CSAM Bob Parker Basis Economic Capital Markets Analysis November 2012

7/29/2019 CSAM Bob Parker Basis Economic Capital Markets Analysis November 2012

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Robert Parker, Head – Strategic Advisory GroupNovember 2012

Economic & Capital Market Analysis

& Investment Strategy



Key capital market questions

Economic, Policy & Political Issues:-

After 2% annualised growth in 3Q12, can US growth momentum be maintained and what arethe risks of the “fiscal cliff” driving the US back into recession?

To what extent has Northern Europe and Germany slowed down and what will be the pace andtiming of recovery?

How long and how deep will the recessions be in the European bailout countries and Spain and

Italy?How vulnerable is France to recession?

Will Japan experience a long-term trend period of mediocre growth?

After 7.4% yoy growth in China in 3Q12, can growth move back towards 8% annualised?

Elsewhere in the BRICS, will reform programmes lead to a recovery in Indian growth back toabove 6%, can monetary and fiscal easing in Brazil result in growth recovering back to 4% and

are estimates of Russian growth slowing to 3% too pessimistic? To what extent is labour unresthurting South Africa?

Given the extent of QE from major Central Banks, will (and when) inflation pick-up and if so,what will the pace of price acceleration be?

2/56 Asset Management, Robert Parker




Policy & Political Issues:-

How will the Federal Reserve QE3 programme progress and what will the impact be on US growthand does it represent an “insurance policy” against the fiscal cliff?

In the Eurozone, will Greece obtain an extension to the conditions of its bailout, will Portugal needfurther funding and is the Irish programme on track?

Are the Spanish and Italian governments correct in saying that they do not need to access bailout

funds via the ESM and the ECB/OMT programme?Will Brazil and China continue to ease fiscal and monetary policy, is Indian fiscal policy viable andcan Russia avoid budget deficits?

Is the period of risk to the Chinese economy from the leadership change now over?

To what extent will Japanese political gridlock prevent any action in dealing with the deficit and debtlevels and the need to re-accelerate the economy?

Will political risk in Asia impact on markets?Will the political situation in the Middle East deteriorate and impact the oil price?





Capital Markets Issues:-

Although G4 10-year government bond yields have risen slightly, yields are still near historic lowsand what is the risk of a market sell-off?

Will the improvement in Eurozone government bond spreads continue and to what extent aremarkets discounting positive progress on resolving Eurozone problems?

Is the spread compression in corporate, high yield and emerging debt markets sustainable?

Will FX market stability persist with low levels of volatility and will the emerging currencies benefitfrom Central Bank QE programmes?

How vulnerable is the US dollar in the event of the fiscal cliff occurring?

Can the overvaluation of the commodity linked currencies persist?

After the sideways movement in equity markets in September/October, will markets now recover and what are the downside risks?

How should equity strategy be positioned by region, sector, capitalisation and risk?Will the recent moderation in commodity prices continue and how vulnerable is the oil price to eventsin the Middle East and precious metals prices to further labour unrest in South Africa?




-3.0

-2.0

-1.0

0

1.0

2.0

3.0

4.0

5.0

6.0

Jan 98 Jan 00 Jan 02 Jan 04 Jan 06 Jan 08 Jan 10 Jan 12

30

35

40

45

50

55

60

World GDP Global PMI Manufacturing (rhs)

% YoY, PPP-weighted Index

Global GDP growth & global manufacturing PMI

Last data point: 28.10.2012 Source: Bloomberg, Datastream, IMF, PMIPremium, Credit Suisse / IDC


Historical performance indications and financial market scenarios are no guarantee for current or future performance.



