Japan: August 2010-Major rebound for equities globally, particularly in southern Europe

- S&P Global Equity Index up 5.8% in July — "Global equities rebounded sharply in July after the release of EU bank stress test results. As we had expected, the BCBS eased its draft regulations, which resulted in significant growth for bank stocks globally."
- Greek crisis calming — "Equities grew sharply in southern Europe and developing markets. Growth in southern Europe was led by Greece (+21.4% in July), Spain (+14.0%), Portugal (+4.1%), and Italy (+8.3%)."
- Japanese equities up just 1.0% in July — "However, on a dollar basis Japanese equities were relatively strong. The dollar-based S&P Japan Equity Index is up 1.6% YTD (but down 5.5% in yen terms). By comparison, the US Equity Index is up 0.8% and the Europe Equity Index is down 5.7% (dollar base for both)."
- Long-term yen appreciation risk — "The yen-dollar rate is firmly in the ¥80$-¥90/$ range. The yen has strengthened over the long term, from a July 1998 low of ¥147/$ to ¥85/$ in November 2009. Even if the yen falls into the ¥70/$-¥80/$ range, the government and/or BoJ may not intervene in the forex market."
- Asia-related stocks, domestic demand stocks likely to benefit from deregulation
— "China and other Asian economies are doing relatively well, so we recommend making China-related stocks (machinery, autos, trading firms, marine transport) the core of one's investment portfolio. We also expect to see deregulation in the tourism, real estate, and communications sectors, so domestic-demand stocks could be attractive as well."
- Beneficiaries — "We think beneficiaries of current trends include 1) Komatsu (machinery), a global infrastructure-related stock; 2) Unicharm (personal care), a core Asia-related stock; 3) Nidec (electronic machinery); Rakuten (consumer cyclical), a domestic demand-related stock with high growth potential; and ANA (transportation), which should benefit from moves to nurture the tourism industry."

Citigroup Japan Portfolio Strategist 20100802

Europe strikes back

- "In the US the FOMC meeting is the main event next week. We believe that the
speculations about further monetary easing are premature, but that the assessment of the current economic situation will be downgraded. We expect US July retail sales to increase 0.5% m/m after a weak H1 2010."
- "For the euro area, the key event next week is expected to be the release of Q2 GDP data. We expect to see robust growth, but at a rather uneven pace. Germany is expected to stand out as the top-performer."
- "UK inflation report on Wednesday is expected to weigh on GBP and support Gilts."
- "In Scandinavia focus turns to inflation numbers out of Denmark, Sweden and Norway. The monetary policy meeting in Norges Bank will not attract much attention. Unchanged rates are widely expected."
- "Over the past month the euro area has been the main provider of good news while US data have disappointed. The German Ifo index, German factory orders and Euro PMI all surprised to the upside, while US data covering housing, business and consumption have all been weak."
- "The relative stronger numbers out of the euro area relative to the US and less PIIGS
concern have pushed EUR/USD above 1.32."
- "Wheat prices rise strongly on Russian drought and subsequent export ban. A new food
crisis cannot be ruled out if the export ban spreads to other countries like we saw in 2008. However, global wheat stocks are in fact plenty and other grains prices are not rising to the same degree."

DenDanske Weekly Focus 20100806

Weaker leading indicators will successively dominate in the course of 3Q

- Stress test: "The impact of the stress test on the ability of the interbank money market to function is a key indicator with respect to the mediumterm impact on the parameters for the equity market. The more strongly the stress in the banking system is ultimately linked with the problems of individual countries (government deficit, competitiveness), the less probable rapid relief is."
- EMU: "The causes of the tensions in EMU can only be eliminated via a protracted reform process. The possible renewed escalation of the tensions remains a material risk factor."
- Economy: "The recent rise in the Ifo expectations does not mark the beginning of a new positive trend. The positive share price effects from the reporting season will successively wane, and the strains from weaker leading indicators will increase."
- Financials: "Rally yes – sustained no. We think three risk groups will cut short the rally by the banks: credit risk, sovereign risk and regulatory risk."
- Defensives: "Growing appeal in 2H10. Leading indicators such as the money supply M1 are signaling the turning point in the relative earnings dynamic of cyclicals versus defensives."
- STOXX 600 allocation: "Chemicals, Oil & Gas, Telecom and Utilities remain overweighted. Alongside Construction & Materials, we are underweighting Basic Resources and Retail."

