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GIC ABROAD IN IRELAND Martin Barnes Managing Editor Bank Credit Analyst Dublin, Ireland May 2007 • Financial Accidents • U.S. Housing • Geopolitics • Oil • Equity valuations are reasonable • Growth is better balanced globally • Liquidity is plentiful for financial assets • Inflation is low Ann% Chg 14 10 * SHOWN AS A 5-YEAR MOVING AVERAGE; SOURCE: IMF **EXCLUDING FOOD AND ENERGY; SOURCE: OECD 3 2 1 6 2 © BCA Research 2007 20 10 20 10 8 0 8 6 4 6 4 © BCA Research 2007
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Martin BarnesManaging EditorBank Credit Analyst
GLOBAL STOCK MARKETS, VALUATION AND OUTLOOK
Dublin, IrelandMay 2007
GIC ABROAD IN IRELAND
THINGS TO WORRY ABOUT
• Geopolitics
• Oil
• U.S. Housing
• Trade Imbalances
• Financial Accidents
THINGS TO BE REASSURED ABOUT
• Growth is better balanced globally
• Inflation is low
• Corporate sector finances are healthy
• Liquidity is plentiful for financial assets
• Equity valuations are reasonable
GOOD GROWTH AND LOW INFLATION
© BCA Research 2007
3
2
1
1975 1980 1985 1990 1995 2000 2005
14
10
6
2
GLOBALREAL PER CAPITA GDP* (LS)CORE** CONSUMER PRICES (RS)
Ann%Chg
* SHOWN AS A 5-YEAR MOVING AVERAGE; SOURCE: IMF**EXCLUDING FOOD AND ENERGY; SOURCE: OECD
Ann%Chg
A FAVORABLE MONETARY ENVIRONMENT
© BCA Research 2007
20
10
0
1996 1998 2000 2002 2004 2006
20
10
0
8
6
4
8
6
4GLOBAL FOREIGN EXCHANGE RESERVES
G7 BROAD MONEY GROWTH
Ann%Chg
Ann%Chg
Ann%Chg
Ann%Chg
AN EARNINGS-DRIVEN BULL MARKET
© BCA Research 2007
2.5
2.0
1.5
1.0
1994 1996 1998 2000 2002 2004 2006
2.5
2.0
1.5
1.0
MSCI GLOBAL EQUITY PRICE INDEX*GLOBAL EARNINGS**
*SOURCE: MORGAN STANLEY CAPITAL INTERNATIONAL; INDEXED TO 1 IN MARCH 2003**INDEXED TO 1 IN MARCH 2003
MARKET PERFORMANCES AND VALUATIONS HAVE CONVERGED
© BCA Research 2007
50
40
30
20
1998 2000 2002 2004 2006
50
40
30
20
60
40
20
60
40
20
STANDARD DEVIATION OF GLOBAL P/E RATIOS**
DISPERSION OF GLOBAL EQUITY MARKET RETURNS*% %
* MAXIMUM MONTHLY RETURN MINUS MINIMUM; INCLUDES 24 MARKETS**STANDARD DEVIATION OF 12-MONTH FORWARD PERs FOR 24 MARKETS
% %
RELATIVE STOCK PERFORMANCE
© BCA Research 2007
.42
.40
.38
.36
.34
.32
2003 2005 2007
.42
.40
.38
.36
.34
.32
1.1
1.0
.9
1.1
1.0
.9
JAPAN/WORLD
RELATIVE STOCK PRICES:U.S./WORLD
TWO BIG LOSERS
.16
.14
.12
.10
2003 2005 2007
.16
.14
.12
.10
1.5
1.4
1.3
1.2
1.5
1.4
1.3
1.2
EMERGING MARKETS/WORLD
RELATIVE STOCK PRICES:EMU/WORLD
TWO BIG WINNERS
VALUATIONS ARE REASONABLE EVERYWHERE
© BCA Research 2007
24
20
16
12
2000 2002 2004 2006
24
20
16
12
24
20
16
24
20
16
EMU
12-MONTH FORWARD P/E:
U.S.