25

30

35

40

45

50

55

60

65


China Eurozone UK Japan USA

Index

China, Eurozone, UK, Japan, US PMI

Last data point: 31.10.2012 Source: Bloomberg, Credit Suisse / IDC





-10

-8

-6

-4

-2

0

2

U K

I n d i a

J a p a n

B r a z i l

U S A

E u r o A r e a

C h i n a

R u

s s i a n

F e d

e r a t i o n

Budget balance as % of GDP

% of GDP

Budget balance as % of GDP(BRIC, Japan, Euro Area, UK, USA)

Last data point: 30.06.2012 Source: Datastream, Credit Suisse / IDC




-40

-20

0

20

40

60

80

100

May 96 May 98 May 00 May 02 May 04 May 06 May 08 May 10 May 12

Net percentage of US respondents tightening standards for commercial & industrial loans (Fed survey)

Net percentage of Eurozone respondents tightening standards for commercial & industrial loans (ECB survey)

%

Lending conditions: balance of US and EU bankstightening standards





US - consumption - consumer confidence indexes

20

40

60

80

100

120

140

160

Jan 00 Jan 02 Jan 04 Jan 06 Jan 08 Jan 10 Jan 12

50

60

70

80

90

100

110

120

US Consumer Confidence, Conference Board US University of Michigan Consumer Confidence Index, rhs

Source: Bloomberg, Credit Suisse / IDC




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Trade balance: excluding China, ex. petroleum

Last data point: 31.08.2012 Source: Bloomberg, Datastream, Credit Suisse / IDC

-80

-70

-60

-50

-40-30

-20

-10

0

10

Feb 94 Feb 96 Feb 98 Feb 00 Feb 02 Feb 04 Feb 06 Feb 08 Feb 10 Feb 12

Trade balance Trade balance ex. China Trade balance ex. China ex. petroleum

USD bn

Asset Management, Robert Parker




400

600

800

1'000

1'200

1'400

1'600

1'800

2'000

2'200

Sep 84 Sep 88 Sep 92 Sep 96 Sep 00 Sep 04 Sep 08 Sep 12

-10

-5

0

5

10

15

Housing starts US House Price growth YoY (FHFA index) (rhs)

Units in '000 % YoY

US housing starts and house price growth

Strong correlation between house price growth and home building activity.






US non-financial corporates: cash / assets

Last data point: 29/06/2012; Value: Non-financial

corporate sector: cash/total assets: 4.43%; Source: Datastream, Credit Suisse / IDC

2.0

2.5

3.0

3.5

4.0

4.5

5.0

5.5

1955 1961 1967 1973 1979 1985 1991 1997 2003 2009

in % Non-financial corporate sector: cash/total assets




The “Fiscal cliff”: US austerity legally due in 2013

Revenue policies (USD bn) 399Income, estate & gift tax provisions 221

Payroll tax 95

Affordable Care Act 18

Other 65Spending policies 103 Budget sequestration 65

Emergency unemployment benefit 26

Medicare 11Policies, not specified 105

Total 607

Source: CBO, Credit Suisse




-8

-6

-4

-2

0

2

4

6

Mar 00 Mar 02 Mar 04 Mar 06 Mar 08 Mar 10

EMU France Germany Spain Italy

GDP, % YoY

EMU growth comparison





7.0

7.5

8.0

8.5

9.0

9.5

10.0

10.5

11.0

11.5


68

70

72

74

76

78

80

82

84

86

EMU Unemployment rate Industrial capacity utilization (rhs)

in % in %

EMU unemployment and industrial capacity utilisation





Germany manufacturing production vs. PMI new orders

20

25

30

35

40

45

50

55

60

65

-50%

-40%

-30%

-20%

-10%

0%

10%

20%

2006 2007 2008 2009 2010 2011 2012

Index

Manufact.prod., lhs

PMI neworders,rhs

3m / 3m movingavg, annualised

Last data point: Manufacturing Production: 15/08/2012; Value: 2.72;

German PMI new orders (rhs): 15/09/2012; Value: 43.37; Source: Datastream, PMIPremium, Credit Suisse / IDC





Adjustment in the periphery

-17%

-13%

-9%

-5%

-1%

3%

2000 2001 2002 2003 2004 2005 2007 2008 2009 2010 2011

Ital

Greece

PortugalSpain

% of GDP, seasonally

adj. 6mma, inverted

Current account deficit

Last data point: 15/07/2012 Source: Datastream, Credit Suisse

40

90

140

190

20 18 16 14 12 10 8 6 4 2 0 2 4 6 8 10

Years after peak Years before peak

Price index House prices (inflation adjusted)

Average price levelbefore peak = 100

Spain, peak:

Feb 2007

Ireland, peak:

Feb 2007

Greece, peak:

Aug 2007

Source: Datastream, Credit Suisse




-20

-15

-10

-5

0

5

10

15

20

Mar 99 Mar 01 Mar 03 Mar 05 Mar 07 Mar 09 Mar 11

BRIC industrial production G3 industrial production

% YoY, 3mma

G3 industrial production vs. BRIC industrial production





-30

-20

-10

0

10

20

30

40

50

Jan 95 Jan 97 Jan 99 Jan 01 Jan 03 Jan 05 Jan 07 Jan 09 Jan 11

BRIC Exports G3 Exports

% YoY (GDP PPP Weighted)

Exports: BRIC vs. G3

Last data point: 15.09.2012 Source: Bloomberg, Datastream, IMF, Credit Suisse / IDC




-15

-10

-5

0

5

10

15

20

Mar 04 Mar 05 Mar 06 Mar 07 Mar 08 Mar 09 Mar 10 Mar 11 Mar 12

US China

Retail sales, % YoY, 3M MA

Global - consumption - China and US real retail salesgrowth





0

5

10

15

20

25


China lending rate, 1Y China deposit rate, 1Y China reserve requirement ratio

%

China interest rates and reserve requirement ratios






Country / region 2011 2012 2013 2011 2012 2013 Country / region 2011 2012 2013 2011 2012 2013

Global 3.8 3.1 3.5 4.0 3.1 3.0 Non-Japan Asia 7.3 6.2 6.5 5.7 4.0 4.0

G-3 1.4 1.2 1.3 2.5 1.9 1.8 China 9.2 7.6 7.6 5.4 3.0 3.2

BRIC 7.4 6.1 6.7 6.6 4.5 4.6 Hong Kong 5.0 1.1 3.3 5.3 4.3 4.0

EM-8 7.1 5.8 6.3 5.9 4.5 4.5 India (fiscal year) 6.8 6.0 7.0 8.7 7.5 7.0

USA 1.8 2.1 2.2 3.2 2.1 2.1 Indonesia 6.5 6.3 6.5 5.4 4.5 6.1

Canada 2.4 2.3 2.3 3.0 2.1 2.3 South Korea 3.6 2.4 3.2 4.0 2.7 3.1

Eurozone 1.7 -0.4 0.2 2.7 2.4 2.2 Singapore 5.0 1.7 3.2 5.2 4.5 3.4

Germany 3.0 0.8 1.2 2.5 2.0 1.8 Thailand 0.1 5.6 4.6 3.8 3.2 3.8

Italy 0.9 -2.4 -0.4 2.9 3.3 2.8 CEE & Russia 4.8 2.7 3.3 6.7 5.4 5.8

France 1.7 0.2 0.3 2.3 2.2 1.7 Poland 4.3 2.4 2.3 4.3 3.8 2.8

Spain 0.8 -1.4 -1.5 3.1 2.5 2.8 Russia 4.3 3.5 3.6 8.5 5.2 6.5

United Kingdom 0.9 -0.5 1.0 4.5 2.6 2.0 Turkey 8.5 3.0 4.5 6.5 9.0 7.1

Norway 1.5 3.8 2.2 1.3 0.6 1.8 Latin America 4.4 3.1 3.8 6.7 6.0 6.4

Sweden 4.0 1.6 1.9 2.8 1.3 1.8 Argentina 8.9 2.7 3.5 9.9 9.8 11.0

Switzerland 1.9 0.5 1.5 0.2 -0.3 1.0 Brazil 2.7 1.6 4.0 6.6 5.2 5.3

Japan-Pacific -0.3 2.3 1.5 0.5 0.3 0.2 Mexico 3.9 3.8 3.2 3.4 4.0 3.9

Japan -0.8 2.0 1.2 -0.2 0.0 -0.4 Middle East & Africa 5.2 4.2 4.1 6.5 6.2 5.5

Australia 2.0 3.5 2.8 3.5 1.8 2.7 GCC 7.0 5.0 3.9 4.2 3.8 3.5

New Zealand 1.8 2.7 2.9 4.2 1.4 2.5 South Africa 3.1 2.6 3.2 5.0 5.6 5.3

G-3: EMU, Japan, USA. EM-8: Brazil, China, India, Indonesia, South Korea, Mexico, Turkey and South Africa.

GCC: Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, UAE. Regional figures are PPP-weighted.