Unicredit Market Outlook 20100730

China: July 2010 - Play the rebound, but watch out for the potential risks

- Key market drivers: "MSCI China rose 4.1% over the past month, underperforming MSCI EM by 1.8%. All sectors recorded positive returns. IT sector was the best performer (+12.2% m/m), followed by Materials (+11.6% m/m) and Industrials (+11.2% m/m). Telecom turned to be the worst performer, up only 1.3% m/m."
- Key economic events: "China’s 2Q10 and June macro indicators, as well as July’s manufacturing PMIs, have continued to show a moderation in the country’s growth momentum. Real GDP rose 7.2%q/q saar in 2Q, following an increase of 10.8% q/q saar in 1Q. IP rose slower than expected, up 13.7%Y/Y in June compared with 16.5%Y/Y in May. Moreover, the NBS manufacturing PMI fell from 52.1 in June to 51.2 in July, registering the lowest reading in 17 months. Inflation-wise, June headline CPI rose at a slower-than-expected 2.9%Y/Y. On the policy front, we expect the PBoC to raise the benchmark policy rate once, by
27bp in 4Q10. Our year-end Rmb/US$ target stands at 6.6."
- Key company news: "We now believe that the current rebound in China equities may prove to be longer and more powerful than we originally thought back in earlier July. This is because: (1) China authorities recently voiced dual emphasis on maintaining a relatively fast growth rate and adjusting economic growth mix towards consumption, which marks a slight change from its previous focus on managing inflationary expectations and adjusting economic mix; and (2) China’s macroeconomic data for July may point to sharp sequential slowdown,
thus increasing investors’ expectations that the authorities may loosen their monetary tightening and refrain from harsher measures. That said, we refrain from calling a major turnaround in China equities, as: 1) We see continued downward earnings revision risk, as China’s economic slowdown ripples through macro-sensitive sectors; and 2) A number of
sector-specific policy risks could hurt earnings and de-rate multiples of related companies."

JPMorgan China Monthly Wrap 20100802

Base metals prices recovering on China, diminishing financial stress

- Sentiment recovering, reinforced by supportive fundamentals "Improved sentiment on Chinese policy direction and reduced fears that a European financial dislocation would derail the growth economies have led to sharply higher metals prices. Zinc and copper – the metals with the strongest medium-term outlook – have led the gains, reinforcing our view that longer-term growth expectations will remain the key driver of relative price levels. Adding to the improving sentiment have been mildly tighter physical markets, as global inventories continue to draw and delivery premiums across products remain firm despite some seasonal weakness and softening economic indicators since late May."
- Risk/reward for long positions less compelling, but we expect further upside for copper and zinc "We continue to believe that fluctuations in trend growth expectations will
drive price volatility during 2H2010. Further, the strength of the recent rally reduces the risk/reward for long positions. However, we believe that the fundamental drivers for metal demand remain strong and we continue to expect further upside for copper and zinc, the more supply-constrained metals over the medium term. The systematic rolling forward of our 3-, 6-
and 12-mo forecasts suggests a 6-mo copper price forecast of $7,925/mt. Accordingly, we maintain our recommendation for a long position in Dec- 10 copper. However, given the near-term uncertainty, recent price strength and relatively low volatility, we believe that the current environment is providing a compelling opportunity for second half producer hedging."
- Near-term nickel price risk skewed to the upside, but remain neutral medium term "Although we remain neutral-to-bearish on nickel and aluminum over the medium term, we believe that nickel may have near-term upside before year-end given the risk of another temporary imbalance. We believe that aluminum price risk is skewed to the downside from current levels."

