citi Strength Indicator Explained — "The Citi Strength Indicator is made up of four auction metrics and can be used to enhance trading strategies post auction."
- MBS Market Overpricing Government Refis — "A government manufactured refi wave remains a remote probability in our view, although we find market-implied probabilities of such an event are 50-75%."
- Agency Debt — "Two multi-billion dollar five-year agency/supranational deals have printed so far in September. We find the five-year Freddie Mac deal attractive."
- US Rate Strategy Model Portfolio — "The portfolio is down 0.1% month-to-date."

A Kan victory and the risk of a yen stuck at ¥70-¥80

- Kan has the edge — "The media is reporting that PM Naoto Kan has a lead over opposing candidate Ichiro Ozawa in the DPJ leadership election. This writer also thinks Mr. Kan has the edge. However, Mr. Ozawa also has a chance of winning. We forecast a weaker yen and stronger share prices if Mr. Ozawa wins."
- If Mr. Kan wins — "We think this would be neutral or negative for share prices. We would not expect any big changes in the economy-related posts such as the Minister of Finance, the Chief Cabinet Secretary, or the State Minister for Economic and Fiscal Policy in the post-election cabinet. We would thus expect barely any change in basic economic policy."
- Little hope of additional monetary easing — "The BoJ has taken steps to ease monetary policy. Miyako Suda, a member of the policy board, was said to have been against this, on the grounds that it would heighten the risk of creating a breeding ground for bubbles in the long run. We note the gulf between her perception and the market."
- Risk of yen strength after the leadership election — "Our greatest concern is of rapid yen strengthening after a victory for Mr. Kan in the September 14 leadership election. With the government having already played its hand on monetary and fiscal policy, it is unlikely to come up with effective measures on the strong yen."
- Continued outperformance by domestic-demand stocks near term — "We expect stocks that benefit from low interest rates and deregulation to continue to outperform. We anticipate additional deregulation measures for real estate, tourism and other areas to be incorporated into the government’s economic steps that will be unveiled this week."
- Stocks to watch — "Sumitomo Realty & Development (+6.1% versus TOPIX YTD through September 8), Tokyu Real Estate (+8.6%), in real estate, All Nippon Airways (+37.3%) and East Japan Railway (+23.7%) in tourism, and SoftBank (+21.6%) and Dwango (+7.8%) in IT."

The corporate self-financing rate: A crucial variable in the aftermath of the crisis

- "The crisis has led companies to self-finance their investments: in the aftermath of the Lehman bankruptcy, they lost access to credit and the financial markets seized up, which showed them the danger of financing investments by running up debt."
- "In several countries (United States, United Kingdom, Germany), the selffinancing rate (cash-flow-to-investment ratio) already exceeds 100%. In the countries where this is not yet the case (France, Spain, Italy), we should expect either a drive among companies to increase productivity (and hence job losses), a slowdown in wages, or a decline in investment. This is already happening in Spain and Italy, but not yet in France."
- "A requirement that the self-financing rate should exceed 100% will lead to a permanent fall in the corporate debt ratio, a fall in companies’ return on equity, more unfavourable income sharing for wage earners and a fall in demand."

In the wake of the crisis, the same factors will be found in the euro zone in the medium term as those which accounted for the appreciation of the German mark in the past

- "The appreciation of the German mark, in the 1980s and the early 1990s before the creation of the euro, was due to three factors: Germany's strong export capacity; the high level of domestic savings; the credibility and conservatism of the central bank which attracted capital."
- "After the 2007-2009 crisis, these factors will be found in the euro zone: export capacity, again mainly thanks to Germany; high level of savings as a result of the halt in borrowing by households (whereas before the crisis, savings in the euro zone were very low due to countries with strong credit growth); rising corporate profits; fiscal deficit reduction; ECB more conservative than the Federal Reserve."
- "It is therefore reasonable to foresee a medium-term trend appreciation of the euro, similar to that of the German mark in the past, even though this is not the trend seen in the short term."

Public debt, money supply and inflation

- Overview: Public debt, money supply and inflation
- France: Is the decline in unemployment sustainable? "According to the French statistical office,  INSEE, the jobless rate in metropolitan France fell 0.2 percentage points to 9.3% in Q2 2010. INSEE also recently released detailed employment figures suggesting that the upturn in job creations is not yet strong enough to trigger a sustainable decline in the jobless rate. Whereas surveys suggest that economic growth remained relatively dynamic over the summer, we expect a slowdown towards the end of the year. Consequently, the unemployment rate is thus rather likely to level off in the quarters ahead."

Gold heading towards USD 1,600

- "The Fed's decision to reinvest the proceeds from maturing and prepaid agency debt and MBS in longer-term Treasuries and to continue rolling over its holdings of Treasury securities as they mature has eliminated the slight tightening bias of US monetary policy."
- "Thus far, it is not yet clear whether this will now also result in a lengthening of the Fed balance sheet. In the past, however, the gold market reacted extremely positively to a monetization of government debt."
- "In the second quarter of 2010, demand for gold measured in tons increased by 34% yoy. On a USD basis, a new record was even posted for the quarter. The reason for this is the surge in investor demand triggered by the Fed decision and the renewed widening of CDS spreads in Europe."
- "In the interim, a growing number of Chinese investors is also discovering the gold market. Although China has advanced in recent years to become the world’s largest gold producer, its annual production of most recently 330 tons is by no means sufficient to satisfy this demand."
- "Hence, China announced key gold market reforms at the beginning of August. Foreign companies are now permitted to offer their gold coins at the Shanghai Exchange, and more banks are permitted to import gold from abroad. The Chinese demand will now increasingly be felt on the global markets."
- "We are, therefore, raising our target price for 2011 from USD 1,250 to USD 1,400 per troy ounce. For 2012, we now expect USD 1,600 per troy ounce (in each case calendar year averages)."