Source: Credit Suisse

Inflation GDP InflationGDP

Forecast table GDP and inflation

As of 23.10.2012 Source: Bloomberg, Datastream, Credit Suisse / IDC




-3.0

-2.0

-1.0

0

1.0

2.0

3.0

4.0

5.0

6.0

Jan 00 Jan 02 Jan 04 Jan 06 Jan 08 Jan 10 Jan 12

EMU CPI JP CPI US CPI CH CPI

% YoY

Global CPI





50

100

150

200

250

300

350

400

450

500

Jan 07 Jan 08 Jan 09 Jan 10 Jan 11 Jan 12

ECB Fed BoE BoJ SNB

central bank assets, indexed, 01.01.2007 = 100

Central bank balance sheets





ECB outright monetary transactions

Unlimited buying of short bonds

Country must accept conditionality

No explicit rate target or timing

Pari passu with private sector

Fully sterilised




ECB deposits

0

100

200

300

400

500

600

700

800

900

Jan 08 Jul 08 Jan 09 Jul 09 Jan 10 Jul 10 Jan 11 Jul 11 Jan 12 Jul 12

ECB deposit facility30day moving average

EUR bn

OMT

announced

ECB depositrate cut to zero

Last data point: 21/10/2012; Value: 256.45; Source: Bloomberg, Credit Suisse / IDC





Eurozone cost of credit

1

2

3

4

5

6

7

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Euroarea

GreecePortugal

Spain

% Interest rate on short term loans up to EUR 1m tonon-financial corprorates less ECB repo rate

Last data point: 15/08/2012 Source: Datastream, Credit Suisse





EUR financial vs. industrial credit spreads

0

100

200

300

400

500

600

2000 2002 2004 2006 2008 2010 2012

in bp EU credit spreads

Financials(avg: 123 bp)

Industrials(avg: 126bp)

Last data point: 22/10/2012; Value: Financials: 161.2; Industrials: 130.2; Source: Bloomberg, Clariden Leu / IDC





0

0.5

1.0

1.5

2.0

2.5

Oct 11 Dec 11 Feb 12 Apr 12 Jun 12 Aug 12

US EMU Switzerland UK

%

10Y government bond yield

Last data point: 30.10.2012Source: Datastream, Credit Suisse / IDC




0

200

400

600

800

1'000

1'200

1'400

1'600


Austria Germany Hungary Italy Ireland UK USA Portugal

in bp

CDS spread selected EU governments vs. USA & UK






-10

0

10

20

30

40

50

S E K

G B P

U S D

E U R

N O K

J P Y

C H F

C A D

N Z D

A U D

30-Oct-12

Expensive

Cheap

Deviation in %

Fair value (FV) deviation in % vs. TWI

Last data point: 30.10.2012 Source: Bloomberg, Bank of England, IMF, Credit Suisse / IDC





Emerging market currencies vs. USD over last 5 years

60

70

80

90

100

110

120

130

140

150

80

85

90

95

100

105

110

115

120

125

Nov 07 Aug 08 May 09 Feb 10 Nov 10 Aug 11 May 12

Appreciationvs. USD

Depreciation

vs. USD

Index Index

CNY (lhs)

Asiabasket(lhs)

BRL (rhs)

Last data point: 22/10/2012; Value: Asia (IDR, INR, KRW, MYR & SGD)/USD: 96.63; Source: Bloomberg, Credit Suisse / IDC





-30

-20

-10

0

10

20

30

40

P L N

B R L

S E K

H U F

M X N

R U B

I N R

A R S

N O K

T R Y

C Z K

T H B

M Y R

E U R

C A D

K R W

C N Y

I D R

I L S

S G D

Z A R

C H F

T W D

H K D

G B P

P H P

J P Y

A U D

N Z D

12M carry 12M expected spot return 12M expected total return

expected 12M total return in % vs. USD

Global FX expected 12M total return

As of 30.10.2012 Source: Bloomberg, Credit Suisse / IDC


Target return is no projection, prediction or guarantee for future performance, and there is no certainty that the target return will be reached