GoldmanSachs Metals 20100803

US inventories build as crude oil imports surge

- A shift from storing crude oil at sea to on land… "Last Thursday’s weekly petroleum status report from the US Department of Energy (DOE) reported a 7.3 million barrel build in US crude oil inventories. The driver of this build was a surge in US crude oil imports, which reached 11.15 million b/d. However, we do not expect this level of imports to be sustained as we believe it was driven by both a push to unload tankers ahead of the arrival of Tropical Storm Bonnie and the release of crude oil from floating storage following the decline in the carry in the forward curve. We would suspect that while there likely has been significant
unloading of floating storage in the US Gulf Coast recently, the reported decline of 13.9 million barrels likely captures some changes in oil in transit. Nevertheless, the rapid unloading of floating storage is consistent with the significant weakening of the contango in WTI prices."
- … And bringing oil ashore ahead of Tropical Storm Bonnie… "The high import number also likely reflects some oil shipments ahead of schedule before the arrival of Topical Storm Bonnie, which threatened to disrupt oil shipments in the gulf region from Friday July 23 onwards. Bonnie also subsequently led to a cumulative oil production loss of 2.7 million barrels, which we expect to be felt in the coming week’s DOE reports."
- …But underlying US demand remains firm "The underlying US demand for oil remains quite strong, and has climbed to 19.8 million b/d. We estimate this is the highest post recession demand number so far, as the strong demand data in May has been revised down by the US department of Energy."

GoldmanSachs Energy Weekly 20100802

China – Our big real-estate survey, Phase 1

- "The Tier 2 and Tier 3 cities have not seen much of a correction in land or apartment prices. Moreover, developers’ sentiment about sales volumes seems pretty good, and they do not appear to be postponing construction. A wave of new supply is planned for September. Developers on the whole seem to think sales volumes will be down 20-30% y/y this year, which is eminently survivable."
- "This is important, since if sales and construction activity holds up in most Tier 2 and Tier 3 cities, then the economy will not tank, and the State Council will not be forced to loosen real-estate or monetary policy."
- "Developers expect apartment prices to fall more in the Tier 2 and Tier 3 cities, but this is acceptable, and developers are taking advantage of lower land prices to build up their land banks. Credit conditions have tightened, but not to the extent seen in 2008. Moreover, many developers still appear to be pretty cash-rich."
- "Problems such as land hoarding and accessing bank lending to fund land purchases still appear common, however. We are also seeing significant forinvestment buying in Tier 2 and Tier 3 cities."

Stand Chart Special Report 20100803

GS Sustain Monthly Focus

- GS SUSTAIN identifies long-term leaders "The GS SUSTAIN framework identifies long-term investment opportunities across global industries. The GS SUSTAIN Focus List brings together the leaders we identify in each of the sectors examined to date. We make no changes to the GS SUSTAIN Focus List in this update. Since the launch of the GS SUSTAIN Focus List on June 22, 2007, mature industry leaders have outperformed the MSCI World All Country Index by 38.7% and emerging industry leaders have outperformed this benchmark by 2.5%."
- Further evidence of economic realignment "Second quarter earnings reported by companies in each region have so far exceeded consensus expectations by more than the long-run average but uncertainty over the economic outlook is growing, particularly in the US where economic data has begun to point to slowing growth. In our view GS SUSTAIN’s long-term perspective, and the economic realignment central to the analysis of many industries, provides a valuable roadmap."
- We highlight GS SUSTAIN mature industry leaders with attractive valuation entry points "The mature industry stocks on the GS SUSTAIN Focus List are identified without reference to earnings or asset multiples. We screen these companies to highlight those for which (1) our analysts have strong positive views, (2) valuations are attractive versus peers and (3) valuations are attractive versus history. Among the mature industry leaders, we highlight Vallourec, Monsanto, 3M, Qualcomm, ABB, Vestas and Lenovo."
- Our recent research highlights opportunities in emerging industries "On July 27, we published Emerging Industries: Identifying pure-play growth opportunities in a changing world. Our top-down analysis of global economic trends, consumption patterns and resource constraints highlights 15 growth themes, and 464 companies exposed to those themes from
Goldman Sachs global coverage. We highlight 56 leaders offering rapid forecast growth, reasonable valuations and attractive positions in their industries."