The trade in goods between Europe and the BRIC

- "In the past year, trade in goods between Europe and the large emerging countries (Brazil, Russia, India and China) has once again been very vigorous. A particularity is found in the fact that exports and imports have increased at similar paces, which may suggest that the import content in these exports is high."
- "We look at, country by country, what types of goods currently contribute the most to the growth in trade between the six large EU-15 countries and the BRIC. We can see that their nature differs:
• Mainly exports of cars, transport equipment and machines for industry against imports of iron ores and semi-processed food products with Brazil;
• Exports of cars, perfume and office equipment against oil with Russia;
• Exports of metals and transport equipment against oil, clothing and cloth with India;
• Exports of cars, machines for industry and transport equipment against electronic products for telecommunications, office equipment and electrical equipment with China."
- "These observations do not mean that the import content in European exports to the BRIC is low. Oil is needed upstream in most production processes, and the major European manufacturers have offshored to the other emerging countries. These observations simply show that trade in goods between Europe and the BRIC is differentiated and that the simultaneous change in exports and imports does not fundamentally result from the fragmentation of the value chains."

Turkish lira on the edge

- Market movers ahead: TCMB on hold, Polish inflation low "We do not expect any major change in rhetoric from the Turkish central bank (TCMB) when it announces its rate decision next week. Along with the market consensus, we expect the TCMB to keep rates on hold, with the borrowing rate staying at 6.50%. That said, the TCMB will keep all options open and, if anything, we would recommend investors to be positioned for more dovish rhetoric. Read more on page 4. Polish inflation and industrial production will be in focus next week. We expect inflation in August to surprise on the downside compared to the consensus and stay flat at 2.0% y/y (consensus sees a moderate increase to 2.1% y/y). We see industrial production surprising on the upside in August to grow by 15% y/y, up from July’s 10.3%."
- Fixed income outlook: CHF/HUF at 230 will trigger MNB hike "Hence, there is no doubt that the MNB is considering to hike interest rates despite the fact that inflationary pressures seem to be moderating and growth remains lacklustre. Judging from our Monetary Policy Tracker one should not really expect that kind of aggressive rate hikes that is now being priced in by the markets – as it confirms that inflationary pressures are easing which in itself is an argument for rate cuts. So why is the MNB considering rate hikes? And is it rational for the markets to speculate the MNB might hike rates? The most important reason is of course that the situation in Hungary in no way can be described as “normal” as concerns over financial sector stability continue to “overrule” everything else. Read more on pages 3-4."
- FX outlook: volatile week ahead for the lira "Next week could be something of a rollercoaster for the Turkish lira, with three big events on the agenda: the referendum on constitutional changes (Sunday 12 September), the Q2 GDP numbers (Tuesday) and the rate decision from the TCMB (Thursday)."
- Scorecard-based trade of the week: buy ILS/ZAR "For the fourth week in a row, the highest-scoring currency in our EMEA FX Scorecard is the Israeli shekel, while the lowest-scoring is the South African rand. Therefore we continue to recommend buying ILS/ZAR, based on our EMEA FX Scorecard."

India: Frame-by-Frame

- Maintain a Neutral bias on the market "The market continues to remain resilient with YTD gains now exceeding 6%. Among the larger markets in Asia, India’s outperformance has been strong, despite macro worries on inflation and the current account deficit. We believe that inflation concerns should start to abate as base effects begin to kick in. On the flip side, we see some patches of slowdown in the economy and expect mild near-term weakness in industrial production numbers. We retain our Neutral bias on the market."
- Near-term weakness in activity and peaking inflation "Systemic liquidity has eased somewhat since the tightness in June and July, which coincided with large outflows on account of telecom auctions. Meanwhile, real activity indicators suggest a slowing down of economic activity in the near term, the pace of which has been hastened by supply constraints and unfavourable base effects. Inflation has most likely peaked as agricultural output normalises this year and global commodity prices remain close to flat on an annual basis."
- Fund flows — allocations have favoured debt over equities "Fund flow activity reveals that FII flows have moderated in both equity and debt markets in August. That said, FII inflows into debt in the year so far stand at a record high. Domestic mutual funds have continued to be net sellers of equities and have instead channelled funds into debt instruments. The supply of paper in the primary market has come off during the past few months amid market volatility and global uncertainty."
- Consensus earnings — largely flat "Consensus earnings estimates for the Sensex are largely flat YTD. Autos, banks, oil & gas and media have seen the largest upgrades, while telecom, real estate and capital goods have seen the largest cuts in consensus earnings estimates."
- Valuations not cheap "The 12-month forward consensus-based market earnings multiple at 15.6x stands at a slight premium to its five-year average of 14.8x. With respect to regional peers, the Indian market does look a bit expensive at current levels."