34/56IDC

Performance - main equity indices


-2

0

2

4

6

8

10

12

14

16

S&P 500 MSCI World SMI STOXX Europe

600

MSCI Emerging

Markets

EURO STOXX

50

FTSE 100

YTD current month

in %





-8

-6

-4

-2

0

2

4

6

Dec 08 Jun 09 Dec 09 Jun 10 Dec 10 Jun 11 Dec 11 Jun 12

Euphoria

Panic

CS risk appetite

Last data point: 26.10.2012 Source: Credit Suisse / IDC




1.00

1.10

1.20

1.30

1.40

1.50

1.60

1.70

1.80


Defensive to Cyclical ratio

Defensives Outperforming

Global defensives to cyclicals ratio





5

10

15

20

25

30

Jan 90 Jan 94 Jan 98 Jan 02 Jan 06 Jan 10

MSCI World Average +/- 1 Standard Deviation

12-month forward P/E

12-month forward P/E - MSCI World

Last data point: 26.10.2012Source: Datastream, Credit Suisse / IDC





Valuations by region

[13.1]

[10.2]

[11.4]

[13.1]

[10.1]

[12.3]

[10.6]

[11.3]

0.5 0.6 0.7 0.8 0.9 1.0 1.1

Switzerland

Emerging markets

APAC ex Japan

US

Eurozone

World

UK

Japan

12 month forward Price-Earnings ratio relative to 10 year average (12 month

forward PE ratio in brackets)

P/E ratio below10yr average

P/E ratio above10yr average

Last data point: 22/10/2012 Source: Datastream, Credit Suisse / IDC





-4

-2

0

2

4

6

8

Feb 99 Feb 01 Feb 03 Feb 05 Feb 07 Feb 09 Feb 11

US equity yield less corporate bond yield US equity yield less 10y treasury yield

%

US forward equity yield less corporate and governmentbond yields






40/56IDC

Dow Jones relative to gold


0

5

10

15

20

25

30

35

40

45

20 28 36 44 52 60 68 76 84 92 00 08

Ratio of Dow Jones to gold price Average 1+ STD 1- STD





41/56IDC

MSCI World - sector level performance table


MSCI World - Sector level perf. 30.10.2012

Return

(1m, %)Return Rank

(1m)

Return

(3m, %)Return Rank

(3m)

Return

(12m, %)Return Rank

(12m)

MSCI World, $ -0.7 3.9 3.8

Financials 1.9 1 9.1 1 6.0 4

Healthcare 0.3 2 4.8 3 15.3 1

Utilities 0.2 3 1.4 7 -4.2 9Materials 0.0 4 7.3 2 -8.2 10

Industrials -0.1 5 3.0 5 2.1 6

Cons. Stap. -0.6 6 0.7 8 9.9 2

Cons. Disc. -0.6 7 4.3 4 7.6 3

Energy -1.1 8 2.5 6 -3.7 8

Telecoms -4.4 9 -1.5 10 -2.1 7

I.T. -5.3 10 0.3 9 3.5 5





42/56IDC

MSCI World sector PEs


10.0 11.0 12.0 13.0 14.0 15.0 16.0

MSCI World Cons Discr

MSCI World Cons Staples

MSCI World Energy

MSCI World Financials

MSCI World Health Care

MSCI World Industrials

MSCI World IT

MSCI World Materials

MSCI World T/cm Svs

MSCI World Utilities

12M forward P/E 5Y average 12M forward P/E




Source: Credit Suisse, DataStream

Quality high dividend payers have outperformed

40

80

120

160

200

240

Aug-07 Aug-08 Aug-09 Aug-10 Aug-11 Aug-12

Defensive Dividends MSCI World (Developed)

Dynamic Dividends APAC Top 25 High Dividends

EM Dividends





Price earnings ratio

5

10

15

20

25

1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012

12-month forward P/E

Developed

Emerging

EM average

DM average

Last data point: 22/10/2012; Value: MSCI World (developed

markets): 12.31; MSCI Emerging Markets: 10.18; Source: Datastream, Credit Suisse / IDC





45/56IDC

12M forward price-to-earnings multiple


4

6

8

10

12

14

16

18

M E X I C

O

T A I W A

N

I N D O N E S

I A

I N D

I A

S O U T H A F R I C

A

P O L A N

D

T U R K E

Y

B R A Z

I L

C H I N

A

H U N G A R

Y

K O R E

A

E G Y P T

R U S S

I A

12M forward price-to-earnings multiple





0

50

100

150

200

250


CSCB Energy Index CSCB Precious Metals Index CSCB Agriculture Index CSCB Industrial Metals Index