GoldmanSachs GS Sustain Monthly Focus 20100802

Global financial centres after the crisis

- Financial market size: "Traditional centres lose market shares, emerging markets up-and-coming. US and EU financial markets continue to provide around three-quarters of global financial services, albeit, after the crisis, at substantially lower overall levels of market activity in many market segments. Emerging financial markets, especially in Asia, have grown strongly in past years and are set to accelerate their catch-up process."
- Financial centre competition: "Established centres static, new centres rush up the league tables. Traditional financial centres are repeatedly found in top ranks as regards their international competitiveness, typically including London, New York, Hong Kong, Singapore, Tokyo, Chicago, and Zurich. Their competitiveness ratings have not changed significantly over the past years. Emerging financial centres such as Beijing, Seoul, Shenzhen, Shanghai, and Dubai have improved their global ranking strongly since 2007, raising their competitiveness ratings by 42% for Seoul, 27% for Beijing, 22% for Mumbai, and 16% for Shanghai."
- Europe: "Single financial market, but ailing financial centres. European financial market places are falling behind in the rankings. Cities such as Paris, Madrid, Milan, Frankfurt, Amsterdam and even London, have clearly lost ground compared to other advanced and emerging locations, and seem to be missing opportunities to enhance their competitiveness."
- Four drivers of financial centre competitiveness after the crisis:
1. Big is beautiful – and will remain so. "London, New York, Hong Kong, and Singapore are set to remain strongholds of global finance after the crisis, building on existing market strength and favourable economic conditions."
2. Towards a multi-polar financial industry. "In the long-run, emerging financial centres are likely to succeed in establishing the scale and scope in their market environment that will help them advance into the top group of global locations. The crisis may accelerate this trend."
3. National focus as transitory advantage for smaller centres. "Local and regional financial market places may hope for continued relevance owing to the re-focusing of market participants and policymakers on their national markets. However, this tailwind will likely be of limited duration."
4. Good regulation as a competitive advantage. "Providing a good regulatory framework will be a key determinant of competitiveness going forward. Financial centres not compliant with international rules are faced with increasing political pressure and stigmatisation. Well-regulated financial centres may be considered as safe havens. But increasing regulatory density may also give rise to regulatory arbitrage. Financial centres need to analyse the impact of regulatory developments and decide which types of business and business practices they wish to host in their location."

DeutscheBank EU Monitor 20100802

A summer break with no breakthrough

- FI Strategizer: "Next week, US data confirming the slowdown in the economic recovery should be supportive for Treasuries. In the EMU, solid figures on German IP and orders should keep investors moderately optimistic, with Bunds suffering slightly. We do not expect major
surprises from the ECB meeting."
- EU Portfolio Strategy: "We would return to a minor long duration stance of +0.5 years. We keep our positive view on Italy and we increase moderately our exposure on Spain, closing further the gap with EFFAS weightings. We remain moderately overweight on France."
- Trade Idea: "Over the last week, Spain tightened sharply vs. Italy, especially at the front end and at the extra long end. We prefer Italy, due to its sounder macroeconomic fundamentals and we thus suggest switching from Spain into Italy at the 3Y maturity."
- MM: "This week, results of the 3M auction sent a reassuring signal, confirming that the EU banking system is sound. Next week, only the 1W MRO is scheduled, with EUR 190bn expiring. In line with this week, we expect demand to be slightly lower than the amount expiring, leading to another modest drop in liquidity."
- Supply Corner: "Next week, primary market activity will slow down. There will be no redemptions or coupons in the EMU, while gross supply should be a modest EUR 4bn, coming from Austria and Spain. Activity should focus on the short end, with little action on the extra long end."
- FX Strategizer: "The USD took the full impact of soft US news, but we do not expect the current market scenario to improve sharply. Investors are likely to scale back their risk exposure, which should provide USD, JPY and CHF some relief and put AUD, NZD and EUR under pressure."
- EUR: "The EMU growth prospects will not be strong enough to completely offset the outstanding budget crisis. The EUR-USD strength should ease and the next key resistance level at 1.3125 won’t be broken easily."
- JPY: "The latent downward pressure in USD-JPY and the modest upside potential for EUR-USD will limit any EUR-JPY rebound. EUR-JPY is thus unlikely to break through, while USD-JPY should stay in the 86/88 band."
- CHF: "As feared, the EUR-CHF recovery proved to be quite capped above 1.38: as risk aversion might spark more demand for safe-haven currencies, a full break of the 1.36 base may prompt a further sell-off."
- GBP: "Sterling should stay firm also in August with risks that our mediumterm target for cable at 1.60 may be hit rapidly. EUR-GBP should offer a more constrained picture, as a full break towards 0.80 might require time."
- Pacific Rim & CAD: "Commodity units are now less supported by tighter monetary policy at home. The AUD, NZD and CAD should hold the line vs. the USD, but their recent rally is likely to stay frozen in August."
- Nordics: "A more pronounced plunge of EUR-SEK and EUR-NOK below 9.40 and 7.95 appears quite ambitious at this stage. The two Nordic units should thus struggle in the “land of nowhere” in the coming weeks too."