SOURCE: THOMSON FINANCIAL / IBES
16
12
82000 2002 2004 2006
16
12
8
40
30
20
40
30
20
EMERGING MARKETS
12-MONTH FORWARD P/E:JAPAN
EQUITIES ARE ATTRACTIVE VERSUS BONDS
© BCA Research 2007
2
1
0
-1
-21990 1992 1994 1996 1998 2000 2002 2004 2006
2
1
0
-1
-2
8
6
4
2
8
6
4
2
STOCKS EXPENSIVE
STOCKS INEXPENSIVE
GLOBAL EARNINGS YIELD RATIO*
REAL G7 10-YEAR BOND YIELDGLOBAL FORWARD EARNINGS YIELD
% %
* REAL G7 10-YEAR BOND YIELD MINUS GLOBAL FORWARD EARNINGS YIELD; STANDARDIZED
THREE PILLARS OF THE U.S. EQUITY BULL MARKET
© BCA Research 2007
605040
1980 1985 1990 1995 2000 2005
605040
1210 8
1210 8
8642
8642
HOUSEHOLD EQUITIES AS A % OF PORTFOLIOS
AFTER-TAX CORPORATE PROFITS AS A % OF GDP
CORE* PCE INFLATION
* CORE EXCLUDES FOOD AND ENERGY
Ann%Chg
Ann%Chg
% %
% %
DECOMPOSING EQUITY MARKET RETURNS
Historical Average 1950-95
Past Decade
1996-2006
Optimistic Scenario*2006-16
Status quo Scenario**
2006-16
Bear Scenario***
2006-16
Average Annual % Change
* Assumes that the forward price-earnings ratio rises to 18 over the period
** Assumes that the price-earnings ratio remains at its current level near 15.
*** Assumes that the price-earnings ratio falls to 12 over the period.
Nominal GDPEarnings+ Valuation change= Growth in S&P 500+ Reinvested dividends= Total equity
returnsInflation (CPI)Real returns
7.66.72.3
9.0
4.2
13.2
4.28.6
5.49.00.8
9.8
1.8
11.6
2.68.8
5.05.02.0
7.0
1.8
8.8
2.06.7
5.04.50.0
4.5
1.8
6.3
2.04.2
5.04.0
-2.0
2.0
1.8
3.8
2.01.8
TIGHTER MONEY LEADS TO LOWER EQUITY MULTIPLES
18
14
10
6
21965 1975 1985 1995 2005
18
14
10
6
2
30
20
10
30
20
10
FED FUNDS RATE% %
S&P 500 P/E RATIO BASED ON OPERATING EARNINGS
NOTE: SHADING DENOTES PERIODS OF RISING FED FUNDS RATE
© BCA Research 2007
EQUITY PERFORMANCE AND PROFIT MARGINS: NOT WHAT YOU WOULD EXPECT
© BCA Research 2007
20
16
12
1982 1986 1990 1994 1998 2002 2006
20
16
12
30
20
10
30
20
10
1200 800 400 200
1200 800 400 200
TOTAL PRE-TAX ADJUSTED* PROFITS AS A % OF CORPORATE SECTOR GDP
%
S&P 500 P/E RATIO BASED ON OPERATING EARNINGS
S&P 500 INDEX
*ADJUSTMENTS INCLUDE INVENTORY VALUATION AND DEPRECIATION NOTE: SHADED AREAS CORRESPOND TO FALLING PROFIT MARGINS
%
Multiples have risen when margins contracted
CEOs FAVORING STOCKS
© BCA Research 2007
500
0
-500
1990 1992 1994 1996 1998 2000 2002 2004 2006
500
0
-500
U.S.:NET EQUITY ISSUANCENET CORPORATE BOND ISSUANCE
Bn$ Bn$
NOTE: ALL SERIES BASED ON THE NON-FINANCIAL AND FINANCIAL CORPORATE SECTORS
PRIVATE EQUITY AND M&A ARE ON THE RISE IN EMERGING MARKETS TOO
© BCA Research 2007
800
600
400
200
2004 2005 2006 2007
140
120
100
80
60
40
GLOBAL M&A AND PRIVATE EQUITY FLOWS TO:
G7 (LS)EMERGING MARKETS (RS)
BnUS$
BnUS$
EMERGING MARKETS EQUITY WEIGHT WILL GROW
© BCA Research 2007
20
15
10
5
1990 1995 2000 2005
20
15
10
5
EMERGING MARKET MARKET CAP AS A % OF GLOBAL*EMERGING MARKET GDP AS A % OF GLOBAL**
% %
* SOURCE: DATASTREAM**SOURCE: IMF
EMERGING MARKETS: EQUITY FACTOR RANKING*
Potential leaders
Solid gains to be expected
Potential laggards
BRAZIL
INDONESIATURKEY
POLAND
HUNGARYKOREA
THAILANDCHINA
PHILIPPINESTAIWAN
MALAYSIA
ARGENTINACHILE
MEXICORUSSIA
CZECH
S. AFRICAINDIA
11
10
9
8
7
6
5
* BASED ON A COMBINATION OF VALUATION, GROWTH, LIQUIDITY AND MOMENTUM
MARKET ATTRACTIVENESS SCORES
ValuationEarnings potential Liquidity Total
Emerging Markets 2 3 3 8
Japan 3 0 1 4
Euro Area 2 -2 0 1
U.S. 0 1 -2 -1
U.K. 1 -1 -2 -2