Index, January 2008 = 100

Credit Suisse Commodity Indices






20

40

60

80

100

120

140

Oct 09 Feb 10 Jun 10 Oct 10 Feb 11 Jun 11 Oct 11 Feb 12 Jun 12 Oct 12

0

60

120

180

240

300

360

Net speculative long position (rhs) WTI crude oil price

USD/bbl 000 contracts

WTI crude oil vs. speculative net longs

Speculative long positions in WTI crude are up. Nevertheless, prices retraced after testing the USD 100

mark.






0

100

200

300

400

500

600

Oct 10 Feb 11 Jun 11 Oct 11 Feb 12 Jun 12 Oct 12

5'000

6'000

7'000

8'000

9'000

10'000

11'000

LME copper inventories LME 3M copper forward price (rhs)

in kt USD/MT

Copper price vs. inventories

Awaiting substantial improvements in end-user demand, copper prices were unable to hold beyondthe USD 8000 level.






700

850

1'000

1'150

1'300

1'450

1'600

1'750

1'900

2'050

Oct 09 Feb 10 Jun 10 Oct 10 Feb 11 Jun 11 Oct 11 Feb 12 Jun 12 Oct 12

75

100

125

150

175

200

225

250

275

300

Net speculative position (rhs) Gold price

USD/oz 000 contracts

Gold price vs. speculative net longs






Commodity fair value


-3.0

-2.0

-1.0

0

1.0

2.0

3.0

N i c k e l

C o t t o

n

G a s o l i n

e

A l u m i n u m

C o p p e

r

S u g a

r

P l a t i n u m

P a l l a d i u m Z i n

c

G o l d

C o c o

a

L e a

d

W T I C r u d e o

i l

T i n

C o f f e

e

I r o n O r e

*

B r e n t C r u d e o

i l

S o y b e a

n

S i l v e

r

W h e a t

C o r

n

16-Oct-12 -1 Stdev +1 Stdev

Deviation from fair value in number of standard deviations

Overvalued

Undervalued

* No Fair Value for Iron Ore. Data shows deviation of real prices from long-term average





Conclusions

51/56

Economic & Policy Conclusions:-

The Central case is that the US fiscal cliff is delayed until mid 2013 and that a medium-termfiscal plan is agreed irrespective of the winner of the Presidential election, broadly in line with theSimpson–Bowles recommendations, implying a fiscal tightening in 2013 of approximately 1%,implying a growth rate of close to 2%.

If the fiscal cliff does occur (a 20% probability), then inevitably the US economy will contract at a2%+ annualised rate in 1H13 and there is a serious risk of a further US credit downgrade.

Under any scenario, monetary policy will remain exceptionally easy, with the Fed Funds Ratestaying at 0-2 bps for at least 2013 and thereafter, any increase in the Funds rate will lag a pickup in economic activity and inflation. The Federal Reserve QE3 policy will persist for 1H13 andthe Fed balance could expand from the current US$ 2.9trn to around US$3.3trn by 2Q13.

As demonstrated by the improvement in German wages growth, Northern European demandshould improve and with export market shares being maintained and investment spending

improving, German growth should recover to above 1.5% during 2H13 with an associatedincrease in Northern European growth.




Conclusions

52/56


Although there has been a clear improvement in European bank funding with dependence on the

ECB decreasing, there is a high probability that Spain, faced by continued restructuring of itsbanks, problems with regional deficits, the difficulty of achieving its budget targets andentrenched recession, will apply for assistance via the ESM (in the primary market) and the ECB(in the secondary market) in its sovereign bond market. Given the improvement in the Italianbudget position, a bailout programme for Italy is unlikely and Italy should emerge from recessionin mid 2013. Given the challenge to France of reducing its budget deficit and improvingcompetitiveness, French growth may undershoot in the near-term and will certainly lag Germany.

The bailout programme is clearly working in Ireland and Portugal is close to achieving itsprogramme targets. Greece will have to be given a 1-2 year delay and unless public sector creditors accept write-offs, Greece will not achieve its debt/GDP targets. It remains a highprobability that Greece may have to leave the Eurozone in 2014.