Unicredit Curves & Crosses 20100730

Global Metals, Mining & Steel: EVA Increasing Returns

- A global view — "We have completed a global EVA study on the metals, mining & steel companies under Citi’s global coverage. We aim to show which companies, regions and commodities generated the most shareholder value over the past five years and are likely to generate the most attractive return over the next three years."
- Profitability of the industry is improving — "The global mining companies have added c. 5% return above the cost of capital for each year between 2005-09. We expect this to improve to 9% for 2010-12. In contrast, the steel sector has added c. 2.4% above the cost of capital and this is anticipated to decline to 0.3% over the next three years. BHP Billiton has been the standout performer in absolute EVA terms and is expected to generate $47bn over the next three years, dwarfing any of its nearest rivals. On the steel side, POSCO has been the leader over the last four years, but is expected to be edged out by CSN over the forecast period."
- EM over DM — "We expect emerging markets to outperform developed markets over the next three years. The key regions of outperformance expected to come through are Latam and Australia. North America has delivered the lowest EVA returns for mining, while European steel has been the worst performer in the steel sector."
- Commodity exposure — "On a returns basis, coking coal has been the highest returning commodity over the past five years, followed by copper then iron ore. We expect iron ore, coking coal and copper to be the key outperformers with a large improvement coming through in gold. In contrast, we expect PGMs, steel and zinc to meet their cost of capital."
- Don’t do M&A — "Over the past five years, the mining sector has absorbed $258 billion in invested capital and the steel sector has absorbed $115 billion in invested capital. Most of this has occurred via M&A and our analysis shows that M&A done around 2007 transferred a large amount of value from the acquirers to those being acquired. Capital discipline by the mining sector will be a key driver in determining alpha within the sector."
- Rankings — "We have combined our rankings based on commodity exposure and EVA return to construct a key pick list globally of most favoured and least favoured companies. The key leading companies are Grupo Mexico, Antofagasta, PanAust Limited, OZ Minerals, Freeport-McMoRan, Cliffs Natural Resources, Fortescue Metals Group, Bumi Resources, China Coal Energy, Raspadskaya, Xstrata, BHP Billiton, Rio Tinto, JFE Holdings, Gerdau SA, Salzgitter, POSCO, Mechel and Voestalpine. Potential laggards are National Aluminium, Aluminium Corporation of China, Allegheny Technologies and Evraz."

Citigroup Global Metals Mining Steel 20100730

The Shifting Sands of Correlation

- The macro world dominates stock prices. "The relationship between small, mid and
large cap indices has only climbed further in the past quarter, with the S&P 600’s correlation coefficient climbing to 0.99 over the past three months when compared to the S&P 500 and the S&P 400’s coefficient rising to 0.97, compared with the past year’s 0.94 and 0.90, respectively. Moreover, these figures are meaningfully above the past 10-year levels implying that broader issues are affecting stock price moves and unique bottom-up stories are having far less impact, possibly reflecting the lack of money flows into US equities."
- Commodity prices have become even more highly correlated except for gold. "The CRB index’s coefficient spiked to 0.88 over the last 90 days, sharply above the 0.30-0.35 range seen looking back five and 10 years, most likely being the result of a keen focus on global economic potential. In contrast, gold remains the outlier with an inverse correlation of 0.65 recently, reversing its direct relationship of the last year. Some of this change is probably a sign of fiat currency debasement fears or the ongoing and often heated inflation/deflation debate."
- The trade-weighted dollar has become a tad less impactful to stocks. "While the
dollar’s inverse effect on the MSCI Emerging Market index is now much more inline with historical averages, it has shifted markedly in the past year. But the dollar’s relationship with the VIX volatility index has spiked and is far less sensitive to commodities than may be perceived. Similarly, the greenback’s correlation with 10-year Treasury bonds may not be as high as one might consider at first blush."
- A fix on the VIX is not that critical. "Many tend to see the VIX as the “fear gauge” but one would argue that gold is a defensive investment and thus should have a meaningful relationship with the VIX and that generally has not been the case. In contrast, there is a rising correlation with oil but the relationship with stocks as well as the 10-year Treasury is below levels seen over the past 10 years."
- Small cap stocks correlation has swung wildly. "The S&P 600 index’s correlation data have moved around a fair amount in the last couple of years. Specifically, the dollar is having more impact but in an inverse fashion while maintaining a strong directional relationship with commodities and emerging market stocks. Thus there is very little diversification being achieved when one buys small cap names, emerging markets and commodities even if it is thought of as spreading out across different asset classes."