ECB policy is likely to keep its Reference Rate at 75 bps, but with the LTRO providing liquidity tobanks as necessary and along with the OMT, this will provide a backstop to sovereign markets. It

is assumed that although the fiscal pact within the Eurozone is intact, some leeway will be givento Spain and Greece in achieving their targets and given the correct perception that bothcountries are in a “debt trap”, that additional austerity measures will compound recessionarytrends. It is therefore premature to forecast a cohesive banking union and Eurobonds areunlikely to be issued by the EU to support weaker countries, although the EIB will continue itsactive borrowing/issuing programme and the ESM will employ limited leverage.




Conclusions

53/56


Given the overvaluation of the Yen, corporate investment outside Japan, weak domesticspending, the troubled energy sector, political gridlock and the lack of progress in dealing withthe deficit and debt levels, Japanese growth will be mediocre at close to 1% for the foreseeablefuture. However, BoJ QE will become more active in the loan market.

Brazilian and Chinese monetary and fiscal policies will be eased further, resulting in Braziliangrowth reaching 4% and annualising by 2Q13, while Chinese growth should recover to close to8% annualised by 1Q13. However, given the problem of elevated inflation, any easing in Indianmonetary policy will be slow and the programme of budget deficit reduction will be difficult toachieve. Assuming that fiscal policy is stable in Russia, economic data will be robust, withgrowth reaching 4% annualised.

Slow monetary velocity should progressively pick-up and capacity utilisation will slowly erode,implying that global inflation although muted in early 2013, will progressively pick up in 2H13.

Developed economy inflation could exceed 3% yoy in 2H13.




Conclusions

54/56

Market & Investment Conclusions:-

The trend increase in G4 bond yields will be moderate in 1H13, with yield upside constrained bythe sluggish recovery and the impact of QE. However, as inflationary expectations deteriorate in2H13, yield upside may accelerate. JGBs are vulnerable to reduced domestic savings and aswitching by the banks from JGB holdings into financing corporates outside Japan.

Corporate risk /reward will remain favourable, with default rates low and current narrow spreadlevels should be maintained in corporate and emerging debt markets.

2-year Italian yields are now close to 2% and Spanish yields are less than 3%. These levelsshould be maintained, assuming that Italian budget progress continues, while Spain activating theOMT programme could result in yields declining a further 50 bps. Greek yields will trade for 10-year paper between 15-20 %, while other Eurozone yields will be relatively stable. It ispremature to call a sell-off in the French market.

Foreign exchange market volatility will remain low, except if the US fiscal cliff occurs, in which

case a significant dollar sell-off will develop. The Euro, on the central case, will trade for the next6 months in a range of 1.25-1.35 with a bias towards the upper end of this range, while the Yenshould reverse to 82. The commodity currencies will experience modest downside from their current overvalued levels with, e.g., the Australian dollar reversing to parity. The Swiss franc willhold against the Euro in a range of 1.20-1.22.

QE3 should benefit the emerging currencies, which will appreciate on trend.




Conclusions

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Market & Investment Conclusions:-

Equity markets will remain nervous in November and December given the risks to markets fromthe fiscal cliff; in addition, poor corporate results in 3Q12 have discouraged investors who willremain defensively positioned in the near-term. However, assuming that the fiscal cliff is at leastpartly resolved, that growth holds at 2% in the US, that growth improves in China, NorthernEurope and Brazil with a trend, albeit modest, recovery in corporate profits, then equity markets

should improve in 1Q13, with equities outperforming other asset classes. Amongst equity markets, risk management argues for positions to focus on large cap North American/North European higher dividend sectors, but with positions being built in undervaluedemerging markets, viz China, Korea, Brazil and Russia. Although valuations are more elevated,the strong economic and corporate outlook justifies continuing holding South East Asianpositions.

Oil prices will drift US$5-10pb lower, assuming no major escalation in the Middle East. Softcommodity prices and precious metals are going through a 3-month downward correction, butindustrial metals should improve in early 2013 from a recovery in Chinese demand.




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CSAM Bob Parker Basis Economic Capital Markets Analysis November 2012