Citigroup Correlation Quarterly 2010Q3

Bad and good heterogeneity in the euro zone

- "It is well known that heterogeneity between regions (countries in the case of the euro zone) raises problem in a currency area, since the monetary and exchange-rate policy is common."
- "This leads to a desire to limit heterogeneity as much as possible when it is useless, and in particular when it results from economic policy errors: abnormally expansionary fiscal policies, excessive pay rises relative to productivity gains, excess indebtedness and asset price bubbles."
- "However, part of the heterogeneity is a "good" and not a "bad" heterogeneity, i.e. that which results when countries take advantage of their different comparative advantages. So if a country specialises in industry and another in services, the first country will have higher productivity gains and a higher real growth in the long term, which is a problem in a currency area, especially if the degree of federalism is low, due to the divergence of real wages."
- "The issue of the trend in unit wage costs is complicated. Service economies keep an industry; nominal wages in industry converge in a currency area, which leads to a rise in unit wage costs and high inflation in economies primarily based on services if there is wage contagion between industry and services, while this is not an anomaly since it does not reveal a loss of competitiveness in industry. However, the sharper rise in unit costs in industry is an anomaly."

Natixis Flash Economics 377 20100723

A very dangerous situation: Having a high public debt when domestic savings become insufficient

- "The example of Japan shows that a country can have very high public debt if:
• it is financed by domestic savings;
• domestic savers do not demand high returns."
- "Non-resident lenders are normally more demanding in terms of return. This shows that the danger consists in:
• having accumulated a substantial public debt;
• then change over to a situation where domestic savings are no longer sufficient, which requires a sharp increase in long-term interest rates."
- "This may occur in particular because of population ageing, which reduces the household savings rate, and this is a threat for Japan, but also for other countries in the future, such as France, Germany and Italy."

Natixis Flash Economics 376 20100723

Readings

Fed Printing May Create 'Final Crisis': Marc Faber - CNBC
Goldman Details Its Valuations With AIG - Wall Street Journal
German Minister Calls for Bailout Repayment - DealBook
Fed Mulls Symbolic Shift - Wall Street Journal
Options for monetary stimulus - Econbrowser
The biggest lie about U.S. companies - MarketWatch
The Real Reason Banks Aren’t Lending - New Deal 2.0

Italian Big Picture: Almost There

- 2Q10 NII Flattish, But Euribor Rising in 3Q — "2Q results are likely to show still
flattish trend on NII as repricing is limited and Euribor is flat QoQ, with also volume showing limited growth. In July, the 3-month Euribor is rising (+13bp since end of June), and also the Euribor expected curve implied by the forward contract shows an uplift for the first time in the past 2 years, as a result of ECB measures on liquidity. This could possibly result in better trends in 3Q NII."
- Too Early for a Turning Point in Asset Quality — "We expected rising bad debt
provisions QoQ (c110bp on loans in 2Q) and also a worsening of the asset quality, with possibly positions migrating towards worse classes of impaired loans (eg flows from Incagli into Sofferenze). In addition to improving macro, a key variable, to observe in future quarters, would be the potential impact of recoveries."
- Difficult Trading Conditions — "The recent results of European and US investment banks reflected the deterioration in capital markets in 2Q. Trading profits could be under pressure, as well as brokerage commissions."
- Economy Marginally Improving? — "Our Citi economists expect GDP growth of c0.8% in 2011 and 0.9% in 2011. Italian corporates could benefit from a recovery in global trade given their export-oriented activities, but domestic demand could remain weak. Business confidence is recovering and industrial production is up MoM, but consumer confidence is still decreasing."
- Marginally More Positive Long Term on Italy — "2Q results could still show weak
asset quality and flattish NII and also weak trading income. But Italy is one of the few European markets, with France, with limited need of deleveraging, and relies significantly on retail funding. The rise in market rates, recent evidence from lending data and some encouraging macro news (business confidence at 2-year high and rising industrial production), are positive indicators, but asset quality is likely to remain challenging until year end."
- Intesa Top Pick — "Intesa is our top pick given the bank’s higher recurrent profitability, better asset quality, and scope for further cost cutting. ISP’s P&L is geared on rising Euribor and improving macroeconomic conditions in Italy. ISP also has solid funding/balance sheet, and adequate capital position. ISP shares look attractively valued at c1.0x P/TBV vs 1.2x for European sector."
- Updating Estimates and Target Prices — "In this note we increase our target prices to reflect a decrease in the cost of equity, and also update our EPS marginally for the recent industry trends (see data summary table)."
Citigroup Italian Big Picture 20100730

French Big Picture: Banking, Economic and Capital Market Trends – Summer 2010c

- Easing 'big picture' concerns — "French banks performed well through the recent
European stress-tests. French banks still pass after stress-testing sovereign risks on the banking book and using a 6% core Tier 1 hurdle rate. Moreover, the recent Basel 3 guidance eases market concerns over potential risks from NSFR, leverage ratios, and the treatment of financial investments & minority interests."
- French retail resilience — "Although we expect some deceleration through the course of the year, as favourable base effects diminish, we believe that French retail offers relative resilience. Net interest income is being supported by strong sight deposit growth and an improving funding mix, while financial fees & commission benefit from higher market levels. France is one of the few major European markets that is bucking the deleveraging trend."
- Credit Cycle Plays — "French banks are likely to continue to benefit from the turning credit cycle, notably in their wholesale and international books. Based on Moody's data, 2Q10 defaulted volume stood at US$3.5bn, significantly below the 5-year quarterly average of US$32bn."
- A Perfect Storm In Equity Derivatives — "BNP Paribas and SocGen carry amongst the leading equity derivatives franchises globally, a key area of weakness in 2Q10. In this report, we demonstrate the relationship between this business and changes in correlations, dividend expectations and volatility. We believe that this area will be the key 'soft spot' in the forthcoming results."
- Updated Estimates — "We have adjusted forecasts modestly for BNP Paribas (2011E & 12E down 1% and 3% respectively) and SocGen (2011E & 12E down 2% and up 2% respectively). We upgrade our Natixis earnings materially to €0.42 in 2011E (from €0.29) and €0.49 (from €0.38), mainly driven by lower loan loss provisions as Natixis benefits from the significant turn in the wholesale credit cycle, although we remain significantly below consensus (8-14% under). Taking into account a lower cost of equity, we upgrade our price targets for each of BNP Paribas (€62 from €60, 10.8% cost of equity), Natixis (€3.4 from €3.0, 11.2%) and SocGen (€54 from €50, 11.2%)."
- Overweight French Banks, Buy SocGen — "In our recent publication The Bank Strategist, we rated the French banks Overweight and highlighted SocGen as one of our Top 5 European bank picks. The French banks should continue to benefit from a turning credit cycle and relatively resilient pre-provision earnings trends. With the worst of the legacy assets issues behind us, we believe that SocGen remains best-placed to exploit these trends."
Citigroup French Big Picture 20100729

China Autos: A medium-term secular growth story, despite the short-term oversupply risk

- Reviewing our views: "In our report entitled, “Running Low on Fuel,” we noted that: (1) China’s passenger vehicle sector’s (PV) FY10E earnings may surprise on the upside due to stronger-than-expected sales volume and bigger-than-expected operating leverage; (2) China’s passenger vehicle sector boasts of a medium-term secular growth story due to low penetration rate and rising disposable income; (3) in FY10, we favor foreign JVs focusing on the medium-end and above segments over China’s localbranded vehicle producers dominating China’s small car segment because the small car segment may suffer from oversupply risks as early as FY10. Three months later, we find that: (1) the industry profitability in 1H10 is better than expected; and (2) local-branded vehicle producers focusing on the small car segment are suffering from rising inventory and price erosion."
- Key investment risks: "(1) The industry’s fundamentals should worsen on rising oversupply risks in FY11, with China passenger vehicle sector’s demand supply ratio likely to drop from 94% this year to 85% next year. That said, we see a moderation in China PVs’ profitability in FY11, not a collapse in the sector’s margins, which was the case during the 2004/05 downturn because: (a) the government is more strict with the approval of new auto expansion projects; (b) auto producers are more disciplined in terms of producing cars based on market demand; (2) the industry may suffer from rising royalty fee, and the possible introduction of trademark fee as of FY11 by Honda Motor-led foreign OEMs; and (3) possible negative sales growth in 1Q FY10 due to the possible negative wealth effect arising from the slump in China’s property and stock market."
- Earnings, PT and rating changes: "We raise our earnings forecast for DongFeng/Great Wall/Brilliance by 18%/10%/12% for FY10, and raise our Dec-FY10 PT for Great Wall and Brilliance from HK$15.6 and HK$2.8 to HK$16.8 and HK$3.3 respectively. Despite our earnings upgrade, we now apply a 20% discount to our revised DCF value of HK$16.9 to arrive at our Dec FY10E PT for DongFeng of HK$13.5, given the worsening industry fundamentals. We maintain OW on Minth, with a sticky growth track record, and upside from potential M&A activities, and keep Neutral on Great Wall, Brilliance China, but upgrade China PV sectors’ leader DongFeng Motor from Neutral to OW because: (1) its valuation is now more appealing after the correction and earnings upgrade; (2) it has a proven track record in
consistently growing its core earnings during both the upturn and downturn of the cycle; and (3) its defensive growth feature due to its wide range of competitive product flow from its three different strategic partners."
JPMorgan China Autos 20100730

Zero interest rates and liquidity injections

- "Central banks are keeping key intervention rates very low and continuing to buy assets by injecting liquidity."
- "There are two clashing views about the central banks’ stance on this issue:
• a positive view: this policy facilitates the balance sheet restructuring of private economic agents (deleveraging, sales of risky assets, raising capital, etc.), and therefore the return to a normal financial situation;
• a negative view: this policy artificially keeps alive borrowers that in reality are insolvent - and which will become insolvent again as soon as monetary policies are normalised. Moreover, it leads to continued inefficient investments."
- "It is difficult to decide which view is right, as the two types of situation can be seen:
• actual improvement in the balance sheets of companies, households and some countries (Greece, Ireland, etc.); bank provisioning and recapitalisation;
• insolvency situation for some banks, masked by monetary policy (particularly in Spain and the United States). Moreover, the whole banking sector - and perhaps also some countries (United Kingdom) - benefit from the slope of the yield curve; accumulation of bonds at abnormally low interest rates by banks and institutional investors."

Natixis Flash Economics 375 20100722

Different collective preferences: Maintaining a large industrial base in Germany; consuming more in many other euro-zone countries

- "In our opinion, the differences in economic policy options between Germany and other euro-zone countries are understandable, considering that Germany and the other countries have different objectives, related to different collective preferences:
• in Germany, do everything to maintain a large industrial base, exporting and paying high wages;
• in many other countries, try to maintain high growth in consumption, hence in wage income and employment, of whatsoever kind."
- "The wage, fiscal, budget and credit policies of Germany are therefore inevitably different from those in other European countries."

Natixis Flash Economics 374 20100722

How can potential growth be increased in the euro zone?

- "In this Flash we will look at the long-term problem - and not the cyclical problem - of shortfall in potential growth in the euro zone, which is spectacular in a period of population ageing."
- "If long-term growth is to be increased in the euro zone, a number of structural economic policies must be implemented:
• despite the high risk aversion among savers, regulators and wage earners, ensuring that:
1) savings are used for financing of long-term investments, and not "wasted";
2) the financing of social welfare does not choke off growth and investment;
3) wage earners head into the most efficient jobs and sectors;
• reindustrialisation, and development of sophisticated services, to prevent jobs from moving downmarket into unsophisticated services; this raises the issues of the most pertinent sectors, the most efficient methods and countries’ comparative advantages;
• not implementing a "macro-prudential supervision" that kills off growth by imposing useless constraints that eliminate the advantages of monetary and economic unification."

Natixis Flash Economics 373 20100722